As we pass the March quarter date, the timing of the government imposed lockdown has focused the minds of all landlords and tenants alike.
With the implications of COVID-19, and the measures required to contain it, we are seeing transformations at a pace not seen before, with potentially long lasting effects.
The government is racing to try to protect tenants’ interests, with the Coronavirus Bill 2019-21 going through parliament at breakneck pace. It includes safeguards against eviction for commercial tenants for at least the next three months, and the abolishment of business rates, in unprecedented moves to combat the commercial impact of the virus. But state-led measures might not be enough.
The advent of COVID-19 simply does not fall into any of the traditional ways in which landlords and tenants protect their respective positions or the ways in which they conventionally do business. The legal and property press is replete this week with stories of tenants approaching their landlords with proposals for deferred rent, rent-free periods, service charge holidays, or to change their rental payments from quarterly (the industry standard for commercial property) to monthly to ease their cash flow woes. Household names are falling by the wayside, or seeking significant concessions: New Look, Primark, Selfridges, Arcadia, to name but a few, are having to close stores, streamline their business, and take measures which were unimaginable only a few weeks ago. While to date all eyes have been on retail, office lettings are equally feeling the pain.
But it is not just tenants reaching out. Landlords too have expressed a willingness to work with their tenants to weather the storm. Intu (the owner of Manchester’s Trafford Centre and Lakeside in Essex) announced today that it is to slash its service charges by 22% in the second half of this year, and across the industry, commercial landlords have expressed a willingness to take similar steps to assist their tenants. The reality is that a struggling tenant is almost never good news for a landlord in the retail sector, and the collapse of one retail tenant can often spell financial trouble for landlords, particularly on a multi-let asset.
So what are the options for landlords in this situation? What concessions can be offered to tenants? And what might be the (perhaps unintended) consequences of altering what has been agreed in the commercial lease?
The following, which can be referred to as ‘direct’ concessions, involve agreeing a state of affairs with the tenant that differs from that which has been – probably at significant cost and effort – agreed in the lease:
- discounted rent
- agreed delay in demanding rent (a rent deferment where the obligation to pay rent does not go away but a payment plan might be agreed between the parties for the deferred rent)
- a rent free period
- service charge reduction.
Whilst the temptation might be to reach an informal agreement with the tenant, our advice is that any agreement to vary the existing terms should be very carefully considered and documented. If rent is to be postponed, for how long will this be the case? Will there be a time limit on how long the rent holiday is to be, and will there be a mechanism for ending the agreement? It is also important to ensure the parties are agreed as to which rents any concession will apply – will it apply to all rents payable under the lease or just the principal rent?
Changes in the manner of payment
Instead of offering direct financial discounts, it is also open to a landlord and tenant to agree on a change in the way sums are paid under the lease. Indeed such arrangements are common. These might include:
- accepting rent on a monthly (rather than quarterly) basis
- accepting rental payments in arrears, rather than in advance
- drawing on an existing rent deposit instead of collecting rent.
Such arrangements can assist tenants, but again, they need to be carefully thought out, and documented appropriately. As with the direct concessions, it should be clearly agreed between the parties as to how long such arrangements will last.
Potential consequences of any agreed concessions
Landlords and tenants are having to make quick decisions and, as such, sometimes without the advice that will offer them longer term protection. Early advice will help to avoid issues that may need to be remedied in the not too distant future. The following considerations might not necessarily be at the forefront of a landlord or tenant’s mind at this time of crisis and urgency:
- how will the concession be agreed? Will it be by side letter or deed of variation of the lease? Will it be personal to the tenant or binding on successors in title? Landlords will want to avoid the latter
- will interest be payable on rent that is deferred? If so, when will it fall due and at what rate?
- given many individuals are unexpectedly working from home, have the practicalities of signing any concession agreement been considered to ensure it is clear that the terms have been accepted by both parties?
- what about guarantors? It is extremely common for a commercial lease to have a guarantor (often the parent company of the tenant), which will step in to guarantee the tenant’s obligations if the tenant defaults. Landlords should take extreme care to ensure when considering any rental concessions that any guarantor is fully aware of the proposals, and ideally is a direct party to the concession agreement. Amending the terms of a lease without the consent or knowledge of the guarantor can have the effect of releasing the guarantor – entirely – from its obligations under the guarantee. That could result in compounding an already difficult situation for a landlord, which might find itself in a weaker position to recover any arrears further down the line as a result of an attempt to help the tenant in a crisis.
Other lease clauses which might be affected
Without care, any agreement to change the terms of the landlord and tenant relationship could have unintended consequences elsewhere in a lease. Here are some examples to consider:
What if the lease has a break clause requiring, as a condition to the break, all rent and other sums provided for in the lease to be paid up to the break date? If the break clause has not been considered in the agreement to change the rent payments, this could give rise to uncertainty over whether a landlord or tenant has validly exercised the break clause – or worse still, whether the break clause is capable of being exercised in the light of the change in arrangements.
This might be another area of concern. Most rent review clauses require the landlord and the tenant’s valuers to make a series of hypothetical assumptions where the rent falls to be reviewed. If those assumptions (agreed at the time the lease was completed) now do not reflect reality following a separate agreement in how payments are to be made, the rent could be reviewed at an artificially high or low level on review.
Changes in arrangements during the term could have implications for other areas of landlord and tenant law, such as the Landlord and Tenant Act 1954 when a lease comes up for renewal. The rent, length of the lease and other lease terms may be up for negotiation as well as the landlord’s right to refuse a renewal where the tenant has not performed its obligations in the lease including that as to payment of rent.
What is clear, is that landlords and tenants are going to have to work closely together during this crisis. Perhaps more closely than ever before. But great care should still be taken over how concession agreements are documented, and consideration given to the potentially unintended consequences of agreeing changes to the lease without proper advice. Advice which should be sought promptly, and before the parties have committed to any changes.
If you have any questions or concerns about the above, please contact a member of the team using our website or your usual Fox Williams contact.
Articles and commentary by our legal experts on the impact of COVID-19 are all available here.