Case warns against inflating commercial insurance costs

In leasing commercial property, a tenant is often required to pay the landlord's costs for insuring the building. This payment, sometimes referred to as insurance rent, is a typical feature of full repairing and insuring leases, and is designed to ensure the property remains adequately protected and that the associated administration is efficient.

Despite this, there is potential for disputes to arise if there is insufficient transparency in the way insurance costs are passed by the landlord on to the tenant. A recent High Court decision renewed scrutiny on the legitimacy of insurance charges, limiting the landlord's ability to recover such costs from the tenant.

The terms of the lease required the company to pay insurance rent based on the premium payable by the landlord, London Trocadero (2015) LLP, for insuring the building. It had obtained insurance for the entire centre under a group-wide block policy from 2015 to 2023, which covered properties across its £4bn portfolio. 

Insurance brokers received substantial commissions for arranging this policy, while a portion of the insurance commission was rebated to the landlord's managing company, CCL. This rebate, effectively a form of income or landlord's commission, was included in the overall premium charged by the landlord to the tenant.

The tenant paid insurance rent invoices, but later counterclaimed for the return of overpayments on the basis that commissions rebated to the landlord did not fall within the meaning of 'premium payable' under the lease and should not have been passed on. It argued that the insurance was structured in such a way that the landlord yielded a profit rather than merely recovering costs.

In a commercially nuanced judgment, Mr Justice Richards held that insurance commissions rebated to the landlord could not properly be treated as part of this premium. The term 'premium' referred to the net cost incurred by the landlord to secure cover from the insurer, not inflated amounts that included profit elements.

The judge determined the following facts.

• The landlord actively negotiated for high commission levels to be paid to brokers, knowing a substantial portion would be rebated to the managing company.
• The rebates were a form of revenue for the landlord group, and their inclusion in insurance rent was not contractually justified.
• The commissions increased the total insurance premiums, meaning that the landlord was able to recover more from tenants than the net cost of insuring the premises.

As the judge clarified, tenants are liable only for genuine third-party costs, not for amounts structured to benefit landlords financially. Charging more than the actual cost of insurance cover in order to generate a hidden profit is not permissible.

• Importance of lease drafting: landlords must ensure that insurance rents passed to tenants in the lease reflect the actual cost of premiums paid to insurers, and exclude rebated commissions and unrelated charges. Likewise, landlords that wish to recover wider insurance-related costs, including commissions or fees, must ensure explicit wording is used in the lease to this effect. Terms such as 'premium payable' will be construed narrowly by the courts, in the tenant's favour.
• Block policies: the case highlights the complexity of block policies. While these offer administrative convenience, the method of apportioning premiums and handling commissions must be transparent and defensible under the wording of the lease.
• Risk of tenant claims: the case may prompt commercial tenants to review historical insurance rent payments and pursue overcharge claims, particularly where brokers' commissions were shared with landlords.

Insurance rent provisions are not an open-ended licence for landlords to pass on inflated or undisclosed costs to tenants. Precision and transparency in lease drafting will now be more important than ever. 

In light of this case, landlords and tenants alike are encouraged to revisit their lease terms and review the provisions related to insurance. In doing so, this will reduce the likelihood of disputes and perhaps lead to more equitable commercial agreements.