Owen Talfan Davies and Jessica Branigan explain how surrender and regrant of a lease can occur unintentionally, and how best to avoid being caught out
Landlords and tenants must be extremely careful when varying the extent of the demise or the length of the term of a lease. In certain circumstances, the variation will constitute a surrender of the original lease and the grant of a new one. Without due consideration of the implications, the parties may face unexpected consequences.
How does a surrender and regrant occur?
The leading case of Friends Provident Life Office v British Railways Board [1995] 2 EGLR 55 established that where a variation of a lease: (a) increases the demise; or (b) increases the term;
then it will take effect as a surrender of the original lease and grant of a new lease.
In this case, a lease included a covenant which was binding on successors and assigns to “pay rents hereinbefore reserved”. The lease was varied so as to increase the rent and alter the alienation and user covenants. The residue of the lease was then assigned to Showhasty Ltd, which subsequently went into liquidation. Friends Provident (as the landlord’s successor in title) pursued BRB (as former tenant) for rent arrears.
BRB’s defence that the variation constituted a surrender and regrant, thereby releasing it from liability, was successful at first instance. However, the Court of Appeal held that:
• a variation of rent alone does not constitute a surrender and regrant; and
• in the absence of an increase in the demise or term, the court was not compelled to find that there had been a surrender and regrant.
In R (on the application of Coker) v London Rent Assessment Panel and another [2006] EWHC 2367 (Admin), the tenant claimed that his previous tenancy had ended by surrender and regrant when the landlord agreed to change the use from business to residential and alter certain provisions in relation to insurance. However, the High Court found that since there had been no increase in the demise or in the length of term, no surrender and regrant had taken place.
Spencer v Secretary of State for Defence [2012] EWCA Civ 1368 is a cautionary tale of a landlord and tenant who entered into a memorandum purporting to add land to the existing demise of an agricultural tenancy and record the corresponding increase in rent. Neither the landlord nor the tenant realised that the effect of the memorandum was to surrender the original lease and grant a new lease.
See also: Metropolitan Properties Co (Regis) Ltd v Bartholomew [1995] 1 EGLR 65 and Tweedie v Souglides [2012] EWCA Civ 1456, CA (Eng).
Landlords
Landlords must be particularly vigilant where a surrender and regrant may be implied because:
i) The “regranted” lease will not be contracted out of the Landlord and Tenant Act 1954 (“1954 Act”) unless the statutory procedure has been followed in respect of the “new” lease. Assuming that the procedure has not been followed (because the surrender and regrant was not intended), this would give the tenant security of tenure under the 1954 Act (assuming the other conditions of the 1954 Act are met). This is particularly relevant for landlords where the original lease was “contracted out”.
ii) If the original (surrendered) lease was entered into before 1 January 1996, and the new one after that date, then the “regranted” lease will be subject to the Landlord and Tenant (Covenants) Act 1995 (“1995 Act”). A landlord will not want this because the tenant would be released from its obligations if it assigned its lease.
iii) A former tenant could be released from its obligations under any agreement or continuing covenant (see below).
iv) A guarantor could also be released from its obligations (see below).
v) The “regranted” lease could also trigger the right of first refusal under section 5 of the Landlord and Tenant Act 1987.
See Kensington Heights Commercial Co Ltd v Campden Hill Developments Ltd [2007] EWCA Civ 245; [2007] 1 EGLR 130.
Tenants
While the tenant may benefit from points (i) and (ii) above, there are also unwelcome consequences of an unintended surrender and regrant for the tenant:
i) As the variation would take effect as a surrender and regrant of a new lease, the tenant would be obliged to pay stamp duty land tax (SDLT) on the consideration for the surrender and regrant (usually the rent). The tenant may be able to claim some SDLT overlap relief.
ii) The regranted lease would have to be registered in the Land Registry as a new lease with a new title number, rather than being noted as a variation.
iii) If the old lease is charged, the lender’s security will vanish when the new lease is granted.
Former tenants
A former tenant will benefit from an unintended surrender and regrant because the lease under which its obligations arise will be surrendered, therefore its continuing obligations under the lease and/or the obligations it guaranteed under the authorised guarantee agreement (“AGA”) will cease.
When considering the effect of a variation on a former tenant, it should be noted that, pursuant to section 18 (2) of the 1995 Act, a former tenant will not be liable to pay, whether under an agreement (eg AGA) or continuing covenant under the lease, any amount which results from a relevant variation of the lease being a variation which the landlord:
• has an absolute right to refuse; or
• would have had a right to refuse but that the lease has been varied up to the date of the relevant variation so that it has no such right.
