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Commercial Rent Arrears: Time Is Money

09/06/2020

At a glance

Commercial landlords are in the midst of arguably the most challenging period in modern memory. Not only has rental income significantly dropped, but new protective laws introduced as a response the Covid-19 pandemic have banned many of the most common and effective means for landlords to enforce non-payment by tenants. Forfeiture on such grounds is unlawful until at least the end of June, and the Corporate Insolvency and Governance Bill will shortly (and retrospectively) curtail the widespread use of statutory demands and winding up petitions.

In that context, landlords may be forgiven for wondering what options remain to protect the value of their investment. But there is one relatively unknown option which can preserve the right to pursue a third party – provided the landlord acts quickly.

Liability on Assignment

For all leases granted since 1996, a tenant assigning its lease will be automatically released from liability for the ongoing rents – unless it stands as surety for the incoming tenant. As a result, many modern leases will require the tenant, upon any assignment of the lease, to enter into an “Authorised Guarantee Agreement” (or “AGA”). By extension, a landlord may also keep any existing guarantor on the hook by way of a “GAGA” – effectively a guarantee of the outgoing tenant’s newfound status under its AGA.

However, many landlords wrongly believe that the mere existence of an AGA/GAGA is sufficient protection. This overlooks a key requirement of the legislation, by which landlords must be proactive if they intend to pursue any former tenant or guarantor for arrears due from the current tenant.

Section 17 Notices

The legislation in this area requires a landlord to serve a notice on its former tenant (or its former tenant’s guarantor) if it wishes to recover from them any “fixed charge” due under the lease. These are known as “section 17 notices”, after the provision in the Landlord and Tenant (Covenants) Act 1995 which created them.

The concept of “fixed charge” covers not only rent, but also service charges and any liquidated sum payable as a result of a tenant’s failure to comply with its covenants. So, for example, if a landlord exercises its right to repair the premises following the tenant’s default, such costs will usually be recoverable as a debt and so should be notified to any former tenant or guarantor by way of a section 17 notice.

The notice must give details of the charge that is due, and must be in the prescribed form – it will not be sufficient simply to write to or email the former tenant or guarantor.

Timing

Crucially, a section 17 notice must be served within six months of the sum falling due.

If the landlord fails to meet this deadline, it will no longer be possible to recover the sum from the former tenant or guarantor – even if proceedings are commenced (and even heard) within the six month period. A failure to serve a section 17 notice provides the former tenant or guarantor with an absolute defence in any such proceedings.

If a lease liability is later determined to be for a different amount (such as a balancing service charge), a landlord can serve a second section 17 notice revising the sum originally detailed – but it must have noted this as a possibility in its original notice.

New Lease

Importantly, if the former tenant or guarantor makes payment of the sum specified in a section 17 notice, it is entitled to call on the landlord to grant it an “overriding lease” of the premises. Essentially, the former tenant or guarantor becomes the defaulting tenant’s immediate landlord, and can therefore take steps either to occupy the premises itself or find a new tenant with better financial prospects.

As such, before serving a section 17 notice, a landlord should give some thought to whether it would be happy to take on the former party as its direct tenant, since it cannot decline the request for an overriding lease.

Further advice

Time is already ticking for landlords to preserve their rights following the wide-spread non-payment of commercial rents in March. If you would like to discuss your options for doing so – or if you have received a section 17 notice and would like to understand what it means for your business – please speak to the author or your usual Memery Crystal contact.

(Photo by Suzy Hazelwood on Pexels)

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Liam Bell
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