Minimum Energy Efficiency Standards
The Minimum Energy Efficiency Standards (MEES) came into effect for the granting of new leases and the renewal of existing leases on 1 April 2018. The regulations make it unlawful for certain residential or commercial properties to be let with an Energy Performance Certificate (EPC) rating lower than an ‘E’. With effect from 1 April 2023, the regulations will cover all leases, including leases in place at that date.
There are a number of exemptions available, including for properties for which an EPC is not required by law, as well as short term leases (less than 6 months) and long term leases (more than 99 years). However, the new regulations may have consequences for entities that own and rent investment property to third parties.
Under both FRS102 and IFRS (except where using the cost model), entities that own investment properties are required to measure the fair value of the properties each year. This valuation may be calculated by a suitably experienced officer of the entity. However, larger entities, or those that are subject to audit or have external borrowings, may be required to have an external company perform the valuation.
If the entity owns investment property that is not currently, or will not in the future be compliant with the regulations, then the properties may be subject to a downward valuation. This is to reflect the fact that additional expenditure is required to adhere to the new regulations or that the marketability of the property is affected.
A reduction in the value of an entity’s investment property not only has an impact on the entity’s balance sheet, but also their reported profit for the period. That is because under both FRS102 and IFRS, movements in fair value of investment properties are reflected through the profit and loss account. Therefore, when an entity publishes its results for the year that include a reduction in fair value, there could be additional commercial implications such as a reduction in credit terms or the risk of non-compliance with loan convents.
Compliance with the new regulations may require an entity to incur additional expenditure on properties that do not have an EPC rating of E or above. The treatment of this expenditure will depend on the nature of the improvements, but if it results in an improved EPC rating, the expenditure is likely to be of a capital nature.
If revenue expenditure is required, entities may consider making a provision for such costs. However, both FRS102 and IFRS refer to entities not being permitted to make provisions for legislative changes, because the entity can avoid the future expenditure by changing its method of operation. This means it has no present obligation for that future expenditure and no provision is required – e.g. the entity can sell the property before the regulations apply.
If you would like to discuss the Minimum Energy Efficiency Standards with us in more detail or if you would like to speak with a member of our team, please contact Hannah Farmborough or call on 0207 429 4147 to be put in contact with your local representative.
This article featured in issue 13 of our construction and real estate newsletter series. Read the full newsletter here: Real Estate Matters – Issue 13