In this article, we'll go through the special conditions and legal considerations that apply when terminating a commercial lease. We also look at the reasonableness assessment and the tenant's right to compensation under section 66 of the ELL, as well as the factors that the landlord must take into account, including the criteria for when a lease is considered a commercial lease and the consequences of termination for both parties.
In business relationships, a tenancy may be business-protected under section 62 of the Business Tenancy Act ("ELL"). If the landlord wants to terminate a tenant, the rules on termination in ELL, chapter 11, apply regardless of whether the lease is commercially protected or not, but the special feature of commercially protected leases is that commercially protected tenants enjoy greater protection against termination under ELL than other tenants.
In addition, the landlord's termination of a business-protected tenancy will entail a mandatory right for the tenant to compensation under section 66(1) and (2) of the ELL, but unlike other non-business-protected tenancies, also a mandatory right for the tenant to compensation for the value of the part of the tenant's clientele that is lost upon vacating under section 66(3) of the ELL.
The subject of this article is the special circumstances relating to the landlord's ability to terminate a commercial lease entered into after the ELL entered into force on January 1, 2000, and some brief comments on the reasonableness assessment related to the landlord's termination of a commercial tenant and the landlord's mandatory right to damages and compensation under section 66(1-3) of the ELL.
Landlord termination rules in ELL chapter 11 generally fall outside the scope and will not be discussed further in the article.
What is a business-protected tenancy?
According to section 62(1) of the ELL, a business-protected tenancy is a tenancy where the tenant runs a business whose continued presence in the property is of significant importance and value to the business.
The wording includes the importance of the location for the tenant's customer base. If the location is not of significant importance for the preservation of the tenant's clientele, the lease is not business protected.
If the tenant's desire to remain in the lease is based on other factors than maintaining the company's customer base, this will not affect the assessment of whether the lease is commercially protected.
In other words, a business-protected lease is a lease from which the tenant runs a business and where vacating the lease due to the landlord's termination is of significant importance for the preservation of the company's customer base. The legislator has given such tenancies slightly greater protection than other tenancies, as these tenants, in addition to having to vacate the lease, also lose part of the basis for the business in the form of loss of clientele.
When is a tenancy commercially protected?
The decisive criterion for whether a lease is business protected or not is whether the landlord's termination and the tenant's vacating the premises has a significant impact on the preservation of the clientele in the tenant's business.
When assessing this, it is of course important which business the tenant runs from the lease. The literature states that "In practice, it can generally be assumed that ordinary shops, restaurants and the like are business protected, while offices, production premises and warehouses are not."
On the one hand, there may be cases where a tenancy is undoubtedly business protected and on the other hand cases where a tenancy is undoubtedly not business protected. These are reflected in the general rule above. However, outside the obvious cases, the assessment is often quite complicated in practice and will always depend on an individual and specific assessment, and it is far from certain that it can be said with certainty whether a tenancy is protected before the case has been adjudicated by the housing court.
For example, the customer base of a general store or restaurant is often the people who live in the immediate area or the people who visit the area where the store or restaurant is located. Here, the location has an impact on the customer base. On the other hand, the location of the tenancy will generally have little impact on the clientele of a mail order company, an online shop or a warehouse, for example.
Outside of the obvious cases, it is often difficult to determine in advance whether a lease is protected or not. There can be difficult borderline cases between different types of businesses, and on top of this, the same business can contain several different branches of importance for the assessment, for example, both a retail part and an internet shop.
In these cases, the factors considered include whether customers use the business due to its location or the company's special characteristics, such as the nature of the business, the owner's personality, and how the company attracts its customers.
In a recent illustrative judgment printed as TBB: 2023.1007Ø, the Eastern High Court upheld the District Court's judgment on the issue of business protection with a single addition. The Eastern High Court thus found that a flooring and curtain business in rented premises was not protected as a business. The flooring and curtain store was located next to a main road and close to a large shopping center. In its reasoning that the location of the store was not of significant importance and value to the business, the district court had, among other things, referred to the fact that 1) the store had a significant proportion of business customers who obtained offers from several suppliers or had flooring work put out to tender, 2) the store's flooring solutions were not purchased by street customers due to the price, but by customers who had selected suppliers from home, and 3) there was no breakdown of the distribution between flooring solutions and other smaller purchases and other products, including curtains, curtain rails, cleaning products and the like. However, it appears from the judgment that the tenant in the case had documented a decrease in turnover for private customers, but not the distribution between flooring solutions and other smaller purchases and products. It is particularly interesting that the Eastern High Court stated that "For the reasons stated by the District Court, and after the testimony of the expert witness, Associate Professor K, in particular that the selection in the shop on X-vej was not of a nature that encouraged impulse purchases, the High Court finds that L has not demonstrated that the shop's location in the property has been of such significant importance and value to L that the lease enjoys protection under section 62 of the Business Lease Act."
The judgment illustrates the above-mentioned loss of clientele, but in addition, the judgment also shows that the burden of proof that a lease is commercially protected lies with the tenant, and that a lease is only commercially protected if the location is of significant importance and value to the company's clientele.
It is also noteworthy that the Eastern High Court uses the wording:
"...that the selection in the store on X-vej was not of a nature that encouraged impulse buying...".
My understanding is that the Eastern High Court in the case would support that it must be the location that justifies the customer base, and it can hardly be concluded contradictorily from this and that a lease is only commercially protected if the goods instigate "impulse purchases".
