Julie Gattegno begins a two-part series on dealing with insolvent tenants, beginning with options for landlords looking to recover possession.
An inescapable aspect of owning investment property is dealing with financially distressed tenants. With government support through the pandemic, levels of corporate tenant insolvency were down significantly, with the effect of legislation introduced to support struggling tenants during and out of the pandemic often also resulting in greater co-operation and agreement.
As these measures ended, the last two years have seen a significant increase in companies entering creditors’ voluntary (insolvent) liquidation, with levels in 2023 reaching the highest since records began in 1960.
Recent statistics show that corporate insolvencies are now at a 30-year high. The latest monthly report published by the Insolvency Service, for December 2023, shows that the level of administrations is at a fairly similar level to 2022, with the number of company voluntary arrangements 50% up on 2022, though still much lower than the number seen during the 2014-2018 high.
The retail and food and beverage sectors are particularly sensitive to the ongoing economic challenges, with these sectors sitting at numbers two and three respectively in the insolvency chart for 2022 and 2023 (with insolvencies increasing in both sectors in 2023) with only the construction sector faring worse.
With inflation, cost of living, customer pricing and interest rate pressures, restructuring and insolvency measures will remain a key tool in the corporate tenant’s box. This inevitably presents a raft of practical management issues for landlords.
Recovering possession
Different types of corporate tenant insolvency will often trigger a landlord’s right to forfeit the lease. One of the first questions for a landlord is whether it wants to recover possession of the property. In order to ensure the landlord has an opportunity to properly consider its options before making any decision, it should preserve all its rights, including the right to forfeit, which can be very easily waived by early conversations between, say, the landlord’s agent and the tenant’s insolvency practitioner.
So, the first step the landlord should take is to impose a “rent stop”, the colloquial term for the landlord not accepting or demanding rent/other sums and not (by itself or its agents) treating the lease as continuing in any other way, while it takes stock and seeks advice. This means there should be no discussions/correspondence about the lease with the tenant/IP on an open (as opposed to without prejudice) basis.
If the landlord does want to forfeit, the lease proviso must be checked carefully to ensure that the particular type of insolvency entitles the landlord to forfeit (or there is some other breach the landlord can rely on). Notice under section 146 of the Law of Property Act 1925 will need to be served unless the landlord also has an existing right to forfeit the lease for non-payment of rent.
Depending on the nature of the insolvency, certain statutory restrictions may also prevent the landlord from forfeiting the lease without taking additional steps.
Administration
The moratorium imposed on administration precludes forfeiture without (a) the administrators’ consent; or (b) leave of the court.
If the administrator does not require the property for the purposes of the administration, it is very likely that consent will be granted. If refused, the landlord can apply to court for permission. Here, the first question is whether or not the administrator is using the property for the purposes of the administration (and, if it is, the administrator should be paying rent as an expense).
Often, the administrator will sell the business to a third party (whether or not connected to the insolvent tenant) and grant the buyer a licence to occupy. The terms of the sale contract will be critical to this question. If there is deferred consideration, usually contingent on obtaining landlord’s consent to assign the lease to the buyer, then the administrator may be able to demonstrate that it is using the property for the purposes of the administration.
In Re Atlantic Computer Systems plc [1990] EWCA Civ 20, the Court of Appeal provided guidance on applications for permission to forfeit. If granting permission to forfeit will impede the purpose of the administration, the court must carry out a balancing exercise between the landlord’s legitimate proprietary rights and the legitimate rights of other creditors. While the court does give significant weight to a landlord’s proprietary rights, as always, the position will depend on the facts of the case.
Liquidation
In a compulsory liquidation, forfeiture by proceedings (or proceedings for any other claim) can only be pursued with the liquidator’s consent or permission of the court. The lease can be forfeited by peaceable re-entry. Although in theory this may be subject to challenge, the fact the company is insolvent means it is unlikely that a liquidator would seek to challenge a re-entry. If the liquidator was, for example, seeking to assign the lease to a third party for consideration, this is something the landlord should be aware of and can take into account when considering its options.
In a voluntary liquidation (this can be a members’ solvent liquidation or a creditors’ insolvent liquidation), the landlord can forfeit by proceedings or peaceable re-entry unless a creditor, liquidator or contributory has applied to court for an order to restrain.
CVA/restructuring plan
Subject to any moratorium being imposed (eg by administration or a “new moratorium” under the Corporate Insolvency and Governance Act 2020), there is no restriction on the landlord forfeiting by proceedings or peaceable re-entry.
The courts have held that a landlord’s proprietary rights cannot be interfered with by a CVA and this equally applies to a restructuring plan under Part 26A of the Companies Act 2006 (a plan is an arrangement between a company in financial difficulties and its creditors/members, which is sanctioned by the court). However, the terms of the CVA/plan may vary the contractual terms of the lease, which may mean that there are no breaches of the tenant’s covenants as varied.
Disclaimer
Only liquidators have a right to disclaim onerous contracts, including a lease. Disclaimer will end the tenant company’s rights and liabilities under the lease, but does not determine any other party’s rights and liabilities, such as a guarantor or sub-tenant. The landlord will have a claim for loss resulting from disclaimer in the liquidation as an unsecured creditor, which should be provided for. This does require a detailed calculation if there are likely to be sufficient assets for a distribution to unsecured creditors to make this worthwhile.
