Disrupting property investment decisions – Minimum Energy Efficiency Standards

The Energy Act 2011 contains provisions for the letting of both commercial and residential property, in England and Wales. Of particular note is the Minimum Energy Efficiency Standards. The impact of these regulations is that there will undoubtedly need to be some physical works, which will involve capital expenditure to improve the energy performance of the building. The extent of the works and cost will need to be assessed on a building by building basis. There is also a consideration that the property value will be affected. Below is a summary of the regulations:

Scope and Time Frame

  • 1 April 2016 – residential tenants will be able to request landlord consent (which cannot be unreasonably withheld) to prescribed energy efficiency improvements unless certain exemptions apply or the landlord proposed alternative energy efficiency improvement measures
  • 1 April 2018 – it will be unlawful to grant new leases (including lease renewals and sub-leases) of residential or commercial property with an EPC rating of F & G
  • 1 April 2023 – existing leases (including sub-leases) will now have to comply with the minimum energy efficiency standards (i.e. all residential and commercial property will need to have an EPC rating of A – E)

Exemptions

  • Leases that are less than 6 months or greater than 99 years are excluded from the Minimum Energy Efficiency Standards.
  • Buildings that are exempt under the Energy Performance of Buildings Directive would also be exempt from the Minimum Energy Efficiency Standards. This currently includes the following:
    • Temporary buildings with a life time of 2 years or less
    • Stand-a-lone (i.e. detached) buildings of less than 50sqm
    • Listed Buildings
    • Industrial sites, workshops and non-residential agricultural buildings with a low energy demand
    • Buildings that are due to be demolished and where a clear intent to demolish can be demonstrated (e.g. planning consent)
  • Landlords can demonstrate the following, but they will need to provide evidence that will need to be registered on the Private Rented Sector Exemptions Register for a period of 5 years:
    • The improvement measures identified in the EPC would not be cost-effective either within a 7 year payback or does not meet the Golden Rule under Green Deal
    • Consents from tenants, lenders or superior landlords to install the required energy efficiency improvement cannot be obtained, despite reasonable efforts being made by the landlord
    • The value of the property will be reduced by 5% or more. This will need to be provided by a suitably qualified expert, such as a Chartered Surveyor
    • The installation of insulation measures to the building fabric will be detrimental and cause damage to the property

Enforcement & Penalties

  • Local Authorities Trading Standards Office will be responsible for enforcement and to ensure compliance.
  • The penalty for non-compliance will be determined by the degree of infringement and length of period of non-compliance.
  • Non-compliance could be made public to encourage compliance with the regulations.
  • Penalties could be cumulative – see below:
Infringement

Penalty

Providing false or misleading information to the PRS Exemptions Register

£5,000

Publication of non-compliance

Failing to comply with a compliance notice from a local authority

Renting out a non-compliant property

<3 months non-compliance

>3 months of non-compliance

10% of rateable value with min £5,000 penalty and max £50,000

Publication of non-compliance

20% of rateable value with min £10,000 penalty and max £150,000

Publication of non-compliance

Appeals

  • Landlords will have the opportunity to lodge an appeal against the issue of a penalty notice.

Commentary

MEES is applicable for properties that already have an EPC and where one is required under the current regulations. This will include the Energy Performance of Buildings Regulations where an EPC is required on the sale, letting and construction of the property, in addition to those buildings where applications for Feed In Tariff, Renewable Heat Incentive and Green Deal Finance have been made. So in effect any property for which an EPC exists on the EPC Registers will be captured by the Minimum Energy Efficiency Regulations (MEES).

There will undoubtedly be an impact on the property investment whether it be on the rental or capital value. Where a building is exempt from the MEES, the investment value could still be at risk, due to the greater focus being put on the EPC and other, more energy efficient buildings become more attractive.

The costs of non-compliance can be quite considerable. The experience from the enforcement of the Energy Performance of Buildings Regulations has been quite poor and there is an argument to suggest not much will change under MEES. However, we do not advocate that the MEES be ignored and indeed it will undoubtedly be the property agents and legal advisors who will have a duty of care to ensure that the regulations are being complied with.

We are approaching the first anniversary for the renewal for those initial EPCs. For residential properties the EPC was first introduced in 2007 and for commercial buildings 2009. So with a 10 year validity period, the anniversaries are 2017 and 2019 respectively. The methodology used for producing the EPC and the conventions for the data collection has changed quite considerably over the years. The impact of this being that an EPC produced in 2007 or 2009 will have an asset rating that is much better than if it was produced today, given that no changes have been made to the property.

To understand the risk to your property portfolio, we advise that you take action now to firstly identify which properties already have an EPC and which do not. To engage with a qualified Energy Assessor who can work with you to review the EPC documentation, identify which properties would be most at risk and to set out a strategy for undertaking a cost effect review.

We strongly believe that to get the best out of the EPC assessment process, engagement with not only the Energy Assessor, but also other experts such as mechanical and electrical consultants and lighting consultants, similar to the process for a new build property. In most cases changes to the building services will have more of a positive impact on the EPC than making improvements to the building fabric. Modelling the changes before implementing will be critical to avoid unnecessary expense or even damage to the property.

Desktop modelling of the options for energy efficient improvements will be a key part of the process. This will provide more clarity on which improvements will present the best outcome in terms of cost and payback, but also whether there would be any impact on the rental or capital value.

Obtaining tax advice will also need to be part of this process, especially with capital allowances.

The tenant will undoubtedly need to be involved in the process so that any proposed improvements do not adversely impact on their operation, use and enjoyment of the building. It is likely also that advice will be required from both parties (landlord and tenant) legal advisors.

In short, there will without doubt be a cost to landlords. Through careful planning and evaluation of the options with a good team of consultants, the costs can minimised. There may not always be an immediate improvement in the asset value, directly associated with the energy efficiency improvements. However, avoiding the risk of enforcement action and costly fines for non-compliance must play a significant role in the process. The potential for a property asset value, marketability and letability over the longer term will be more significant the cost of occupation becomes part of the occupier’s decision making process and as investors look more closely at the environmental credentials of their property investment strategy.