Completing our in-depth analysis of the EMI case, Allyson Colby articulates her own dissatisfaction with the state of the law
Key points
- Assignments of leases made on or after 1 January 1996 between assignors and their guarantors are void
- The decision has serious implications for landlords and tenants in relation to both past and future transactions
Unusually, the Law Commission’s recent consultation paper on land registration invites views on an entirely different piece of legislation. Conscious of dissatisfaction with aspects of the Landlord and Tenant (Covenants) Act 1995 (“the Act”), the authors wish to gauge whether there is sufficient support for a separate project to address its flaws. In this writer’s view, legislative reform cannot come a day too soon.
The statute was enacted to ensure that tenants and their guarantors were released from liability to their landlords on the lawful assignment of a lease granted on or after 1 January 1996. Importantly, it includes an anti-avoidance provision in the form of section 25 which, according to Lord Nicholls in Avonridge Property Co Ltd v Mashru and others [2005] UKHL 70; [2006] 1 EGLR 15, is “to be interpreted generously, so as to ensure the operation of the Act is not frustrated, either directly or indirectly”.
The AGA saga
The property industry christened the debate that followed “the AGA saga”. Could landlords keep outgoing tenants’ guarantors on the hook during the period of any authorised guarantee agreement (“AGA”), or would such an arrangement fall foul of section 25? In K/S Victoria Street v House of Fraser (Stores Management) Ltd [2012] Ch 497; [2011] 2 EGLR 11, the Court of Appeal indicated, without actually deciding the point, that an outgoing tenant’s guarantor can guarantee an outgoing tenant’s liabilities under an AGA, even though it cannot guarantee the liabilities of the incoming assignee.
In the course of his judgment in K/S Victoria, Lord Neuberger, now president of the Supreme Court, caused consternation by suggesting that the provisions in the Act would “appear to mean that the lease could not be assigned to the guarantor, even where both tenant and guarantor wanted it”. The property industry was appalled.
The point was raised, but not decided, in UK Leasing Brighton Ltd and others v Topland Neptune Ltd and another; Zinc Cobham 1 Ltd and others v Adda Hotels (an unlimited company) and others [2015] EWHC 53 (Ch); [2015] EGLR 20 (in which the judge described Lord Neuberger’s suggestion as “obiter and somewhat tentative”) and has now been tested in EMI Group Ltd v O & H Q1 Ltd [2016] EWHC 529 (Ch); [2016] PLSCS 87.
The case concerned an assignment by a company in administration to – and at the instigation of – its guarantor. Shortly afterwards, the guarantor asserted that, although the assignment of the lease, and the subsequent grant of an underlease (to a company with a name similar to that of the previous tenant), were both valid, it was not liable on the tenant covenants in the lease, courtesy of section 25. However, it was prepared to accept that the forfeiture provisions in the lease remained operative and that the landlord would be entitled to forfeit if the rent was not paid.
Effect of assignment
It could be argued that the Act operates in different ways. On an assignment, section 24(2) operates to release a guarantor from its guarantee. However, where the assignment is to the guarantor, section 3(2)(a) imposes the burden of the tenant covenants on the guarantor. Could it be, therefore, that neither provision should be allowed to frustrate the operation of the other?
Deputy judge Amanda Tipples QC noted that the “whole thrust” of the Act is that tenants and guarantors should not remain liable under leases that have been assigned (except by virtue of an AGA). Furthermore, K/S Victoria stressed the need for an actual period of release before any re-assumption of liability under a lease.
She reasoned that the statutory provisions for the release of the outgoing tenant and its guarantor, and for the incoming tenant to assume liability under the lease, all operate at the same instant. So, if a tenancy is assigned to a guarantor, there is no moment in time in which the guarantor is actually released from its liabilities in respect of the tenant covenants in the lease. Therefore, a guarantor cannot take an assignment from the tenant whose tenant covenants it has guaranteed because it would not be released from liability in relation to the lease.
The judge accepted that this might be unattractively limiting and commercially unrealistic, but that was neither here nor there. However, the court was required to take a balanced approach when neutralising agreements that frustrate the Act, and to use its common sense. If the guarantor was right and the obligation to pay rent was void as a result of the assignment, then it must follow that the landlord could not re-enter if rent was not paid, because no rent would be due. To quote the landlord’s barrister, this would create “a Frankenstein’s monster of a tenancy”.
Consequently, the deputy judge preferred the landlord’s argument that the assignment was a nullity. The lease remained vested in the original tenant and the guarantor was still liable under its guarantee.
Troubling implications
The decision will have serious implications for both landlords and tenants, and for company reorganisations, unless and until it is reversed. It also leaves us wondering about the effect on the underlease in this case and, more generally, about the effect on tenants at the end of a chain of assignments that include a previous assignment by an assignor to its guarantor.
Worryingly, the deputy judge may have set another hare running following a brief reference to a suggestion, made in the course of argument, that assignments into the joint names of an assignor and assignee may frustrate the Act because the assignor would not be released as a result. Will the spectre of nullity now haunt such commonplace transactions as well?
Allyson Colby is a property law consultant