If there is no other party liable, the lease will end on disclaimer, whether or not the landlord wants possession. Where there are other parties with an interest in the property or liable to the landlord, the lease will continue unless the landlord exercises any right to forfeit.
In the case of a sub-tenant, the lease will continue to give the sub-tenant a continued right of occupation subject to it complying with the insolvent tenant’s lease liabilities (otherwise it is at risk of forfeiture). Subject to the terms of the licence to sublet, the landlord and sub-tenant have no direct contractual relationship, which is far from ideal. Statute resolves this by providing a right for any interested party, including the landlord, to apply to court for a vesting order (within three months of notice of, or becoming aware of, the disclaimer).
Landlords also have a right to serve notice requiring a liquidator to elect within 28 days whether or not to disclaim the lease, or otherwise lose the right to do so (though the IP could potentially apply to court for an extension).
Surrender
If the landlord wants possession, agreeing a surrender of the lease may be preferred if the IP is willing to consent. Discussions with the IP should be on a without-prejudice basis if forfeiture is being preserved as a back-up option or actively pursued on an open basis.
The terms of any surrender need to be considered carefully, so that claims against the tenant are not lost in relation to arrears or in respect of damages claims, such as dilapidations and reinstatement of alterations. In Re Teathers Ltd (in liquidation); Baroque Investments Ltd v Heis and another [2012] EWHC 2886 (Ch); [2012] 3 EGLR 30, the terms of surrender unintentionally precluded the landlord from making certain substantial claims for damages for dilapidations against the tenant.
Tenant insolvency presents myriad issues for landlords to grapple with. Whether or not possession can or should be sought should always be right at the forefront of its decision-making, to avoid either losing opportunities to recover possession which benefit the landlord or, in converse, acquiring a rent void and liabilities it wants to avoid by inadvertently taking possession.
|
Insolvency |
Administration |
Liquidation |
Company voluntary arrangement |
Restructuring plan |
|
Overview |
Restructuring procedure under which the company is given moratorium protection from creditor action, enabling continued trading during restructuring process |
Liquidation of the company’s assets leading to dissolution Two types of liquidation: – Voluntary members (solvent) creditors (insolvent) – Compulsory (insolvent) |
Compromise or arrangement between creditors and company CVA may bind landlord creditor who did not receive notice of and/or vote at meeting where 75% by value voting supported the CVA |
Court-led compromise and/or arrangement between company and creditors and/or members which requires court sanction Classes of creditors who dissent can be bound by plan under a “cross-class-cram-down” |
Effect on landlord’s right to possession
|
Insolvency |
Administration |
Liquidation Voluntary Compulsory |
Company voluntary arrangement |
Restructuring plan |
|
|
Forfeiture – by proceedings |
Not without permission of the court or consent of the administrator |
Yes, but liquidator may apply to |
No, permission of court or consent of liquidator necessary to commence/continue |
Yes, unless administration order or Corporate Insolvency and Governance Act 2021 moratorium If terms of CVA are not complied with, landlord can forfeit |
Yes, unless administration order or 2021 Act moratorium If terms of plan are not complied with, landlord can forfeit |
|
Forfeiture – by peaceable re-entry |
Not without permission of the court or consent of the administrator |
Yes |
Yes, but may be subject to challenge |
Yes, unless administration order or 2021 Act moratorium If terms of CVA are not complied with, landlord can forfeit |
Yes, unless administration order or 2021 Act moratorium If terms of plan are not complied with, landlord can forfeit |
|
Disclaimer |
Not applicable |
n Landlord can serve notice to elect giving liquidator 28 days to disclaim, otherwise power lost n Landlord and former tenants/guarantors can apply for vesting order (within three months) n Landlord can claim for loss arising from disclaimer in liquidation n Rights and liabilities of tenant determine n Existing guarantors remain liable n Former tenants/guarantors remain liable n Former tenants/guarantors can prove in liquidation for loss suffered |
Not applicable |
Not applicable |
Effect on landlord’s remedies
|
Insolvency |
Administration |
Liquidation Voluntary Compulsory |
Company voluntary arrangement |
Restructuring plan |
|
|
Commercial rent arrears recovery |
Not without permission of the court or consent of the administrator |
Unaffected but liquidator may apply to stay/restrain |
No, unless commenced before presentation of petition |
Yes, unless administration order or Corporate Insolvency and Governance Act 2021 moratorium After CVA approved, depends on terms of CVA |
Yes, unless administration order or 2021 Act moratorium After plan approved, depends on terms of the plan |
|
Diversion of sub-tenant’s rent to landlord |
Yes, but may be challenged |
Yes |
Yes, before CVA approved After CVA is approved depends on terms of CVA |
Yes, before plan is approved After plan is approved, depends on terms of plan |
|
|
Drawdown from rent deposit |
Yes, subject to terms of rent deposit and may be challenged |
Yes, subject to terms of rent deposit and may be challenged |
Depends on the terms of the rent deposit and CVA |
Depends on the terms of the rent deposit and plan |
|
|
Pursue any guarantor |
Yes |
Yes |
Yes, subject to terms of CVA |
Yes, subject to terms of plan |
Julie Gattegno is a partner at CMS and is a member of the British Property Federation’s insolvency committee
Read part two: Practical issues in corporate tenant insolvency
