Poppy's and wild flowers

Farm business tenancies: The natural capital conundrum

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When farm business tenancies (FBTs) were introduced in 1995 to replace tenancies governed by the Agricultural Holdings Act 1986 (“AHA”), they were heralded as a new, more commercial and even-handed type of tenancy – where landlords and tenants would negotiate terms on a more equal footing. In most cases, however, the reality has turned out to be quite different, with landlords imposing ever increasing control over tenants in respect of everything from farming practices to diversification and subsidies.

As we now transition from the EU Common Agriculture Policy to our own support regime, landlords and tenants are facing change on multiple fronts simultaneously; moving from direct Basic Payment Scheme payments to payments for “public goods” (eg environmental protection measures); facing the UK’s need to address climate change and the consequential imposition into the planning system of new measures such as biodiversity gain and nutrient neutrality requirements; the development of new markets in credits relating to natural capital assets (eg carbon credits); and all against a backdrop of new trade deals and food insecurity, highlighted by Russia’s invasion of Ukraine and as a result of import changes following Brexit.

Continuing landlord control

All of these issues affect the future direction of farm businesses and therefore the position of farm business tenants. But with so many complex issues developing simultaneously, the familiar approach of FBT landlords to try to exercise control suddenly does not seem to be so fit for purpose.

At the same time DEFRA has already legislated to allow AHA tenants to override tenancy restrictions, which prevent tenants from claiming “financial assistance” under the Agriculture Act 2020 (ie Sustainable Farming Incentive (SFI) and ELMS etc). DEFRA has warned landlords that if they continue to try to exercise this control then this legislation will be rolled out to embrace FBTs as well. This issue was highlighted in the Rock Review from the independent Tenancy Working Group published in October 2022, which made it clear that SFI is very much intended to be open to ‘farmers’ without landlord consent.

Climate change mitigation imperative

The overarching imperative to prioritise environmental protection measures to help the UK meet its net zero targets and to mitigate against the consequences of global warming has created a new perspective of which landlords and tenants should take account. Many companies and commercial bodies are increasingly focused on the Environmental Social and Governance (ESG) agenda and looking for their own suppliers and those with whom they do business to follow suit.

Tenants are already facing demands by product purchasers to meet environmental standards and no doubt soon will have to show that their production is carbon neutral. Whilst parties will always be free to choose to ignore this perspective, professional advisers involved in the Agriculture Industry should at the very least be presenting this as a choice and advising of the risks and benefits.

Natural capital drafting choices

For decades landlords have attempted to exercise almost total control over agricultural subsidies, not least because they had a capital value, could be traded and affected the level of rent available to landlords.

Industry standard documents continue that approach with regards to natural capital assets. This requires the following controls over the tenant:

  • Exception and reservation of the right to enter natural capital schemes to the landlord;
  • Break clause to enable landlord to take land back to use for longer term natural capital subsidy schemes or for biodiversity net gain (BNG), nutrient neutrality, conservation covenants etc.
  • Tenant covenants restricting access to subsidy schemes without landlord’s consent, and absolute bar on entering into BNG, nutrient neutrality, conservation covenants etc.

Consequences at rent review

At rent review of an FBT the terms of the tenancy agreement are taken into account under s13(2) of the Agricultural Tenancies Act 1995. So, if these types of restriction are imposed, the rent level is likely to reflect that position.

Obviously, a tenant in a strong negotiating position can demand freedom from these restrictions, but in practice an FBT completely free of natural capital restrictions is rarely granted.

The middle ground

So, what about the future? Surely there should be a middle ground – a collaborative approach; where landlord and tenant cooperate to prioritise environmental protection; where the tenant is able to claim appropriate subsidies to support the farming business; and the landlord maintains a reasonable level of rent, can control matters affecting his underlying capital asset and is able to bring holdings together into landscape scale schemes and wider environmental projects?

The challenge of drafting for the middle ground is the uncertainty of what the future holds for both public subsidy schemes, as well as credit schemes and privately funded arrangements. It is fairly straightforward to guess the shape of these schemes in 5 years’ time – but a far greater challenge to anticipate how the carbon market will have developed in 20 years’ time and which environmental benefits will be funded and which simply expected as a condition of selling produce.

So whatever parameters and divisions are chosen to allocate access to natural capital assets between landlord and tenant, the drafting needs to take account of the length of the tenancy and to be as specific or as broad as necessary – all of course with complete clarity!

Capital value of land

When selecting criteria for allocating access to natural capital assets it should be born in mind that some schemes and arrangements will affect the landlord’s underlying capital value of the holding; a tree planting commitment, a 40-year conservation covenant to establish and maintain a particular BNG habitat or an 80-year nutrient neutrality commitment to create nutrient neutrality credits are all likely to affect the capital value. In contrast a 3-year commitment under the Sustainable Farming Incentive or a 5-year Countryside Stewardship Agreement will have little or no effect on capital value.

Length of tenancy

A further relevant issue concerns the length of the tenancy. Regardless of the rights granted via their tenancy agreement, tenants will not have legal standing to enter into natural capital agreements which are longer than the unexpired term of their tenancy. In such instances, the landlord would almost certainly need to be a co-signatory to the agreement, meaning a collaborative approach would be required in any event.

Possible criteria for allocation

There are plenty of options for allocation between landlords and tenants and these will need to be tailored for each case depending on the natural capital assets on the holding and, if applicable, the landlord’s wider estate, and the opportunities for their exploitation. These include the following examples:

  • Private money v public money; tenants have freedom to claim under public subsidy schemes, landlords control privately funded arrangements;
  • Length of tenancy; tenants have freedom to enter shorter term arrangements and schemes less likely to affect the capital value, landlords control access to longer term schemes;
  • Restricted to the Holding or wider scale; tenants have freedom to enter schemes/agreements restricted to the holding, landlords control arrangements covering a wider area;

When considering each of these examples, however, it does not take long to identify situations in which the criteria are too simple; a tenant selling produce to a private company which requires net zero carbon production – that sounds like private money, but is clearly something tenants will need freedom to enter; a long-term tree planting scheme which does not affect land outside the holding – should a tenant have freedom under the last example?; a landscape recovery scheme under ELMS – likely to be funded (at least in part, by public money) but involving a wider area than the holding.

What is needed is more nuanced approach – perhaps a combination of criteria tailored to the holding, with the flexibility to adapt to future arrangements. We might start with an apportionment based on length of scheme or private/public funding, but then draft in some exceptions which address the anomalies.

Landlords may impose break provisions to enter environmental schemes and agreements but suspend these if the tenant is willing to collaborate. In return, private money funding could be split between landlord and tenant.

A change of mindset

Generations of landlords have been accustomed to exercising control over their agricultural tenants and their professional advisors have drafted accordingly. So, moving in this complex area to a more collaborative approach is not going to be easy. It will not be the right way forward for every landlord. However, with DEFRA threatening to override tenancy restrictions if landlords continue to control access to schemes, and with the impact of restrictions on rent review, they should at least give it some consideration.

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