Covid-19: Should Pandemic Clauses be included in Renewal Leases?

 

There have been two interesting cases recently on attempts to introduce new so-called “pandemic clauses” into leases as part of the statutory lease renewal process under the Landlord and Tenant Act 1954.

Both cases were in the County Court, and so have no binding effect on future cases, but they are useful examples of how the pandemic has affected lease terms.

The first case concerned WH Smith’s store in the West London Westfield Centre - WH Smith Retail Holdings Limited v Commerz Real Investmentgesellschaft mbH (unreported), 25 March 2021 (County Court) (Judge Richard Parkes QC).

The original lease was for 10 years and had expired in 2018, with the tenant holding over, but the parties agreed on a renewal lease of just 5 years.

The judge had already applied discounts to the passing rent totalling 54% to reflect the pandemic, the location, and the size of the unit.

Crucially, the landlord and tenant agreed in principle that a pandemic rent reduction clause should be included in the renewal lease to avoid the landlord facing a further 10% rent reduction to reflect the onerous liability of paying full rent during a lockdown.

The parties also agreed that it should be based on the tenant paying 50% of the rent and the whole of the service charge.

The judge agreed that such clauses have “become something that all tenants want, and that the market has now priced it in". The court was simply required to determine the mechanics of how that provision would operate.

This contrasts with a case concerning a Poundland store - Poundland Ltd v Toplain Ltd (unreported), 7 April 2021 (County Court).

In this case the court refused a tenant’s request to include clauses in a renewal lease that were not agreed in principle by its landlord and which would reduce the rent by 50% in the event of future government imposed lockdowns; relieve the tenant from complying with its insurance covenants during a lockdown; and vary the forfeiture clause to prevent the landlord from forfeiting the lease during lockdown (something the government has legislated to ban during the pandemic so far).

Where terms of a renewal lease cannot be agreed between the parties and so fall to be determined by the Court, Section 35 of the1954 Act provides for the court to have regard to the terms of the current tenancy and all other relevant circumstances.

The leading case on applying Section 35 is the well-known O’May v City of London Real Property Co Ltd [1983]. The burden of changing the terms of the current lease falls on the party proposing the change and the change proposed must be “fair and reasonable”.

Poundland argued that pandemic clauses should be included to modernise the lease, and that such clauses would be in the interests of both parties.

The landlord argued that there was no market precedent for such clauses; that it would fundamentally change the relationship between the parties; that the impact of any future lockdown would be controlled by legislation; and that the proper course for the tenant would be to take advantage of any benefits or grants offered by the government.

Citing O’May, the District Judge declined to introduce the pandemic clauses on the basis that it would not be fair and reasonable to expect the landlord to share the risk in circumstances over which the landlord would have no control and where the tenant could avail itself of reliefs or schemes offered by the government.

The District Judge distinguished this case from from WH Smith because in WH Smith the court had not been called upon to consider the O’May principles because the parties had agreed in principle to a clause reducing the rent in the event of a lockdown. Here, the court was considering a dispute between parties as to whether pandemic clauses should be included at all.

There is likely to be a spate of similar cases over the coming months, and it will be interesting to see whether a consistency of approach is taken in the county courts, and ultimately whether a case comes before the High Court.

Nevertheless, landlords should think carefully about what impact the absence of such pandemic clauses might have if the new lease is to include an open market rent review clause.

If pandemic clauses are “something that all tenants want”, which seems to be backed up by anecdotal evidence in the market, and become accepted market practice, then a tenant could argue for a discount on an open market rent review if the lease doesn’t contain such clauses.

Lease Break Clauses: Vacant Possession Defined

 

The Court of Appeal* has overturned a decision of the High Court to give greater clarity on what needs to be done to satisfy a vacant possession condition in a lease break clause.

Over the years, most cases on vacant possession conditions in break clauses have tended to revolve around whether a tenant has given vacant possession if it leaves something behind, for example furniture at one end of the spectrum, or a subtenant at the other end (see this post from 2020).

This case however concerned a tenant who the landlord argued had taken too much away, and so had not given vacant possession of the “Premises” as defined in the lease.

The tenant had removed some landlord fixtures, including ceiling grids, ceiling tiles, fan coil units, ventilation duct work, radiators and other fixtures, as part of its dilapidations works before the break date.

The break option in the lease contained a pre-condition requiring the tenant to give “vacant possession of the Premises to the Landlord” on the break date. The “Premises” included “all fixtures and fittings at the Premises whenever fixed”.

Importantly, the break option was not expressed to be conditional on the tenant having observed and performed any covenants in the lease, including any repairing obligations.

The landlord argued that as the tenant had removed landlord’s fixtures it hadn’t given back the “Premises” as defined, as required by the break clause.

The High Court agreed, ruling that because the tenant had removed the landlord’s fixtures the physical condition of the premises was such that there was a substantial impediment to the landlord’s use of the premises or a substantial part of it.

On appeal, the tenant argued that the landlord hadn’t sought to rely on a substantial impediment argument, and the Court of Appeal acknowledged that the issue was instead a matter of construction – did the removal of the fixtures mean that vacant possession had not been given?

The Court of Appeal ruled in favour of the tenant, and confirmed that to satisfy a vacant possession condition, a tenant must simply ensure that the premises are returned to the landlord free of people, chattels and interests, rather than being concerned with the physical condition of the premises.

This ruling will come as a relief to tenants, and it is surely the right decision based on commercial sense and on construction of the lease terms, especially as the landlord could recover compensation from the tenant for breach of repair separately.

After all, a break clause is a fundamental term that will have been taken into account by the parties when agreeing the length of the lease term and the rent.

The Court of Appeal acknowledged that although break conditions must be complied with strictly, that doesn’t mean the condition must be construed strictly or adversely against the tenant.

Over the last few years, vacant possession conditions have become less common in new break clauses.

If such a condition appears in the initial draft of a lease, a tenant should resist it.

Instead, a tenant should only agree to a requirement to give up occupation and leave behind no continuing subleases, which is suggested in the Commercial Lease Code (which is a voluntary code).

The Code also suggests that disputes about the state of the premises, or what has been left behind or removed, should be settled later (as with normal lease expiry), which would mean as part of a dilapidations claim.

* Capitol Park Leeds plc v Global Radio Services Ltd [2021] EWCA Civ 995 (5 July 2021) (Newey, Laing and Moylan LJJ)

COVID-19: Restrictions on Forfeiture to Stay until 25 March 2022

 The government has issued a press release announcing that the restrictions on forfeiture of business tenancies for non-payment of rent are to continue in England until 25 March 2022.

The press release says this is to give places such as nightclubs and other hospitality businesses the help they need to recover from the pandemic.

The extension of the ban on forfeiture is to ensure that the sectors who are unable to open have enough time to come to an agreement with their landlord without the threat of eviction.

Further measures have also been announced, including:

·       Primary legislation is to be introduced in this parliamentary session to ringfence rent arrears that have built up due to a business having to remain closed during the pandemic. Landlords are expected to make allowances for the ringfenced rent arrears from these specific periods of closure due to the pandemic and share the financial impact with their tenants.

·       The press release says the legislation will “help” tenants and landlords to work together to come to an agreement on how to handle the money owed, for example, waiving some of the amount due or agreeing a longer-term repayment plan. If agreement cannot be reached, a binding arbitration process will be put in place that ensures a legally binding agreement is made that both parties must adhere to.

·       Service of statutory demands and winding up petitions will remain restricted for a further three months to protect companies from creditor enforcement action where their debts relate to the pandemic.

·       The Ministry of Justice have confirmed that the restriction on the use of the Commercial Rent Arrears Recovery (CRAR) process by landlords will also be extended. The minimum net unpaid rent that must be outstanding before commercial rent arrears recovery (CRAR) can be used will remain at 554 days.

The press release says that to ensure landlords are protected, the government is “making clear that businesses who are able to pay rent, must do so”. Tenants should start paying their rent as soon as restrictions change, and they are given the green light to open.

The measures have been welcomed by the hospitality sector.

We will have to wait for the detail on how these measures will work.

The press release says the extension of the forfeiture ban applies to all businesses, but the new measures that will be introduced by primary legislation will only cover those impacted by closures. This means that rent debt accumulated before March 2020 and after the date when relevant sector restrictions on trading are lifted, will be actionable by landlords as soon as the tenant protection measures are lifted.

The government has also confirmed that its review of commercial landlord and tenant legislation will be launched later this year and will consider a broad range of issues including the Landlord & Tenant Act 1954 Part II, different models of rent payment, and the impact of Coronavirus on the market.