Commercial Property EPCs and Capital Allowances

What Jacob Wood has to say…

Introduction:

I bumped into Louise Barth recently at a Luton networking event and amongst other things, we got chatting about EPCs in relation to commercial property (which was probably initiated due to the cold weather). Our conversation developed to how new legislation will likely significantly impact the selling and letting processes of commercial real estate.
Louise then expertly advised that certain expenditures involved in improving a commercial property’s EPC rating are claimable so far as Capital Allowances are concerned, which sparked the idea of producing a joint report of this nature. The purpose of this report is to briefly outline commercial EPC ratings and respective Capital Allowances for the benefit of real estate professionals, investors, occupiers, etc.

EPC Overview:

Firstly, let’s broadly discuss what EPCs are and why they are important. An EPC (Energy Performance Certificate) is a rating of how energy efficient a property is; catagorising properties from ‘A’ (being the most efficient) to G (being the least efficient). Such catagorisation is important as more efficient properties will require less energy to run, whereas less efficient properties will require more energy to run, which any occupier will need to account for as part of their business running costs.
Furthermore, ever increasing importance is being placed on environmental sustainability and a property’s energy efficiency plays a key role in the burden it has on the environment. More on this later…

Minimum EPC Requirements:

Whilst some commercial properties can gain exemption, Minimum Energy Efficiency Standards (MEES) stipulate that in order to implement a sale or a letting, a commercial property must have a minimum EPC rating of ‘E’.
Come April 2023 however, legislation will change meaning that in addition to all new leases requiring the property to have a minimum rating of ‘E’, all existing properties subject to tenancies will need to be rated at least EPC ‘E’ too. This renders properties falling below EPC ‘E’ unlettable, unless exempt.
As well as the new legislation outlined above, The Government are keen to impose stricter laws and more ambitious requirements going forward, requiring commercial properties to have a minimum EPC rating of ‘B’ by 2030. This is in an attempt to reach net zero emission goals. The reality is that this will be a very challenging goal to meet.

Impact on Commercial Property:

The Government estimates that 18% of the UK’s commercial property falls within the ‘F’ and ‘G’ brackets of EPC rating and will therefore be unlettable come April 2023, which will be of major concern to commercial real estate investors. Indeed, Bedfordshire based commercial property agency S.R. Wood & Son are already experiencing circumstances whereby clients’ commercial property transactions are being delayed due to sub-par EPC ratings. Given the new MEES requirements which come to effect in April 2023, it is anticipated that more disruption will follow as many properties are already let, some of which will fall below EPC E.
In lieu of this, property owners really ought to take responsibility for the sustainability of their buildings and if their properties have been left to fall below standard, now is the time for improvement.

Conclusion:

EPCs and more broadly energy efficiency underpins the environmental sustainability of the property industry and in order to strive towards a greener future, these are matters of significant importance.
Whilst improvement works may come at a substantial cost and indeed a surprise to unaware commercial property owners, fortunately there are ways by which they can improve their property’s EPC rating in order to effect a sale or letting. Such expenditures may be claimable so far as Capital Allowances are concerned, as Louise will now highlight…

What Louise Barth has to say…

The Current Situation:

I can understand why landlords just want to bury their heads in the sand right now. The looming deadline to comply with the minimum energy efficiency standards (MEES), shifting rental demands and rising costs would be daunting for anyone.
Yes, owning and maintaining commercial property is costly and upgrading ageing property to meet the new standards doesn’t come cheap. As outlined by S.R. Wood & Son, failure to do so will render buildings unlettable. Not to mention the loss of valuable rental income.

The Good News:

The good news is that much of the capital expenditure needed to get properties back up to a lettable standard is tax deductible. There are a number of property specific tax breaks like capital allowances and land remediation relief available.

Leave it to the Expert:

In my experience most business owners are vaguely aware that they can claim some of their expenditure back. They know they can claim on furniture, carpets, and air conditioning because that’s what gets talked about most, but their understanding stops there. In the main they leave it to their business advisors to deal with it further down the line when it’s time to file the tax returns.
This approach doesn’t give landlords a clear line of sight to the savings achieved and the ‘actual’ cost of their investment. I really don’t think building owners fully appreciate the scope or value of capital allowances in a refurbishment project and are missing out.
When a commercial property undergoes a refurbishment aimed at bringing it up to a suitable EPC standard it will include many work packages. For example, replacement of the LED lighting, installing a new energy efficient boiler and comfort cooling, upgrading the WC facilities, putting in some carpets, double-glazed windows, solar panels and thermal insulation in the roof. All these works are designed, engineered and the site must be protected with hoardings and the rubbish removed. All this expenditure is tax deductible, not just the carpets and furniture. Worthy of a mention here is asbestos removal expenditure. This has its own set of rules and a generous tax break to ensure it is disposed of responsibly (land remediation relief).
The capital allowances rules are complicated, and they change after every budget but with the right professional support, valuable, low risk claims can be made on historic and planned investment expenditure. Currently companies will reduce their tax liabilities by 19p/£1 and an individual investor 45p/£1 spent. In addition to these initial tax savings there will be a reduction in the running costs and energy bills well into the future which will help business owners meet their ESG and sustainability targets.