UK COVID-19 rent arrears: Courts provide clarity in a series of important cases

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It has been a busy couple of weeks in the UK with judgments in two important cases concerning COVID-19 rent arrears: Commerz Real Investmentgesellschaft mbh v TFS Stores Limited (TFS) and Bank of New York Mellon (International) Limited v Cine-UK Limited, Mecca Bingo Limited (and others) (MBL).

Since March 2020, commercial landlords and tenants have grappled with the question of how the pandemic might affect obligations under commercial leases (if at all).  It has been unquestionably a tumultuous period for both tenants (seeing profits tumble) and landlords (faced with non-paying tenants and few options in the way of remedial action). Given the restrictions on forfeiture and other remedies, many landlords have taken to issuing court claims against tenants in a bid to recover arrears. Tenants have sought to defend such claims, mounting arguments as to why rent should not be payable, leading to a series of court cases considering a tenant’s obligation to pay rent during the pandemic.

In each case the court found in favour of the landlord and dealt with arguments relating to rent suspension provisions, implied terms and arguments of frustration. 

As a general comment, the court was not interested in either case in considering the effect of the pandemic on a tenant’s business (i.e. whether or not the tenant could actually pay) instead, the court was principally concerned with 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.
A number of important points were considered in both cases; the majority of which will be familiar to  commercial landlords and tenants, being the main arguments raised by tenants in disputes relating to COVID-19 rent arrears.

The defences mounted by the tenants, across the two cases, included:

  1. The landlord’s conduct in the context of the Code of Practice for commercial property relationships during the COVID-19 pandemic (the “Code of Practice”) (click here for link)

In TFS, the tenant argued the landlord had brought its claim prematurely because the landlord has failed to properly engage with the Code of Practice. Similarly, in MBL, the tenant claimed the landlord had simply insisted upon full rent without engaging with the Code of Practice.  Further that this was, in the tenant’s submissions, in circumstances where the tenant’s turnover had been destroyed by the pandemic.  

The court in both cases dismissed this ground of defence by reference to the fact that the Code of Practice is voluntary in its nature and does not affect the legal relationship between the landlord and tenant.  In particular, in TFS, the Judge noted that the Code "is not a charter for tenants declining to pay any rent".

Further, in MBL it was noted that there is no restriction on landlords requiring tenants who can pay their rents, to do so and that it is not for the landlord to demonstrate the tenant’s financial position (given it is the tenant who has the material knowledge) and that the tenant had failed in that case to provide any evidence that it could not pay its rents.

  1. The landlord was, by pursuing arrears through the courts, exploiting a “loophole” in light of the various protective measures that the government had legislated for in respect of forfeiture, CRAR and statutory demands/winding-up procedures.

Again, the Judge in TFS had little difficulty in dealing with this ground.  He commented that the government had placed restrictions on some, but not all, remedies open to landlords.  The Judge was ultimately content that there was no restriction placed upon a landlord bringing a claim for rents and seeking judgment upon that claim.

  1. Insurance

The most developed arguments in the two cases centred around the insurance cover obtained by the landlord (which the tenant was obliged to contribute towards as part of its insurance premium) and the rent suspension provisions under the leases.

Landlord’s obligation to insure

The leases in both cases contained fairly typical insurance provisions and the usual covenant upon the landlord to insure the premises. 

In particular the definition of “Insured Risks” in both cases contained standard provisions that the landlord may insure “such other risks as the Landlord may consider it prudent to insure” (or words to that effect).  The tenants in both cases sought to argue that he landlord was in breach of its covenant to insure, on the basis that the insurance obtained was there to protect both landlord and tenant where there is a loss of rent and that it was reasonable for a tenant to expect that its landlord would obtain cover for loss of rent related to forced closures and/or denial of access due to notifiable disease or government action. 

In other words, that the landlord could (and should) have insured the property for loss of rent where the tenant is forced to close its stores and the landlord had therefore failed to adequately insure the premises.

In both cases, the landlord’s position was clear – it was not required by the terms of its leases to insure against a global pandemic, nor loss of rental income associated with it.  In any case, unless the rent suspension clause in the lease was engaged, it had in fact suffered no loss and therefore there was no loss for which it could claim under its policy.

