(Some) clarity has arrived on MEES for larger commercial buildings

After five years, several governments and a long silence, the UK Government has published an *interim* response on its consultation into Minimum Energy Efficiency Standards (MEES) for the non-domestic Private Rented Sector in England and Wales. Although it is very light on detail, it provides a clear direction of travel.

What’s confirmed

• From 2031, all privately rented buildings over 1,000 sqm must reach an Energy Performance Certificate (EPC) rating of B, “where cost effective”.
• There will be no ratcheting requirement for smaller buildings for the time being, where the current minimum EPC E rating will continue to apply. It could be inferred from the wording of the update that this may be changed in the future.
• The previously proposed milestone of EPC C rating by 2027 has been dropped, easing near-term compliance pressures.
• The seven-year payback test (whereby, if energy savings over a 7-year period do not cover the cost of the recommended improvements, the property remains legally lettable) and other existing exemptions remain in place.

The Government’s impact assessment estimates savings of up to £360 million a year for occupiers of these large buildings through reduced energy bills.

What’s still up in the air

There is considerable detail to be confirmed. Some of the notable clarifications needed include:

• Whether this new MEES threshold would apply only to new lettings and lease renewals from 2031 (which was the basis for the first vintage of the MEES requirements in 2018), or whether it would apply as a ‘continue to let’ requirement, in the same way as the current minimum standards have done since 1 April 2023. We assume the latter.
• How the floor area threshold would be applied in the context of leased demises that individually fall below 1,000 sqm, but which are situated in buildings whose total area exceeds 1,000 sqm. We assume that the new requirements would affect the letting and sub-letting of smaller units within a building exceeding 1,000 sqm.
• How potential future changes to the format of non-domestic EPCs regime would interact with the MEES regulations: while in March it was confirmed that that non-domestic EPCs will maintain the single Environmental Impact Rating as the headline metric for the time being, new primary or secondary metrics may be considered over time.
• How updates to MEES requirements may interact with the ongoing review of the 1954 Landlord and Tenant Act by the Law Commission, particularly with respect to possible grounds to oppose a renewal of a protected tenancy under section 30(1) Ground F (where the owner intends to redevelop the premises). A consultation on modernising this Act is currently open and includes exploration of the option to specifically reference the MEES regime within the Ground F test.
• When the secondary legislation, on which the changes depend, will be introduced.
• When the UK Government’s full response will be published!

Why it matters

The headline implication is a clearer compliance horizon for owners and managers of, and debt providers for, larger non-domestic property assets.

For responsible investors, managers and lenders who’ve been anticipating these escalating compliance thresholds and preparing their portfolios accordingly, this news will be welcome validation of their actions; it levels the playing field for the wider market.

For those owners and manages that have been less proactive:

• There will be greater urgency to re-assess underwriting assumptions, and to plan, fund and deliver asset-level improvements to achieve compliance
• Lenders may need to re-evaluate risk concentration and credit analysis
• Whilst the five-year run-up to the 2031 compliance deadline provides an opportunity for readiness, asset business plans, and leasing and hold/sell decisions should be factoring in these forward-looking requirements from now

The liquidity, financing and value-correction risks facing buildings that aren’t on track to achieve EPC B by 2031 will very likely now sharpen:

• It remains unclear how the market may respond to smaller buildings that have weaker EPC ratings despite the absence of a higher compliance threshold
• It is likely that institutional expectations will not differentiate in quite so binary terms between those properties that sit above and below the 1,000 sqm threshold respectively, despite there being a harder ‘stranding risk’ for larger properties.

Although considerable further details are still to come, and the timetable for those remains unclear, those that haven’t already been anticipating these significantly higher Minimum Energy Efficiency Standards should start acting systematically now.

The implications of these changes are pertinent across the whole of the equity and credit investment lifecycle, and they don’t act in isolation of the other transition risks that investors and lenders should be dealing with.