In the current landlord and tenant environment, where a landlord’s ability to forfeit leases for non-payment of rent has been restricted and many tenants are insolvent (so that debt proceedings would achieve little), landlords will be looking elsewhere to recover unpaid rent and enforce other tenant obligations – which can include reliance on a guarantee.
It is usually very difficult for a guarantor to get out of a guarantee. Most modern guarantees are drafted so as to exclude all of a guarantor’s legal and equitable rights. There are, however, limited circumstances in which a guarantor can escape liability.
Inadvertent release of guarantor
The rule in Holme v Brunskill (1878) 3 QBD 495 established the basic principle that any amendments to the lease agreed between landlord and tenant would discharge a guarantor’s liability unless the guarantor consented to the variation or the variation was patently insubstantial or incapable of adversely affecting the guarantor.
In short, a guarantor’s liability extends only to that which it agreed to accept and is not to be taken as agreement that its liability would be increased or made more onerous by a subsequent agreement between the landlord and tenant to which it is not a party.
Where a variation has occurred, the landlord has to show, applying an objective “desktop” assessment, that the nature of the alteration would only be beneficial to the guarantor or could not in any circumstances increase the guarantor’s risk.
This is a trap for the unwary landlord. The rule operates regardless of parties’ intentions, and its strict application can release a guarantor from liability even as a result of an apparently trifling variation. If the variation could prejudice the guarantor, the test for release is met and it is immaterial that it has not in fact done so or that the likelihood of it doing so is remote.
In practice, the rule can operate harshly. In Topland Portfolio No 1 Ltd v Smiths News Trading Ltd [2014] EWCA Civ 18; [2014] 1 EGLR 38, a licence for tenant’s alterations released the guarantor’s liability. This was despite the landlord having acquired its reversionary interest years after the licence was granted and despite the guarantor having constructive knowledge of the variation as parent company of the tenant.
The definition of “demised premises” in the lease expressly included additions, improvements and alterations. The landlord argued that the test for release was not met because it was inherent in the lease that the covenants would apply to the premises as altered. However, the court held that because the lease contained a prohibition against alterations, any increase in the burden could only have been made with the lessor’s consent outside the framework of the lease. The extension of the tenant’s obligations to the altered premises amounted to an unanticipated increase that had not been consented to and was potentially prejudicial to the guarantor.
Topland was left with significant rent arrears and an empty property (plus, one suspects, a hefty liability for the guarantor’s legal costs). This case is a real-life illustration of the importance of transactional lawyers getting to the bottom of a guarantor’s liability pre-acquisition as part of the due diligence process. A failure to do so can result in one’s client ending up with something markedly different to that they bargained for.
However, the rule only applies to guarantee obligations and does not apply to a primary indemnity obligation where the principle of co-extensiveness does not apply (as the court recently confirmed in Brown-Forman Beverages Europe Ltd v Bacardi UK Ltd [2021] EWHC 1259 (Comm)). The distinction turns on the specific wording of the document in question. This may be difficult to determine in practice and, to avoid the risk of inadvertent release, landlords should always ensure that the guarantor’s obligations are described as both.
Failure to serve notices on time
When seeking to pursue outstanding sums from a guarantor of a former tenant (or from a former tenant who has given an authorised guarantee agreement), landlords must also be mindful of the controls and timescales laid down by the Landlord and Tenant (Covenants) Act 1995.
Section 17 provides that a former tenant or guarantor shall not be liable to pay any amount payable in respect of any fixed charge unless “within the period of six months”, beginning with the date when the charge becomes due, the landlord serves a notice complying with subsection (2). The definition of fixed charge in the 1995 Act includes rent, service charge and any liquidated amount payable under a tenant covenant.
The six-month deadline is a short one, and section 17 provides no power to extend time for the service of a notice under it. The service of a section 17 notice is a necessary component of the cause of action to recover the fixed charges, and any failure by a landlord to serve the notice by the end of the six-month period would afford the former tenant (or guarantor) a complete defence to the claim to recover sums due (see Bloomfield v Williams [1999] EWCA Civ 807).
Repeat guarantees won’t work
When presented with a guarantee, it is vital to consider not only the guarantor’s existing position, but whether it has given previous guarantees, as this has the potential to nullify the guarantee entirely.
In particular, any agreement relating to the tenancy which involves a continuing or “repeat guarantee” by the same guarantor would flout the broad anti-avoidance provisions in section 25 of the 1995 Act. That encompasses:
- An agreement for the guarantor of the assigning tenant to guarantee a future immediate assignee of the lease, whether on immediate assignment or at any point in the future (ie as a condition of assignment); and
- An agreement by a tenant to assign its lease direct to its existing guarantor.
“Repeat guarantees” are void under section 25 on the basis that they envisage the existing guarantor taking on a new guarantee liability at precisely the moment when the 1995 Act provides that they should be released under section 24. They are void even if given voluntarily. So, for example, it is not open to an existing parent company guarantor to willingly offer a similar guarantee to a subsidiary company on an intra-group restructuring, no matter how commercially advantageous that might be.
This can have disastrous consequences for landlords and will affect the value of the property where the covenant strength lies with the guarantor. The assignment remains valid even if the guarantee is void, which can leave a landlord with a special purpose vehicle tenant with no covenant strength and without the backing of any guarantee whatsoever.
Landlords therefore need to take particular care in relation to these issues when dealing with tenants and guarantors where there have been multiple intra-group transfers.
Ignorance can lead to disaster
A commercial landlord’s ability (or inability) to rely on a well-capitalised guarantor will be an issue of crucial importance and a source of real value to a purchaser of investment properties when faced with a tenant of questionable financial standing. Yet, in practice, enforceability is not guaranteed. The issues identified above are too often overlooked, and can have potentially disastrous consequences for unsuspecting purchasers (and possibly also their solicitors if they do not identify the issue), particularly in times of economic uncertainty.
Practical points for landlords
- Prospective landlords should be wary of ad hoc arrangements that may have varied the landlord and tenant relationship and made the guarantee unenforceable. They should consider whether there is a sufficiently clear “anti-Holme v Brunskill” clause and whether the guarantor obligations also impose indemnity obligations that are wholly independent of the tenant’s liability, and not simply a “pure” guarantee.
- Landlords should join existing guarantors as parties to any agreement to vary the lease, including all licences. If a guarantor is not prepared to be a party, its express consent to the variation should be sought. If that is not forthcoming, landlords should consider whether they have any lawful basis to refuse consent to the relevant variation.
- Landlords should remember to serve a section 17 notice within the six-month deadline, to keep former tenants and/or guarantors on the hook. They should: plan in advance and not leave it until the last minute; check any specific service provisions in the lease, the address for service and whether there is any agreement as to that address; and note and diarise the deadline for service. Where the final value of the fixed charge is yet to be determined when the section 17 notice is served, they should remember to serve a further notice within three months of the date on which the final amount is determined.
- Landlords should always ensure that guarantors being offered are not the same as the current guarantor and that leases do not make provision for repeat guarantees.
Mark Reading is a legal director at Mishcon de Reya and Myriam Stacey QC is a barrister at Landmark Chambers
