UK COVID-19 rent arrears: a further court case clarifying the position on commercial rent arrears

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A further judgment has been handed down in respect of COVID-19 rent arrears.  Implied terms, failure of consideration and set-off, were all cited as reasons why the tenant ought not to pay its rent during periods of restrictions. However, the court did not agree.

The facts of the case will no doubt be familiar to many commercial landlords and tenants.  The case involved two tenants and a guarantor of premises at the Trocadero Centre in London. The tenants (part of the Cineworld Group) were forced to close during periods of lockdown and also remained closed during other periods of restrictions (where opening the cinema was not financially sustainable).  The tenant was alleged to owe arrears of around £2.9m and sought to defend the landlord’s action to recover the arrears based on a number of arguments. This was against the backdrop that the tenant was only open for 71 days between 23 March 2020 and 16 May 2021 with takings of just £247,000 (compared to £8.9m between 23 March 2018 – 16 May 2019).

The leases contained various clauses which are common in commercial leases.  These  included the tenant’s covenant to pay rent, service charges and insurance sums, the tenant’s requirement not to use the premises for any purpose other than the permitted use, a rent suspension clause in the event of the premises becoming unfit for use as a result of damage or destruction by an insured risk and a keep open covenant.

The landlord applied for summary judgment, which required the court to consider whether the tenant had a realistic prospect of successfully defending the landlord’s claim for rent and whether there was any compelling reason why the claim should go to trial.

Implied Terms

The first argument put forward by the tenant was that there should be a term implied into the leases that rent and service charges should be suspended during any periods for which the use of the premises as a cinema was illegal.  Alternatively, that rent and service charge should be suspended where the footfall at the cinema was not at a level which the parties would have anticipated at the time the leases were entered into.

Similar arguments have been raised previously- see our earlier Engage piece in Related Materials.

The law on implied terms is well established and the threshold for implying a term into a contract (including a lease) is a high one.  In particular:

(1) the term must be reasonable and equitable;
(2) the term must be necessary to give business efficacy to the contract;
(3) the term must be so obvious that it goes without saying;
(4) the term must be capable of clear expression; and
(5) the term must not contradict any express term of the contract.

The tenants argued that, the parties did not contemplate the COVID-19 pandemic when the leases were entered into and therefore the court ought to consider what the parties would have intended if such an event had been put to them.  Further, the tenants argued that in circumstances where the premises were intended to be used as a cinema and indeed, that is where the tenants’ income would derive from, it was “uncommercial” to expect the tenants to pay for premises they cannot use.

The court did not agree.  The court held that a term “cannot be implied simply because the parties would have wanted to make a provision for a particular set of circumstances had they foreseen the eventuality”.  Further, the court held that the test of business efficacy is not a test of reasonableness or fairness, it is a test of necessity, which is stringent.  While the court was sympathetic to the fact  that the risk was shouldered by the tenant, there was “no good commercial reason” why this risk should instead be assumed by the landlord.

The court also made similar comments as it did in the Commerz Real Investmentgesellschaft mbh v TFS Stores Limited case, that the tenants could have, if they had wanted to, taken out business interruption insurance to guard against such risks. Similarly, the court was also heavily influenced by the existence of a rent suspension clause.  The court was persuaded that the parties had at least applied their minds to the possibility that rent and service charge should be suspended in certain circumstances when the premises could not be used, therefore it cannot be concluded that if the parties had foreseen the possibility of the pandemic that the parties would have dealt with it as the tenants suggested.

Failure of consideration / failure of basis

The second defence put forward by the tenant was that there was a failure of consideration.  In other words, that the tenants had bargained for use of the premises as a cinema and that the state of affairs failed because of the inability to use the premises during the period of COVID-19 restrictions.

The general rule is that there must be a total failure of basis, as opposed to a partial failure.  As such, there were arguments around whether it was possible to argue that there was a total failure of basis during certain periods which can be easily severed on a time apportionment basis, or whether it was appropriate to view the failure in the context of the whole agreement (in which case there was only a partial failure of basis).

The court agreed with the landlord.  The court accepted that the use as a cinema was an expectation which undoubtedly “motivated” the tenant to enter into the lease but found that such use was not “fundamental to the basis” on which the parties entered into the lease. The tenant no doubt saw matters rather differently. 

The court was also  heavily influenced by the fact that the lease expressly provided for circumstances when the premises might not be lawfully used for the permitted use and further that the landlord gave no warranty that the premises could be used for the permitted use – a clause found in most commercial leases.  The court was therefore not prepared to “interfere with the agreed allocation of risk”.

However, the court was not convinced by the landlord’s argument that if the ability to use the premises as a cinema had been fundamental to the basis of the leases, by the tenants simply continuing to have a right of possession that would prevent a total failure of consideration.  The court was similarly not convinced that the ability for the tenant to store its equipment at the premises provided any real benefit in any real sense and such circumstances would therefore not prevent there from being a total failure of basis (had the court reached a different conclusion).  The court was also comfortable that a total failure of basis during certain periods could be  severed on a time apportionment basis.

Finally, whilst the court was not required to find on this issue, given it already concluded there was no failure of consideration, the court stated that it would have been reluctant to allow a defence of failure of consideration and instead, suggested that this should be used by way of a counterclaim in unjust enrichment.  The reason for that, was the court would be otherwise required to arbitrarily allocate the entire loss to one party or the other, all in the context of a contract which still exists and the court felt it “would not be right” to intervene in such circumstances.

Set-off

One of the tenants made a counterclaim in respect of certain insurance sums which it said were due to it from the landlord. The question then arose as to whether the tenant had any right of set-off against the amounts claimed by the landlord.

Under the leases, the tenant covenanted to pay the rent “without any deduction whatsoever”.  The court was not convinced that such words were sufficiently clear so as to exclude equitable rights of set off and ultimately found that any judgment against the tenant must therefore be reduced by the amount of its counterclaim.

Conclusions

Whilst another encouraging outcome for landlords, the court did not close off the possibility that, on different facts, a tenant might be able to argue the use was fundamental to the basis of entering the lease (giving rise to a total failure of consideration argument). That said, it is unclear what more a tenant would need to show in order to convince a court they have not received any of what they bargained for. 

This case also comes after the government’s announcement that a binding arbitration scheme will be introduced in March 2022 to deal with built up rent arrears that have accrued as a result of the COVID-19 pandemic.  It appears that the tenants applied to adjourn the summary judgment, pending further details of the scheme, however the court refused that application.

With the upcoming binding arbitration scheme at the forefront of both commercial landlord and tenants’ minds, it remains to be seen whether this judgment will encourage more landlords to press ahead with court proceedings.
It should be noted that the tenants have been granted permission to appeal the decision in Bank of New York Mellon (International) Limited v Cine-UK Limited, Mecca Bingo Limited (and others) and so further clarity from the appeal court may well be forthcoming.  

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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