Energy Cost Hikes to Have Significant Impact on Tenancies, Affect Landlords and Tenants

Landlord’s Perspective

For landlords, the increase in energy costs could have a direct impact in three areas: (i) temporarily vacant premises (including premises not yet let), (ii) common areas, and (iii) leased premises where the tenant has no direct contract with the utility service provider; hence the invoices are prepaid by the landlord.

(i) Vacant Premises

Since the costs of vacant premises remain payable by the landlord, it is in the landlord’s interest to keep vacancy rates low and the duration of any vacancy as short as possible, as this reduces the property’s economic viability for the landlord.

(ii) Common Areas

The energy costs incurred in common areas, along with the costs of other services relat-ing to those areas (reception services, etc.), are typically charged by the landlord to the tenants at the end of the year in question.

To minimize the prefinancing of these costs by the landlord, an estimated advance pay-ment for service charges is collected from the tenant. The advance payment is set by the landlord at the beginning of each year and remains the same throughout the year.

In the absence of an express provision in the lease, the landlord cannot change the ad-vance payment during the year. This means that landlords now have significant prefi-nancing requirements due to the current drastic change in the actual costs versus the ad-vance payments estimated and set for 2022. The risk of settling these prefinanced amounts at the beginning of 2023 will also increase since the collateral for the tenant’s payment obligation is typically set as the actual (i.e., 2022) amount of the rent and ser-vice charge advance.

To mitigate the landlord’s risks and costs, the advance payments can be increased now by mutual agreement if the tenant is willing to do so.

For landlords that have not done so, it is advisable to include a clause in all future leases stating that they can unilaterally increase the service charge advance payment in the event of a significant change in any circumstances.

(iii) Prepaid Energy Consumption

If the landlord and not the tenant has a direct contract with the utility providers, the land-lord will pay the incoming bills and pass them on to the tenant. Due to the increased en-ergy costs, the time for settling these prepayments by the landlord will be decreased, or the landlord will require advance payments for such energy bills.

An indirect consequence of rising service charges is landlords will have to invest in mak-ing their properties more energy efficient to remain competitive; otherwise, tenants may seek alternative properties with lower service charges.

Tenant’s Perspective

As a direct result of the increase in energy costs, tenants’ costs will increase significantly: rents, service charges and collateral will go up. The service charges in specific properties may even exceed the rent.

All rents are likely to rise at the beginning of 2023 since leases typically contain an index-ation clause allowing the landlord to increase the rent each year based on the actual change in the consumer price index.

Based on standard provisions in leases, the collateral (security deposit or bank guaran-tees) provided earlier by the tenants will also need to be adjusted at the beginning of 2023 since the collateral is tied to the level of applicable rent and service charges.

In these circumstances, tenants will rationalize and save costs where possible: they will review whether they can take less space (where possible, even using a combination of office-based and remote working). In such cases, the vacated space may be sublet if the lease allows this or if the landlord explicitly agrees.

This article was first published in the Budapest Business Journal print issue of October 21, 2022.