The two largest occupational costs for most businesses are rent and rates, the latter of which is inextricably linked to the former. Rob Cohen and Stephen Jefferies from our Leeds office consider this issue below and the careful balancing act that needs to be struck by tenants.
Rob Cohen, partner in our rating team comments;
“Rates are calculated by reference to a property’s ‘rateable value’ (RV) and a paired back definition for RV is the Rental Value for a property at a fixed date. The fixed valuation date for the current Rating List is 1 April 2015 and the valuation date for the next Rating List is set to be 1 April 2019, less than 5 months away.
The rents agreed by tenants over the coming months are going to form the basis of valuation for their business rates over the coming years.
With the rates multiplier (that results in the amount payable) nearing 50% of RV, a very simplistic way of looking at it is; ‘Occupancy Cost = Rent x 1.5’
The complex web of legislation and case law surrounding business rates means that in some instances this may not be true, such as transitional phasing capping the amount rates bills can increase / decrease for certain properties, however it remains that it is rents that underpin the amount of business rates paid on a property.
This equation has been of great significance in London for the current Rating List, especially in the retail sector. A lengthy previous Rating List (that ran from April 2010 to March 2017), meant that rates were based on very historic rental values and resulted in some rents being agreed at inflated levels as a consequence of disproportionately low RVs. Low rates outgoings meant that occupiers could afford to pay a high initial rent.
Since the business rates’ valuations have caught up, giant increases in RV will see annual rates bills nearly tripling for some over 3 years; even after transitional phasing. Retail assessments in St Pancras Station increased by around 400%, Portobello Road assessments increased approximately 300% and Westfield Shopping Centre was up circa 250%.
This may be seen as old news but an illustration of the balancing act in practice. Future planning and expert property advice are important for all occupiers in order avoid pitfalls that could have drastic consequences further down the line and jeopardise a company’s viability.”
Stephen Jefferies, partner in our lease consultancy team adds;
“Occupiers might be concerned in these uncertain times about incurring costs associated with professional fees but it is important to remember that an unjustified rental uplift of just £500 per annum will result in an additional rental liability over a 5 year period of £2,500 (more than the likely cost of initial professional advice) and that a throwaway nominal increase can also limit the ability to negotiate a reduction in the rating assessment.
Occupiers sometimes look to take the quick and easy option when their business is performing well, by doing a deal directly with the landlord and chipping him down a little bit on the quoting rent, rather than seeking professional advice and agreeing a rent in line with the wider market evidence. This then becomes a problem when the market turns. Not only because the business ends up paying a higher rent than other occupiers in the locality and potentially a higher rates liability, but also because the occupier may struggle to assign or underlet their lease to a new occupier if needed.
We always advise our clients no matter how well they are doing, to carry out the appropriate due diligence when dealing with a lease renewal or rent review to make sure they are paying the market rent in a specific location.
Where market values are not tracked, it results in inflated rental growth and this is further exacerbated by fast growing retail and restaurant operators, who have agreed sale and lease back transactions at rental levels to maximise the sale price and based their agreed annual rent on demographic trends and expected sales performance modelling, which has had limited long-term regard to new entrants to the market and increased staffing costs. This in turn has ultimately proved to be unsustainable in a lot of cases.
The knock-on consequence of this is the establishment of open market evidence, which results in the VOA assessing rateable values at higher levels and then impacts on remaining occupiers in these locations.
Hopefully shorter and more flexible lease terms and the shorter Rating Revaluation periods that are set to come in from 2021 will enable occupiers to overcome the hardship they are currently facing but it remains of great importance that they remember to carry out the appropriate professional due diligence when agreeing the rental terms on their premises”.