AUTHOR: Rob Nicholson of Ashfords LLP and Andrew Walker QC of Maitland Chambers
DATE: May 15, 2020
What are the considerations for commercial property forfeiture beyond the Covid-19 moratorium?
Rob Nicholson of Ashfords LLP and Andrew Walker QC of Maitland Chambers look to the future, considering the fine balance between the interests of landlords and tenants, and how the Government or the courts might mitigate the effects of the pandemic.
While the world struggles to contain the Covid-19 virus, the Government has launched an eye-watering support and stimulus package. The recovery phase for the UK economy is some way in the distance, and when we do enter that phase, it will no doubt start slowly and only pick up speed over time, as consumer and business confidence returns.
A crucial, and significant, part of the UK economy is the commercial property market; from retail to office space, leisure to logistics, it is a part of every economic sector.
In the post-pandemic market, landlords and tenants will face huge challenges. Both will be suffering from a lack of cash, revenue and profits, whether caused by the inability to trade, falling sales, or reduced rental and other income. Both are likely to experience the shock effects of insolvency – of themselves or others.
The Coronavirus Act 2020
Parliament has already stepped in to try to “pause” the possible fallout from the economic downturn by enacting section 82 of the Coronavirus Act 2020 (which places a moratorium on new forfeitures until 30 June 2020). Although this puts a pause on new forfeitures in the short term, and the period of pause can be extended, it will do nothing to prevent forfeiture as soon as the period ends. It will not help tenants in financial difficulty hold on to their leases if landlords want to forfeit.
But is this really a cause for concern? Many believe not. In difficult times, demand by tenants for commercial property is likely to be significantly reduced, so why would landlords forfeit? Indeed why would a landlord take any action against a tenant that might push it into crisis? Many retail landlords, in particular, are likely to have too much vacant property on their hands, and to be actively looking for new uses and occupiers.
In difficult times, demand by tenants for commercial property is likely to be significantly reduced, so why would landlords forfeit? Indeed why would a landlord take any action against a tenant that might push it into crisis?
There is no doubt much truth in these theories, but there are two compelling reasons to suggest that at least some landlords may act. The first is self-preservation. Landlords will need income; and if they cannot get rental income, they will need to realise capital. Lender pressure and financial covenant breaches may also drive a need to sell. Buyers with cash will be looking for bargains, and many will want development and change-of-use opportunities, not distressed tenants in declining sectors. There may be many situations in which it makes sense to secure vacant possession.
The second is profit – maybe not immediate profit, but in the medium term, as the UK economy recovers, values will increase again. A landlord may have a flagship commercial property, or a property that is the key to unlocking a wider development, which is occupied by a long-standing tenant in a declining sector protected by the Landlord and Tenant Act 1954. Any “normal” action to remove the tenant – using ground (f) perhaps – would bring about a significant statutory compensation payment. The tenant may have traded well historically and always paid its rent on time. It has a viable business, and will recover from the impact of Covid-19, but perhaps for the next 18 months to 2 years it will struggle to pay its full rent quarterly, monthly or with any regularity at all. Some landlords may be tempted to risk public or market opprobrium and take the opportunity to forfeit.
Both scenarios are realistic, and the Government needs to give careful consideration to the consequences of failing to address them.
Further intervention?
What form might an intervention take? The moratorium on forfeiture might be extended, and landlords may be given similar breathing space by their banks. But what about beyond that? Might we see an ongoing moratorium, or a temporary regime for relief from forfeiture, for those who satisfy some sort of Covid-19 means test? How might that work in practice?
One possibility could be to implement a two-stage test for avoiding forfeiture, or achieving relief on more flexible terms, whenever the breach is connected with the tenant’s financial position. Stage 1 might involve a broad assessment of whether the tenant’s business was viable before the Covid-19 crisis. Any test would need to be at a fairly high level, and avoid prescription: the purpose would be to filter out those businesses that were likely to fail in any event. For those tenants who satisfy that test, Stage 2 could involve assessing the impact of Covid-19 on the tenant, leading to a schedule for the payment of rent arrears and future rent for a set period of years. This would be based on realistic expectations of the tenant’s gradual recovery, and balance the interests of both the tenant and the landlord.
One possibility could be to implement a two-stage test for avoiding forfeiture, or achieving relief on more flexible terms, whenever the breach is connected with the tenant’s financial position.
While we fully expect the majority of landlords to do what they can to assist viable tenants, we fear that the worst financial impacts of the pandemic will not be avoided unless the Government acts. Unless it can provide more direct financial support to enable commercial rents to be paid when due, we will need legislation to control the excessive use of forfeiture and debt recovery by landlords against tenants while arrears are paid over time, and also ensure that landlords have breathing space to accept this. Without legislation that caters for the direct and indirect financial consequences of the pandemic, too many of the very businesses that need to recover in order to create jobs and kick the economy back into life will simply not be there. Without intervention, when normal market forces resume, we can expect a surge in forfeiture and landlord and tenant disputes – and potentially litigation – which will undermine the economy’s ability to recover.