There is little point in attempting to patch-repair a condemned building. The repair will not address the underlying structural issues. The repair may even make the condition of the building worse. Patch repairing is no solution to the need for necessary works of reconstruction and simply postpones the inevitable works in the interim.
The approach of the court to the Landlord and Tenant (Covenants) Act 1995 (“the Act”) is akin to a patch repair. In this case, the judiciary is not the appropriate tradesman to deal with the failings of the legislature. Yet, owing to the now patent structural defects in the Act, the court has been left with the unenviable task of dealing with its own construction and the fallout arising from this.
The sorry saga that is the recent case law history concerning the Act demonstrates that the judiciary is not the appropriate body to create or amend law in respect of the Act. The legislature is instead the relevant body with the ability to reconstruct the Act in such a way as to untie the knots created by the judiciary and actually deliver an Act that is fit for commercial purpose. The need for reform is pressing.
Purpose
The key purpose of the Act is to release tenants and their guarantors from continuing liability upon assignment of leases granted on or after 1 January 1996. The exception to this is where the tenant provides an authorised guarantee agreement (“AGA”) (section 16). The AGA allows the assignor to guarantee the lease liabilities of the assignee following assignment. There is no specific AGA provision concerning guarantors. Section 25 contains a wide anti-avoidance provision preventing any activity that offends the purpose and provisions of the Act.
When the groundwork for the Act was being undertaken, the rationale for this was to avoid the unpleasant situation arising of a former tenant of a long lease suddenly being revisited by the landlord many years after assignment seeking payment for rent and other liabilities from the former tenant as a result of the current tenant’s default. This was a particular problem in the desolation that was the early 1990s recession.
This purpose has been achieved by virtue of section 5 of the Act (though it should be noted that lease term lengths have reduced since the 1990s). While the requirement for an AGA can be absolute or qualified in some way, it is not mandatory upon assignment and is a matter for negotiation between landlord and tenant prior to the granting of a lease. Similarly, upon a second assignment, the original tenant will be released from its AGA obligations and owe no further liability to the landlord.
In terms of its stated aim of making “provision for persons bound by covenants of a tenancy to be released from such covenants on the assignment of the tenancy”, the Act has achieved its purpose. However, in other respects, the Act is not fit for purpose.
Problem
The fundamental problem with the Act (as interpreted) is that it is hostile to the concept of freedom of contract. There is commercial logic in a lease guarantor offering to guarantee the assignee or indeed offering to become the assignee. However, the Act contentiously offends this logic and prevents such action from taking place.
What is striking is that the judiciary recognises this flaw, but has left it as a weeping sore. It is neither “here nor there” if the consequence of the operation of the Act is “unattractively limiting and commercially unrealistic” (Good Harvest Partnership LLP v Centaur Services Ltd [2010] EWHC 330 (Ch); [2010] 1 EGLR 29). Lord Neuberger noted that “even where it suited the assignor, the assignee and the guarantor that the assignee should have the same guarantor as the assignor… they could not offer that guarantor. It would also appear to mean that the lease could not be assigned to the guarantor, even where both tenant and guarantor wanted it” (K/S Victoria Street v House of Fraser (Stores Management) Ltd [2012] Ch 497; [2011] 2 EGLR 11). Similar comment is made in the other recent decisions concerning the Act.
As well as vexing freedom of contract, the Act defies commercial rationale. Where a tenant has a guarantor, the covenant strength is likely held by that guarantor. An AGA from a special purpose vehicle (“SPV”) tenant is about as much use as a house built on sand if the financial strength rests with the SPV’s guarantor. The restrictiveness of section 16 has been ameliorated in the market by the guarantor providing a sub-guarantee on assignment (ie guaranteeing the assignor’s performance of the AGA, as opposed to the assignee’s performance of the lease covenants). However, there is only obiter judicial comment in support of the sub-guarantee – the validity of the sub-guarantee therefore is uncertain.
The judiciary has tried to grapple with the Act, but legal evolution by way of case law is not satisfactory. This is exposed by the differences of opinion between the various judges involved in the cases – all of whom are highly respected in the property litigation world. The defect is in the drafting of the Act. This is the legislature’s business. The recent cases serve not merely to emphasise the defect but also the imperative for reform.
By way of example, in EMI Group Ltd v O & H Q1 Ltd [2016] EWHC 529 (Ch); [2016] PLSCS 87, the judge determined that an assignment to a guarantor was void and consequently the assignment was to be treated as though it never took place. On the surface (and facts), a simple solution.
However, in the wider context, all sorts of issues arise, none of which are addressed in case law or by the Act. For example, does the assignee guarantor acquire any tenancy rights as occupier of the property? What if the guarantor has entered a new tenancy pursuant to the Landlord and Tenant Act 1954? What if the guarantor has been paying rent? What if the guarantor has assigned, or underlet? What if the assignor has been wound up post assignment? Further, could the void assignment be construed as a surrender and grant of a periodic tenancy? It may fall foul of section 25 in such situation. Even if valid, there would be adverse stamp duty land tax consequences.
In an ironic twist, EMI also facilitates the original mischief that the Act was seeking to avoid – namely imposing liability on an assignor that had thought it had assigned its lease and walked away from its liabilities.
In short, the current situation is both legally and commercially incongruous. Statutory reform is a necessity and should be advanced as a priority.
Reform
The Property Litigation Association (“PLA”) has proposed reform of the Act. The proposed amendments are short, simple and address the devilment caused by the Act. The amendments will:
• clarify that an assignor’s guarantor can provide a sub-guarantee of the assignor’s AGA;
• allow the assignor’s guarantor to provide a group company repeat guarantee;
• clarify that the assignor’s guarantor may take an assignment from the assignor; and
• address the risk of a void assignment situation where joint tenants A, B, C and D assign to A, B, C and E.
The PLA’s proposals have industry and professional body support.
The Law Commission is now alert to the failings of the Act. In its Land Registration consultation it has invited separate comment on the Act, in paragraph 12.48. While this is not the most appropriate place for collating views on the Act, the Law Commission’s attention to reform the Act is very welcome.
The PLA would encourage as many responses as possible to be submitted to the Law Commission from property professionals, agents, surveyors and lawyers. For ease of response, a simple endorsement of the PLA’s position would be more than helpful. The deadline for responses is 30 June 2016. The consultation is an appropriate way for industry to demonstrate its clamour for reform and this opportunity should not be missed.
Legislative reform is the only appropriate route to remedy the inherent defects of the Act. The judiciary alone cannot achieve this and it is disheartening to see judicial time being spent grappling with the problems caused while not being able or willing to tackle the underlying freedom of contract issue. The Act is not beyond redemption. It can be made structurally sound. However, it needs the legislature to effect the reconstruction works. Such works will become more than viable if built on the foundations of a cohesive industry platform.
Click here for the full detail of the proposed amendments
The Law Commission’s consultation on land registration can be found here
Bryan Johnston is a partner at Dentons UKMEA LLP and a member of the Property Litigation Association’s Law Reform Committee
