In the third and final part of her agreement for lease series, Sue Highmore analyses some of the more unusual provisions such agreements can cover, including those governing assignment of rights and tenant access to the property
There may be a long gap between signature of the agreement for lease and grant of the lease, perhaps because there are conditions to be satisfied (eg securing consent from third parties or an acceptable planning consent) or the landlord has to carry out works. During this period either party may be subject to a change in circumstances. A corporate reorganisation may change the group company that holds property, the tenant may no longer need premises in that location, or the landlord may run out of money and need to transfer the project to another developer. For this reason, agreements for lease may include provisions governing when assignment of rights is possible, or securing release from obligations.
Assignment of rights
Common law allows assignment of the benefits of a contract (unless expressly prohibited in the contract itself) but not the burden. If the landlord sells its interest in the property, the tenant cannot seek specific performance by the purchaser of the obligations in the agreement for lease. Instead it must sue the original landlord and can recover only damages. The Landlord and Tenant Covenants Act 1995 (“LTCA”) modifies this, passing to the assignee both the benefit and the burden of covenants in a tenancy (which includes an agreement for lease), other than any which are expressed to be personal to the original party.
Ridgewood Properties Group Ltd and others v Valero Energy Ltd [2013] EWHC 98 (Ch); [2013] PLSCS 36 creates even more confusion. This case applied the common law rules to the assignment of an obligation on which grant of the lease was conditional. The justification was that the obligation was a condition precedent, so no “tenancy” (for LTCA purposes) arose until it was discharged.
The best way to proceed is to set out in the agreement for lease whether assignment is prohibited, permitted with consent, or permitted freely. It is worth bearing in mind the commercial objectives of the parties when selecting.
The landlord probably chose this tenant carefully for its covenant strength and (for retail property) its profile and reputation. The landlord may expect this tenant to draw in shoppers (an “anchor tenant”) or contribute to a good tenant mix, and may have offered attractive terms to secure it. In an office development, the landlord may select a tenant known for the quality of its fit out. Having done so, the landlord will not want the tenant to escape by assigning its interest in the agreement for lease. They will want their chosen tenant to complete the lease even if it then uses the alienation regime to pass the property on. So the agreement for lease will prohibit its assignment (as is done in Standard Commercial Property Condition 1.5.1). With less crucial tenants, it may permit assignment with consent (so that the landlord can at least vet the covenant strength of the proposed assignee).
Where the tenant is expecting a new, high quality property, it will choose its landlord equally carefully, checking their reputation for quality and timely delivery. Ideally the tenant would prevent the landlord assigning the agreement for lease. However, this means prohibiting the landlord from selling its freehold interest in the property or granting a headlease from it and few landlords will agree to this.
If the lease is to be contracted out of the Landlord and Tenant Act 1954 Pt II it is sensible to prohibit assignment of the agreement for lease by the tenant. Permitting assignment could invalidate the contracting out. For the reasons explained in part one of this series (Agreements for lease, EG, 16 January 2016, p64), the preliminary notices will be exchanged before the agreement for lease is exchanged. If either party subsequently changes, so that the lease is granted by or to someone different to those on the preliminary notices, the tenant may argue that the original contracting out procedure was ineffective as it relates to the wrong parties. No case has yet established whether this argument is correct, but few landlords would take the risk, as discovering the lease has security of tenure could adversely affect the investment value. So the agreement for lease will prohibit assignment by the tenant, but rarely by the landlord, even though exactly the same argument could apply.
Automatic release from landlords’ covenants
On assignment, the landlord wants all its obligations under the agreement for lease to pass to the assignee, and complete release for the assignor. This is not possible under common law, and is only possible under LTCA with tenant’s consent to the release.
Instead the agreement for lease may be drafted to make release automatic. This exploits the wording upheld by the House of Lords in Avonridge Property Co Ltd v Mashru and others [2005] UKHL 70; [2006] 1 EGLR 15. Instead of saying the assignor is released from liability, the clause limits the duration of the obligation to the period until assignment. That case upholds this approach for the original landlord. It is not known if extended wording could work for all assignee landlords.