In TFS, the court made specific reference to the fact that, there was no reason why (even if it were possible) the landlord should wish to obtain cover against losses to the tenant’s business.  Such losses were for the tenant to insure. Further, the particular policies in question, in both cases, (and as will no doubt be the case for most UK commercial landlords) were to cover losses suffered by the insured party i.e. the landlord, and not the tenant.  In other words, it is the loss to the landlord’s business that is covered.

Damage and destruction

In both cases, the landlords argued that, even if COVID-19 could be treated as an insured risk under the lease, it was clear from the rent suspension provisions in the leases that rent would only be suspended in the event of “damage or destruction” to the property.  The tenant in both cases argued that “damage” by an insured risk should be construed more widely than physical damage to the property.

As to the meaning of damage, the court concluded that "damage" meant physical damage only.  The court was assisted by the fact that in both cases the additional wording in the lease, provided that rent would be suspended until the property had been "reinstated" or "rebuilt" and/or made reference to physical "remedial works" to be carried out (as opposed to restrictions being lifted). The court was reluctant to embark upon an exercise of searching for drafting deficiencies in order to facilitate a departure from the natural meaning of the words used. 

The Judge in MBL accepted that this could bring about an odd result whereby physical damage to, for example, the electrical installations within a property could trigger the rent suspension clause however a strike of power workers would not.  However, the court placed great emphasis once again on the fact that each of the leases were carefully negotiated documents such that it would be a "considerable stretch" to extend damage to a non-physical disadvantage.

Rent suspension and Keep Open

In TFS, the tenant referred the court to the “keep open” covenant in the lease as support for its argument that rent should be suspended during the period in which the tenant is prevented from opening its stores in circumstances where it would be unlawful to do so.

The court was not persuaded.  The express terms of the lease (i.e. the rent suspension provisions) provided for the circumstances in which rent would not be payable.  Whilst the court accepted that during period of lockdown, the obligation to trade would be suspended, there was nothing correlating that to the rent suspension provisions and, ultimately, the two were completely separate matters.

Implied Term

Unable to rely on the express terms of the rent suspension provisions, the tenant argued that the court should imply terms into the leases to give effect to the tenant’s proposition that rent should not be paid during a period of lockdown.

It is well-established that for a term to be implied into a contract by the court, certain conditions must be met:

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

The court found that to imply a term to extend the rent suspension provisions would contradict the express terms of the lease.  Further, it was not a provision that was "so obvious"

that it did not need to be said.  The court placed great emphasis on the fact that the lease (a carefully and professionally drafted document) had apportioned the risk between the parties and, as such, if the tenant had wanted the rent suspension provision to extend to the circumstances surrounding a forced closure due to government action, then it should have negotiated it at the time.

  1. Frustration/Suspensory frustration

Finally, the court in MBL also included some commentary on arguments of frustration  and “temporary” frustration.

Frustration occurs where there has been a wholly unexpected event for which the parties had not made provision for or contemplated in an agreement and which affects the contract so as to “frustrate” its purpose. 

The court dismissed the idea that there was any such thing as temporary frustration – as a matter of principle, a contract is either terminated or it is not and frustration does not merely “suspend” the operation of the contract.

In considering the wider argument of frustration, the court placed great emphasis on the length of the terms of the leases and, specifically, the remainder of the terms left to run as measured against the temporary disruption suffered.

Whilst the court concluded that the pandemic would, in principle, be capable of constituting a supervening event giving rise to frustration, the situation had not become so radically different than what was contemplated when the parties entered into the leases that it would be unjust for the leases to continue. 

The court held that the MBL lease had dealt with such matters by allocating the risks of disruption in the rent suspension provisions and concluded that the parties minds must have, at some point, been focussed on insured risks and the impact of closures, but they chose only to allocate risk in respect of physical damage.

Conclusion

Following these judgments, landlords may expect more targeted engagement from tenants who have previously sought to rely on similar arguments in discussions around rent arrears and the pandemic generally.  However,  as can be seen, the particular terms of the leases were examined in some detail by the court, therefore landlords and tenants should carefully consider the terms of leases in the context of these decisions.

Moreover, the impact of these decisions will need to be considered in the context of the government’s "call for evidence" on potential measures to be put in place once the current moratorium on forfeiture expires on 30 June. Click here for link.  It is clear that the government is considering potentially wide ranging measures which, if implemented, could change the landscape significantly.

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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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