Index Linked Rent Reviews

Index Linked Rent Reviews

by Raymond Cooper Consultant Property Lawyer on September 24, 2012

  • Sumo

Index Linked Rent ReviewsProposition:  It is not safe to grant leases under which the rent is reviewed at intervals solely by reference to the Retail Prices Index (or the Consumer Prices Index).

Volatility in market rents has in recent years caused landlords of commercial property to look at alternative means of rent review, one of which is to require reviews at regular intervals in line with movements in the RPI or CPI (almost invariably on an upwards only basis).

Some of these clauses are drafted on a “higher of” basis i.e. the rent is reviewed to the greater of the indexed increase or open market value.  Indeed, there are many variations; I have seen leases which contain a mixture of review bases i.e. perhaps indexation at the first review and market value at the second, etc.

Even where the “higher of” basis is used, the index figure needs to be calculated and this is where the issue becomes problematic.  The trap is well illustrated by an article in The Times on the 19th September 2012 headed “Review of retail prices index could save Osborne billions”.  The Economics Editor (Sam Fleming) reports:-

Pension funds were put on alert yesterday as government statisticians paved the way for an overhaul of inflation measures that could shave billions of pounds from interest payments on holdings of gilts.

Jil Matheson, the National Statistician, will consult on options forimproving the retail prices index, the benchmark used in inflation-protected government bonds” ”.

George Osborne

Indices based on an across the board sample of retail prices have always been political, and have never seemed to me to be an appropriate  way of reviewing the rent payable under a lease of commercial property (although I am told anecdotally that at least one major London landlord – the Cadogan Estate – now offers indexation as the basis of review in all leases).

My doubts centre on the fundamental purpose of rent reviews.  They are often said to be included in leases to protect the landlord from the effects of inflation, but I am not sure that is wholly accurate.  I think the best judicial statement of the purpose of a rent review comes from Sir Nicholas Browne-Wilkinson V-C in the case of British Gas Corp v University Superannuation Scheme Limited [1986] 1 All ER 978.  The Vice Chancellor said;

there is really no dispute that the general purpose of a provision for rent review is to enable the landlord to obtain from time to time the market rental which the premises would command if let on the same terms on the open market at the review dates.  The purpose is to reflect the changes in the value of money and real increases in the value of property during a long term.

An indexation based review certainly protects the purchasing power of the landlord’s rent, but it does not do what a rent review clearly should do; i.e. bring the rent into line (almost invariably on an “upwards only” basis) with rental values prevailing at the time of review.  To that extent indexation alone really defeats the purpose of rent review (again, some landlords manage to get away with a “higher of” basis but as I have said that remains problematic in that it requires the indexation calculation to be made).

Shopping BasketThe practical problem can be very simply stated; what happens if, before the relevant review date, the government changes the basis on which the selected index is calculated?  I will deal below with the way in which published precedents seek to answer this, but it may be useful first to add a few words about the differences between, and history of, the RPI and the CPI.  For a more detailed statement, those interested might like to refer to the Office for National Statistics (ONS) publication “History of and Differences between the Consumer Prices Index and Retail Prices Index” (which can be downloaded here).  The following brief comments were gleaned from that document.

Historically, an interim Retail Prices Index was introduced in 1947 and made official in 1956, but the first official index of consumer prices was actually introduced in 1914.  Even before that, there were measurements of consumer price inflation; the ONS document has some very interesting material on this.  The RPI as we know it today really originates from 1947, when a Cost of Living Advisory Committee produced an interim report and the Interim Index of Retail Prices which resulted began in June 1947 and continued with minor modifications to 1956.  By 1955, sufficient information became available to underpin a new index and this became the first official Retail Prices Index beginning in January 1956.

A new RPI Advisory Committee was convened in the early 1980’s.  This produced a wide ranging report which led to many changes to the definition, scope and coverage, the treatment of subsidies and discounts, and the treatment of owner-occupiers housing costs.  There were further Advisory Committees during the 1980’s and 1990’s.  Between 1995 and 2008, a number of changes were made in the calculation methodology and finally new arrangements for the governance of what was then the RPI were established by the Statistics and Registration Services Act 2007.

