Heads of terms: getting ahead of the game

Posted: 08/07/2019

Clients like to think a deal is effectively done when heads of terms are signed, and many agents encourage their clients to enter into such a document before the legal teams are instructed. Indeed, if the new RICS Lease Code for Commercial Property comes into force, RICS accredited surveyors will insist on heads of terms when a property is being let with vacant possession, as otherwise they will fail mandatory practice standards.

Used effectively, heads of terms can flush out potential areas of disagreement early on, broker a compromise and avoid a deal cratering over the issue later, with consequent, expensive wasted costs. Good heads of terms can also speed the deal up, because the solicitors draft the real contractual documents (agreement for lease, lease, sale contract, overage etc) based on the heads of terms, rather than turning out a standard template and waiting for the other side to amend it.

However, clients need to be realistic. No heads of terms are ever comprehensive. If they were, they would take as long to negotiate as the contractual documents. More importantly, as heads of terms are not contractually binding, either party can resile from some or all of the agreed principles at any point. Investing extra time, effort and cost in making heads of terms even more comprehensive is not necessarily worthwhile. It may also backfire, because the more detailed the heads of terms appear, the greater the expectation that nothing new will be introduced into the deal. If the solicitors discover that there are missing elements, or that the agreed principles don’t work properly or ignore a relevant factor (eg adverse tax consequences, restrictions in the title deeds), they may encounter resistance to additional drafting to deal with those.

Here are our suggestions for a pragmatic approach to heads of terms:

• ensure your client’s agent includes in the heads of terms a caveat allowing for amendment/elaboration where necessary in order to deal with unforeseen circumstances;
• encourage the agent to check the draft heads of terms with you before they go out, so you can spot any problems or inconsistencies with what you know about the property;
• concentrate on these key issues
  • basic information (names, addresses, Land Registry compliant plan);
  • (for leases) more obvious but potentially contentious issues such as access routes, term length and start date, permitted/prohibited uses; alienation freedom; break rights (and associated conditions); rent review basis and frequency, whether security of tenure applies, insured and uninsured risks;
  • truly bespoke arrangements. These often relate to the price payable (if it is not all being paid at the outset). For example, the heads of terms on a sale or development agreement might set out the formula to calculate the price (eg “as built” floor area); the division of the consideration into instalments paid at prearranged stages through construction; the calculation of overage payments and the events which trigger them and how interest on outstanding amounts is to be calculated.
• make sure that the heads of terms are issued under a “subject to contract” umbrella;
• remind the client that heads of terms are a guide not a contract, so they need to keep their guard up until the main contractual agreements are exchanged.

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