The reverse of this is making covenants (by either party) expressly personal. This abrogates the LTCA rule that liability passes to the assignee. Instead the original party remains liable for performance of the personal obligation post assignment. An original landlord might agree this to reassure a purchaser of the freehold that it will not inherit liability under the construction obligations in the agreement for lease. It is prudent not to make covenants personal unless the assignor can be sure of securing their performance post assignment.
Tenant access before lease completion
Once any conditions are satisfied and the landlord’s works are practically complete, the tenant will want to get in to start its fitting out works, so it can start trading quickly. Whatever the agreement may define as the time for completion of the lease (usually a set number of days after satisfaction of the last condition), in reality it may take some time to get the lease engrossed, with all its attachments, and circulated for signature. A knowledgeable tenant may require access during this period, so as not to waste time. Permitting this is a two-edged sword, as it reduces the tenant’s incentive to agree the form of the lease and sign quickly. While it may be acceptable to allow early access for carrying out fitting out works, it is much more dangerous to permit the tenant to trade before the lease is completed. Yet a tenant with few works to do will fight fiercely for this wider right of early occupation.
If the transaction is complex, and the tenant is doing really significant works, perhaps even taking on some of the work that the landlord would conventionally do with the benefit of a capital payment from the landlord, then the tenant may argue for even earlier access, before the landlord has completed its works. This is called a “shell and core” agreement for lease and is too complex to examine in detail here.
If you are instructed to permit early access, then it is worth addressing in your drafting all the following issues:
- the earliest point for tenant access;
- what the tenant can do;
- the legal basis of occupation (usually a licence);
- how the tenant should behave (usually it must observe the terms of the lease as if it had been granted);
- restricting disruption to the landlord’s works;
- a regime for dual access to the site; and
- reinstatement of works if the lease never completes.
Timing of landlord’s capital payments
Where the landlord has agreed to pay a contribution to the cost of the tenant’s works, there will be tension over when this is to be paid. The tenant will want the money early on, for maximum cash flow advantage. A prudent landlord will want to ensure that works of equivalent value to the contribution have first been carried out to the property. That avoids the risk of the unspent contribution being lost to the general creditors if the tenant becomes insolvent. Who wins on this is a matter of bargaining strength, and the amount of the contribution. Where the payments are substantial, and the tenant is carrying out significant works, then the agreement for lease is likely to provide for staged payments, with a regime for inspection of the tenant’s works before the money is paid. This is particularly true of shell and core agreements for lease.
Why this matters
Agreements for lease can last a long time. The lease may not be granted until months after the agreement was signed, once the conditions have been satisfied, and (for a new property) construction finished. During this limbo period, either party to the agreement for lease may find their circumstances change. Should they be able to assign their rights and obligations under the agreement for lease, even though this forces the other party to deal with someone new? Or should such assignment be prohibited? It is important to identify where the risks lie and draft something appropriate.
The landlord’s main concern is to get the lease completed with a tenant of the right calibre and covenant strength. This has a direct effect on the investment value of the property. However, the reality is that completing the lease can take many weeks post practical completion of the landlord’s works. This may be because the original sketch plans need to be updated to reflect the “as built” property, or because relevant signatories are abroad at the crucial moment. While all that is going on, the property will be standing empty, and the tenant will be keen to get in and start fitting out, possibly even to start trading. It is not usually a good idea to allow either, as it disincentivises the tenant from ever completing the lease. So you will have to choose between:
- prohibiting tenant access altogether unless the lease is completed first;
- permitting tenant access to do works after the landlord’s works are finished but before the lease is granted (this may be extended to allow occupation for other purposes; or
- permitting tenant access to do works while the landlord’s works are still continuing (often called a “shell and core” agreement for lease).
The agreement for lease must set out clearly when access is permitted, for what purpose and on what terms (financial or practical).
The other source of trouble can be the timing of cash contributions from the landlord to the tenant, often used as an incentive to get anchor tenants to sign up. The landlord must ensure that the money is invested in works to the property, and does not disappear on tenant insolvency. Crafting a staged payment regime may be the best way to achieve this.
Looking back over the three articles in this series, it is easy to see why an agreement for lease can become a long and complex document.
Sue Highmore is an editor with Practical Law Property and a freelance writer