The CPI has a much shorter history than the RPI.  It was first introduced in 1996 as the Harmonised Index of Consumer Prices (HICP).  HICPs were developed across the European Union for the purpose of assessing whether prospective members of the European Monetary Union would pass the inflation convergence criteria, and of acting as a measure of inflation used by the European Central Bank to assess price stability in the Euro area.  What the EU was looking for was a consistent measure of inflation across Europe in order to make reliable comparisons between EU member states – not generally possible using the RPI and the historic National Prices Indices in other Member Estates due to differences in index coverage and construction.

In December 2003, the National Statistician decided that the name of the UK version of the HICP would be changed to the Consumer Prices Index in all National Statistics publications.  The ONS document lists nine changes which have been made to the CPI since its introduction.

The point of including this historical material is to demonstrate that both indices already have a history of periodic change, and to provide a background for a brief look at the differences between the RPI and the CPI, and how they impact on the use of either index for the purposes of rent review.

Again, to save space I refer readers to the ONS document but the principal and the most well known differences between the two indices is that the CPI excludes the following housing related items which are included in the RPI:-

– mortgage interest payments;
– house depreciation;
– buildings insurance and ground rent;
– house transaction costs such as estate agents’ fees, home buyers’ survey costs and conveyancing charges;
– council tax

The CPI also excludes television and road funds licences on the same basis as it excludes council tax (i.e. they are considered to be taxes and do not constitute household final monetary consumption expenditure under national accounting rules).


Again, for more information about the differences, I refer interested readers to the ONS document, but I think I have said enough to make it clear why landlords tend to favour the RPI – the RPI simply tends to rise at a higher rate than the CPI.

Coming back to the main point of this post, the real question remains; it is clear that we are looking at changes in one or both indices, so how can a rent review clause accommodate these changes?

The normal drafting approach is to provide that if the basis of calculation of the selected index has changed, then the rent calculation is made on the basis of the index as it was before the change.  If the change is a simple exclusion of one item then this might work for a single rent review under a short lease, but in the case of a longer lease with multiple rent reviews (and I have seen long ground rent leases which use indexation as a basis for review) it all becomes highly problematic to the point where it may be virtually impossible for the parties (or an arbitrator or independent expert) to make the calculation.  At the very least it is likely to lead to disputes on each review date.

Examples of this approach can be found (for subscribers) in the Practical Law Company document “Index rent review clause based on RPI, clause 1.7/1.8; the Encyclopaedia of Forms and Precedents (Butterworths) Volume 22(3)A;  and Ross on Business Leases (Butterworths) (Precedent 28).  The PLC and Ross precedents both take this method a stage further by providing that if it becomes impossible to calculate the rent by reference to the Index (which is the situation I have just envisaged) the question is referred to an arbitrator who is to determine “a reasonable rent for the Premises”.  I do not really see how this works without some more guidance to the arbitrator on the basis on which he should look at the question; if the arbitrator is a surveyor then he will almost certainly look at market value (I am in no way criticising the authors of these precedents as they are dealing with a rent review based on indexation only without alternatives and have really gone for the only option).

Conclusions :

(a)   linking the rent under a lease to the RPI (and I note that all of the precedents referred to above use the RPI and not the CPI) is not consistent with the fundamental purpose of rent review; and

(b)   it is unsafe for leases for any significant period of years to rely only upon the RPI or CPI as the basis for review; even providing for the higher of the indexed figure or open market value is problematic as the indexed figure will still need to be calculated and this is likely to prove difficult or impossible where the calculation basis has been changed.

Raymond Cooper is a Consultant Property Lawyer 

Raymond Cooper Consultant Property Lawyer
I am a senior property lawyer, formerly an equity partner and head of commercial property with a well-known and highly respected central London legal practice, Farrer & Co LLP. I have continued to be available to my previous practice as a consultant, but not on an exclusive basis; I operate independently on a freelance basis and am available to take up other opportunities as they arise. After more than 45 years of handling a large and varied caseload, I want to focus on specific projects where my experience can help achieve visible results. I am flexible about what form these opportunities might take, but some possibilities might be: Acting as a consultant to firms of solicitors or other professional practices; Non-executive directorships or advisory board memberships of property companies, corporate occupiers, or institutions; Membership of tribunals, or governmental or local authority or other non-corporate bodies; Research and publication; Acting as an expert witness or independent expert.
Raymond Cooper Consultant Property Lawyer

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