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Prices, rents drop as UK properties hit by new energy efficiency rules

Properties in England and Wales that do not comply with Minimum Energy Efficiency Standards regulations, effective since April 1, are losing sale and rental value, according to local industry analysts.

Under the regulations, which are part of the country's push to reduce carbon emissions, landlords are not allowed to sign or renew leases for properties that require an energy performance certificate, or EPC, and are rated as an F or G. Properties that do not hold an E or above EPC rating — or have an exemption based on specific criteria — must be upgraded before a new lease can be signed.

Leases signed before the April 1 deadline will be not be affected until April 1, 2023, when MEES will be extended to cover all leases, including existing leases, but only if the property is required to have an EPC.

The introduction of the MEES regulations is beginning to have an impact on the market, said Brad Johnson, associate for energy, infrastructure and sustainability at Cushman & Wakefield. "What we're seeing is that compliant properties are certainly holding value whereas those that are not compliant are certainly starting to drop," he said.

Some transactions in the market are subject to "price-chipping" — where buyers demand a discount due to a perceived flaw in the property — according to Andres Guzman, associate director of sustainability at Colliers International.

Guzman cited an example where a buyer interested in an industrial unit sent an energy assessor to establish the property's environmental performance rating. The assessor concluded that the building's entire heating, ventilation and air conditioning system required replacement in order for it to reach the minimum energy performance rating. The cost of this work was then discounted from the industrial unit's original price, he said.

Both buyers and occupiers that have performed due diligence around the introduction of the new requirements are using the situation to "leverage big deals or better deals," said Johnson. "Those that are in the know have certainly been able to utilize that as a mechanism for operational and financial benefit," he said. "Occupiers are starting to get a bit smart in terms of ratings, and anything that is a bit risky when it comes to F or G rated premises, we've certainly seen it go to rent review in the past and the tenants have been able to negotiate a lower rent."

Some landlords who have "left it until the last minute" to respond to the new requirements have lost income as a result, said Guzman. "We're talking about a very short window to understand what needs to be done on that property in order to achieve that minimum rating," he said. "What happens is generally they either have to defer the tenancy or they start thinking about a license agreement [a short-term, more flexible and cheaper arrangement] for a period of time. They'll start changing the strategy and ultimately it's having an impact on income."

The introduction of the regulations has also caused clients operational delays in getting units let during the last month, said Johnson, with one prospective tenancy falling through due to poor ratings.

At the end of 2017, 16.7% of commercial properties in England were rated F or G, with another 16.7% rated E, according to a note by J.P. Morgan Cazenove citing figures from the U.K.'s Ministry of Housing, Communities and Local Government. In the City of London, 18% of commercial real estate falls below an EPC rating of E.

The figures for properties failing to meet the required EPC rating may be even higher than currently estimated, said Johnson. "These E-rated properties could have been assessed in the last 10 years and actually a lot of those ratings, particularly the older [properties] or those that were assessed much longer ago, may struggle to retain that E rating."

MEES regulations, which originate from the Energy Act 2011, were introduced by the U.K. parliament in March 2015 through the Energy Efficiency (Private Rented Property) (England and Wales) Regulations 2015. Scotland, which is a separate jurisdiction to England and Wales, has different but complementary regulations to MEES. Northern Ireland, also part of the U.K., does not yet have similar legislation in place, although there is a draft Climate Change Bill currently under review.