In addition, it can probably be deduced from practice that if the tenant was aware at the conclusion of the contract that the property was to be demolished within a short number of years, the lease is hardly commercially protected, as it will be presumed that the tenant will enter into a short agreement if remaining in the lease is of significant value to the company.
What are the consequences for the landlord if a tenancy is business protected?
In the ongoing relationship between landlord and tenant, it is of no importance to the parties whether the lease is trademarked or not.
However, if the landlord wants to terminate a commercial lease, it is important for the landlord whether the lease is commercial, as commercial tenants - in addition to the general rules on termination - can only be terminated if it is reasonable based on both parties' circumstances, cf. section 62(1) of the ELL, just as a commercial tenant who is terminated has a mandatory right to damages and compensation under section 66 of the ELL, cf. below.
To a large extent, the rules in the ELL on termination cannot be deviated from by agreement to the detriment of the tenant as long as the landlord has not terminated the tenant. The same applies to business-protected tenancies in addition to the rules in sections 62, 66 and 67(1) and (2). This means that the rules on business-protected tenancies, before the landlord's termination has occurred, are mandatory if they are to the detriment of the tenant and that terms in the lease contrary to the rules will be set aside in the event of a dispute.
Special restrictions on the landlord's right to terminate a commercial tenant
The landlord can terminate the tenant with the procedure and reasons stated in ELL § 61.
A commercial tenant, on the other hand, can only be terminated under section 61(2)(1) of the ELL (when the landlord wants to use the lease himself), (2) (when demolition or conversion necessitates vacating the premises) and (4) (when other weighty reasons make it imperative for the landlord to be released from the lease) if the termination is reasonable based on an assessment of both parties' circumstances.
Thus, the extra protection of commercial tenants really only concerns no. 2 and no. 4, as the reasonableness condition for no. 1 already follows from section 61(3) of the ELL. However, if the landlord wants to terminate under section 61(1)(1) of the ELL, the landlord may not terminate for his own use for the purpose of running a business in the same industry as the terminated tenant. The reason for this is that the landlord must not be able to terminate the tenant and "steal" or "profit from" the terminated tenant's clientele by continuing a use in the same industry.
Whether a termination by the landlord is reasonable is, like the issue of business protection, a specific individual assessment of the tenancy, and according to section 62(2) of the ELL, the assessment of reasonableness must take into account, among other things, how long the business has been operated in the rented premises, the tenant's improvements to these and the value of the clientele.
In the assessment of reasonableness, it will often come into play that the owner's interest (i.e. the landlord's interest in being able to dispose of its property) takes precedence over the tenant's interest (i.e. the tenant's interest in being able to use the landlord's property against payment of rent) and the assessment of reasonableness must therefore generally be expected to fall in favor of the landlord, unless the tenant's interest in remaining in the lease significantly exceeds the landlord's interest in being able to terminate it.
If the tenant has materially breached the lease, for example by violating house rules, the landlord can terminate the lease according to the general provisions of section 61(2)(3) of the ELL - regardless of whether the lease is commercially protected or not. If the tenant is in material breach of the lease, there is no consideration to be given to the tenant - not even for commercially protected leases.
Tenant's claim for damages and compensation under section 66(1-3) of the ELL
If the landlord's termination is justified and reasonable based on the circumstances of both parties, the business-protected tenant has a mandatory right to compensation under section 66(1) and (2) of the ELL and, in addition, compensation for the value of the part of the tenant's customer base lost as a result of the vacancy (goodwill) under section 66(3) of the ELL.
The rules in section 66(1) and (2) of the ELL are declaratory, i.e. they apply to all tenancies unless otherwise agreed. Thus, the rules can - and very often will - be deviated from in the lease, so that the tenant is not entitled to compensation if the landlord terminates the lease. The landlord must therefore be aware that if the lease is commercially protected, such terms in the lease will be disregarded and the tenant will have a mandatory right to compensation. This is relevant, as the assessment of whether a lease is business protected is based on the conditions at the time of termination, and these may be different from the conditions at the time the contract was entered into.
Especially for business-protected tenancies, the tenant - in addition to compensation under section 66(1) of the ELL - has a mandatory right to compensation for loss of goodwill under section 66(3) of the ELL. This compensation is calculated based on the company's annual net profit, unless this would be unreasonable due to special circumstances. As under previous case law, before ELL, the compensation must be calculated according to a standardized calculation, namely as a starting point corresponding to 1 year's net profit calculated according to the average of the net profit in the last 3 years' tax accounts.
However, it is important to note that the tenant has the burden of proof for loss of goodwill as a result of the relocation and that compensation in accordance with the wording of the provision ("the part of the clientele lost") and general principles cannot exceed the actual loss of clientele documented by the tenant.
If it comes to a housing court case, the landlord must also be aware that for commercially protected tenancies, the housing court may stipulate that all or part of the compensation and indemnity must be repaid to the landlord if the tenant reopens a business in the same industry within a time limit set by the court of no more than 3 years and within a distance from the previous premises set by the court, and such that the tenant may not open a business in the same industry within a distance in time and place set by the court until the tenant has repaid compensation and indemnity. In the event that a settlement is reached, the landlord should also be aware of the above so that this is regulated in the settlement agreement.
The provision makes sense, as the tenant obviously should not receive compensation for lost clientele, only to open a business within the same industry in new premises 100 meters down the road. In that situation, the tenant has hardly suffered a real loss in relation to the customer base.
CLEMENS are specialists in termination of a commercial lease and advice on the same.
If you have any questions regarding the article or tenancy law in general, you are welcome to contact us.
(We wrote the article for the magazine Danske Udlejere, May 2024)
