Dixcee Fast
- Partner
Insights | Commercial Property
Option for Lease Agreements – our top tips for landowners
16 August 2023
What is an Option for Lease and why does it matter?
An Option for Lease is a binding legal contract between two parties, the developer and the landowner. This contract, given by the landowner in favour of the developer, grants an exclusive right for the developer to pursue their intended energy project or development during what’s known as the ‘Option Period’. The developer is granted limited rights over the land subject to the option (‘Option Area’) to assess the feasibility of the land for their intended energy project and, if found to be feasible, to seek planning permission.
The Option Agreement also provides the developer a right to enter a Lease with the landowner upon obtaining the required planning permission, by way of an Option Notice. Once an Option Notice has been served by the developer, the landowner is bound to grant a Lease over a section of their land, creating a real right in favour of the developer. At this stage, construction of the energy project may commence.
Duration
Depending on the nature of the intended project, an Option Period can last between roughly 1-10 years. Additionally, many developers will look to incorporate a right to extend if there’s a delay in obtaining planning or a planning decision is appealed. Landowners can often negotiate an ‘Extension Payment’ to be made by the developer should this occur. This ensures the developer will not lose the exclusive right to pursue the project and the landowner is properly remunerated for such extension.
Draft Lease
When the developer successfully secures planning permission, they will issue an Option Notice intimating to the landowner that they must grant a Lease in the developer’s favour. As the landowner will be bound to grant this Lease indirectly from the point of entering into the Option, they need to know the terms of the prospective lease. To address this, the draft-form Lease is negotiated concurrently with the Option Agreement and – following agreement between the parties – is annexed to the Option Agreement.
What does the developer need from the Option Agreement?
There are a number of key terms the developer will likely seek to incorporate into an Option Agreement, as follows.
Rights over land
Fundamentally, the developer will require rights over the landowner’s property including the main site, an access route from the site to the public road network, and often, extra land to connect the project to the grid through a cable route. During pre-planning, the specific land required will be subject to planning requirements and granted permissions. The developer usually seeks to take their Option Agreement over a larger area, to give greater flexibility for their intended project. Latterly, the developer will request a Lease over an area covering only their lease requirements, to reduce their overall liability for the landowner’s property.
Funder’s Requirements
Often, the developer will require funding to facilitate an energy generation project of this level. To make the project a sound investment to any funder, the Option will contain obligations on the Landowner to comply with the funder’s requirements. In case the developer becomes insolvent or breaches contract terms, the Option should contain ‘step-in’ rights, allowing the funder to effectively take the developer’s place in the agreement.
Alienation Rights
The developer entering into the Option may not intend on entering the subsequent Lease following planning permission being granted. Having the Option to seek planning permission and then enter into a Lease for the energy project acts as an asset for the developer, which they may intend to then sell on. To facilitate this, the Option Agreement will include ‘Alienation’ provisions, allowing the Developer to transfer their interest in the Option either to a group company or funder (in which case no profit is being made) without the landlord’s consent. Alternatively, where the developer intends to sell their interest to a third party and gain a profit, they’ll likely need the landowner’s consent and may have to pay a one-off assignation fee for this right.
Security over property rights
As purely contractual agreements, an Option for Lease doesn’t create real rights and cannot be registered in the Land Register of Scotland. However, wise developers should ensure they have a form of real right over the landowner’s Property (in the event the landowner disposes of their interest in their land), by way of a Standard Security. An agreed-form Security is annexed to the Option for Lease which also obliges the landowner to grant such Security in favour of the developer and provide an executed copy at completion of the Option for Lease. This will allow the developer to register their real right and interest in the landowner’s land with the Registers of Scotland. With this protection, should the landowner sell or otherwise dispose of their interest in their land, the prospective purchaser is bound by the pre-existing security. Any relevant third party must either request that the Standard Security is discharged or consent from the developer is obtained to any onward sale or lease.
What should the Landowner look for in the Option Agreement?
In exchange for granting the developer the above terms, the landowner should ensure they retain certain rights within the Option Agreement.
Return for the temporary use of their land
The landowner can expect to see a return for providing the opportunity of future development to the developer, notwithstanding the Option Notice may not be acted on and actual occupation may never take place. This is often through a financial payment or ‘Option Fee’, which is frequently non-refundable. Option Fees can be effectively negotiated via land agents and surveyors. Where specialised equipment is needed to facilitate the developer’s feasibility studies (such as temporary anemometer equipment to measure wind speed or LIDAR equipment for the measurement of solar activity), an additional sum should be sought from the developer to the extent that the required land is outwith the Option Site.
Ability to continue using land for agricultural purposes
While the financial remuneration under both the Option Agreement and Lease Agreement can significantly outvalue the current financial income generated by agricultural use, the Option Period often permits the landowner to continue using their remaining Property for agricultural purposes. This means, where a particular area has been identified for use under the Option, this land can lie fallow while the remaining neighbouring areas continue to be used. Careful drafting of the Option and Lease Agreements can also ensure compensation is paid in the event of damage to crops or loss of farming subsidies. This ensures the landowner is not left worse-off by their participation in the Option.
Reinstatement Provisions
Even though the Option Period will not entail significant physical alterations to the land, if the developer does not ‘step through’ to the Lease stage of the project, the landowner will want their property to be returned to the condition it was in prior to the feasibility studies. Any boreholes drilled or ditches hollowed ought to be reinstated (insofar as is possible). Where this is not possible, the landowner should seek appropriate financial compensation from the developer. To enforce this obligation, parties may wish to agree a record of condition over the landowner’s Property. This record will accurately detail the condition of the Property prior to any works being undertaken and provide an agreed-upon baseline for the reinstatement of the landowner’s property.
A ‘cut-off’ date for Planning Application
Notwithstanding the Option Period is likely to be granted for a period between 1-10 years, the landowner will want to ensure that their property cannot be ‘mothballed’ and the Project left static during this time. To oblige the developer to apply for planning in good time, the landowner may incorporate a reasonable ‘cut-off date’ for this, while still allowing sufficient time for the viability of the site to be assessed. The landowner should avoid being too restrictive however, as this could place the entire project at risk.
What other ancillary documents are needed?
There are three other document types which may be worth considering, depending on the details of your development. Exclusivity agreements, substation leases and deeds of servitude can all be useful tools for both landowners and developers. We highly recommend consulting an expert to determine whether these are required for your project.
If you have questions relating to any of the points raised in this article, please contact Dixcee Fast.
You may also be interested in the following articles: