Covid-19: impact on commercial leases and practical considerations

The outbreak of Covid-19, is an ongoing pandemic which poses significant issues for businesses all over the world. Life as we know it has significantly changed.

The majority of businesses operating in the UK have been forced to suspend operations or find alternative means of working. With less money coming in, many businesses will struggle to meet the continuing commitments of rent, on top of staff wages and supplier costs.  Currently no government assistance schemes cover commercial rents beyond the forfeiture suspension point below.

Both landlords and tenants must therefore consider the contractual and legal issues arising out of this unfortunate situation.

English law contracts requiring ongoing performance are, in principle, absolute i.e. a party affected by the Covid-19 outbreak will still be required to perform their obligations under that agreement and will be liable to the other party for a failure to do so.  Subject to a handily timed tenant’s break option, leases will therefore continue and the obligations on tenants to pay rent and service charges will carry on as before.

There are two legal exceptions to the rule; the operation of a force majeure clause in the lease or the common law concept of frustration.  The reality for the majority of tenants is that these rather technical arguments, will not help them.  They are discussed below, but for most, the practical considerations which follow are more applicable to daily life.

Practical Options

Negotiation:

• temporary adjustment to the rent payable under the lease. This could be a switch from quarterly to monthly rent payments or a rent-free period, rental holiday or deferment of rent.
• rent deposits are often given on the grant of a lease. These funds could potentially be used by the landlord and the deposit account be topped up in say 6 months’ time.

These measures should be documented with a carefully worded side letter which sets out the terms of the concession and covers a number of eventualities which might arise over the next 1 or 2 quarters or longer. A poorly set up variation might end up running beyond the intended concession period.  Landlords need to be careful to consider their position under any loan facility or head lease before agreeing to vary the terms of the lease or relax rent provisions. 

• surrender of the lease in return for a cash sum or where the landlord can immediately re-let.
• assignment of the lease or underletting to a third party.

Current government guidance is for landlords to take a collaborative and understanding approach with their tenants through the difficult months ahead.  As of 23 April, the Government announced new temporary measures to safeguard business tenants against more forceful debt recovery methods during the coronavirus pandemic.    

Enforcement:

• Forfeiture is an option written into most commercial leases.  If the rules are followed carefully, it allows the landlord to recover possession of the property and exclude the tenant.  Forfeiture can be used for non-payment of rent or for other material breaches of lease covenants.  The Coronavirus Act 2020 currently protects tenants from forfeiture for non-payment of rent until 30 June 2020 (this date may be extended) but it does not prevent forfeiture for other breaches of covenant.  There are practical and legal considerations before deciding to forfeit a lease.  This option, other than for non-payment of rent, remains available.
   
• Statutory demand – if a person or company has not paid a debt (£750 for a company and £5,000 for an individual), insolvency and the statutory demand process has been available to pressure a tenant to pay it’s debts, especially for persistent bad payers.  Ordinarily, non-payment after 21 days entitles the landlord to bring either a winding up petition against a company tenant or a bankruptcy petition against an individual . The latest announcement states that the government temporarily will not allow winding up petitions to be presented, nor winding up orders made, where the company’s inability to pay is the result of Covid-19.  A court will review any presented winding up petition or order accordingly.  The measures will be included in the Corporate Insolvency and Governance Bill.  It would seem that statutory demands can still be issued, but if the threat of insolvency is removed, this is not likely to achieve the landlord’s desired outcome. 
   
• CRAR and other court Proceedings - Commercial Rent Arrears Recovery applies to all leases of commercial premises and allows an agent to enter premises and recover goods which will be sold to repay the arrears.  However, enforcement is less effective as bailiffs are not currently entering premises to seize goods for sale.  As of 23 April, the government has announced secondary legislation to provide that the CRAR process may not be used until rent is unpaid for more than 90 days.  Unpaid rent can be claimed as a simple debt in court proceedings, but the same issue over enforcement applies. 

Insurance:

Landlords and tenants should also carefully review their insurance policies to determine if they have cover if any losses are suffered as a result of disruption arising from Covid-19.

Insurance policies generally have stringent provisions requiring notification to insurers of claims within a specific timeframe, together with duties to mitigate loss and to consult with them before acting – it is therefore imperative to identify these issues at an early stage.

Other:

Force Majeure - For commercial reasons, most leases do not include force majeure provisions that would allow the parties to terminate the lease or postpone certain obligations under it where occupation cannot take place due to an act of God.

Frustration - Tenants may consider that the terms of their leases have been “frustrated”. To support this argument, a tenant must show that, due to an unforeseen event which is not the fault of either party, the obligations under the lease are drastically different from those the parties anticipated and therefore can no longer be performed. It may however be difficult for tenants to successfully claim their lease has been frustrated as there are currently no reported decisions in which it has been held that a lease was frustrated, even in some significant circumstances.

For advice on this topic please contact Omari Elcock on the details below.