Therefore, if a variation increases a former tenant’s liability (without its consent) the former tenant may find that, by virtue of section 18 of the 1995 Act, it will not be liable for any obligation to pay resulting from the variation.
Guarantors
A guarantor will also benefit from an unintended surrender and regrant since the lease under which its obligations arise will be surrendered. Again, when considering the effect of a variation on a guarantor, it should be noted that section 18 (3) of the 1995 Act provides that a guarantor will not be liable to pay whether under an agreement (eg an AGA) or continuing covenant under the lease any amount which results from a relevant variation of the lease. If therefore a guarantor does not consent to a variation which prejudices its position, the guarantor may be released from liability.
Guarantors should also be aware of the case of Holme v Brunskill (1878) 3 QBD 495, which established that a guarantor will be released from liability under a guarantee where:
• the terms of an underlying contract are varied;
• the variation is binding on the person whose liability the guarantor has guaranteed; and
• the guarantor does not consent to the variation.
In the more recent case of Topland Portfolio No 1 Ltd v Smiths News Trading Ltd [2014] EWCA Civ 18; [2014] 1 EGLR 38, the landlord granted the tenant a licence to alter which permitted the tenant to carry out structural alterations to the premises notwithstanding that structural alterations were not permitted by the lease. The guarantor had no knowledge of the licence or the works, nor did it consent to them.
The High Court held that the licence to alter constituted a substantial variation to the lease, acknowledging that it increased the tenant’s and correspondingly the guarantor’s liability in respect of repair, decoration and reinstatement. Importantly, because of this and the fact that the guarantor had not agreed to the variation, the guarantor was released from its obligations under the guarantee.
This was upheld in the Court of Appeal, which reiterated that a guarantor will be released from liability when parties enter into subsequent licences or variations to the lease which have the effect of increasing the guarantor’s obligations.
Note, however, that a simple immaterial variation will not release a guarantor. The variation must prejudice the guarantor in order for it to release the guarantor from liability.
See also: Lloyds TSB Bank plc v Hayward [2005] EWCA Civ 466 and Marubeni Hong Kong and South China Ltd v Government of Mongolia [2005] EWCA Civ 395.
HOW TO PREVENT UNINTENDED SURRENDER AND GRANT
The perils of an unintended surrender and regrant can be avoided by employing these alternative approaches:
- Where the parties want to extend the term, they should consider using a reversionary lease instead. In this way, the parties will still have the benefit of the lease for the extended period and also the certainty that the terms during the reversionary lease reflect what has been agreed. Take note that landlords will usually want to link the old and new leases to make sure that both leases have to be assigned together, and that both would fall if one lease is forfeited. A solicitor acting for a landlord will therefore need to include the appropriate wording in the reversionary lease and may also use a deed of variation to add the appropriate condition to the current lease.
- Where the parties want to increase the demise, they should consider using a supplemental lease for that property, once again linked to the first lease.
- Ensure that a guarantor is not released from its obligations by:
- including an express provision in the lease that its liability will not be affected by any future variation; and
- joining the guarantor to the variation to evidence its express consent to the variation.
- Of course, the parties could also consider surrendering the current lease and granting a new lease on agreed terms. With this forethought, the parties can take the appropriate precautions to protect their interests.
WHY THIS MATTERS
A surrender and regrant occurs automatically once a lease is varied to increase the demise or length of the term. Importantly, the intention of the parties is not relevant and an unintended surrender and regrant cannot be undone or set aside just because the parties did not intend that result.
It is also worth noting that the Land Registry will look beyond the name of a deed and if there has been an increase in the demise or length of term, it will treat the variation as a surrender and regrant, closing off the original title and creating a new title for the regranted lease.
This is a disaster for a landlord if faced with an opportunistic tenant who takes advantage of the fact that it now has the right to seek a renewal of the regranted lease or compensation under the 1954 Act. A tenant may also be faced with an SDLT bill that it does not have the funds to pay. Former tenants and guarantors who are aware of this “loophole” will also be able to walk away from their obligations, making the lease far less valuable if the landlord seeks to dispose of the premises.
It is therefore absolutely critical that a surrender and regrant is identified in advance so that the parties can employ alternative approaches to protect their respective interests.
Owen Talfan Davies is a partner and Jessica Branigan is a solicitor in the real estate team at Fieldfisher
