Coronavirus: How does it affect commercial leases?

Recent events are putting considerable strain on corporate occupiers of leasehold premises, particularly in the retail and leisure sector. Set out below are some options available relating to commercial leases and information gathered from speaking with others in the industry.

Tenants must check their individual leases, as all leases are different, but the below is the “usual” position under leases generally. It is unknown how landlords or the courts will react to any action taken by tenants, so this briefing is simply an opinion and not advice. Before taking any action, a tenant should seek formal advice from their lawyers who can also review any side letters/agreements for you that landlords may require.

1. Staying open

Most retail and leisure operators have now been ordered to close. Whilst many retail and leisure leases contain on obligation to remain open, they would usually allow closure where required by law and usually leases require tenants to comply with any legal requirements relating to the property.

The following therefore only applies to a select few retailers allowed to remain open by the Government (chemists, supermarkets, DIY stores and funeral operators, generally).

In relation to those retailers, their leases may allow closure where remaining opening is no longer possible due to force majeure events, which should cover closure due to Covid-19, particularly where tenants have a duty to protect the health of their staff.

If such an exclusion is not present, it is thought to be very difficult to enforce “keep open” clauses unless the tenant is the anchor in a scheme. Otherwise, at best, landlords can seek damages for failing to open but this is difficult to prove and presumably more so in this environment where other tenants are also closing (with most forced to close) for the same reasons.

However, care needs to be taken in turnover rent (and some other) leases where they contain a penalty for closure in breach of a “keep open” provision. Some leases allow the landlord to charge 25% or more of base rent as a penalty and, in turnover rent leases, even if no penalty applies, you may still pay a turnover rent based on an average daily turnover for days closed in breach of these provisions rather than no turnover rent at all.

However, some consider that where closure is due to a duty to protect the health of staff, and not just to avoid paying rent, then it may be that a court would not enforce payment of any penalty, especially where closure is enforced by the Government.

2. Rent and service charge

The rents are unlikely to be suspended under the lease insurance provisions, which usually relate to property-only matters (relating to property damage) and indeed landlords will see the current outbreak as being a tenant’s business risk and a matter outside the lease.

Fortunately, S.82 of the Coronavirus Bill 2020 proposes to prevent landlords either from effecting forfeiture or, if they already have an order for possession to be enforced, enforcing a possession order between the day after the Bill becomes law and 30 June 2020, for non-payment of rent. “Rent” includes any sum a tenant is liable to pay under a business tenancy.

However, whilst a moratorium on lease forfeiture (termination) is currently in place, refusing to pay the lease rents could still entitle the landlord to issue a petition to wind up the tenant company, instruct bailiffs to collect goods of the value of the lease rents or make claim for losses/payment in the courts. This could involve the tenant being wound up or incurring costs in legal proceedings. The moratorium on forfeiture is only temporary and any rents not paid will remain due once the moratorium has been lifted. On that basis, you may consider that simply writing to the landlord with a refusal to pay the rents for the foreseeable future is not recommended.

Practically, the question arises whether, in the current environment, landlords will forfeit leases in the future and be left with voids they can’t fill if the majority of tenants have under paid rent. However, there is no guarantee and it would depend on each lease, property and landlord. Already we have seen landlords threaten to take action when faced with a refusal from their tenant to pay the rent.

So what can tenants do to ease the burden?

– Some clients are making it clear they will pay the March quarter rent bill but only one month at a time. This may be some form of mitigation if a landlord objects to the proposal, as the tenant hasn’t refused to pay the rent and has already put forward a payment plan, but again advice is required in each case. If the landlord does not agree, it would retain its rights to enforce the recovery of any shortfall.
– Speaking with the landlord to discuss the issues and any potential solutions should be the first port of call. Tenants could ask the landlord:

• for monthly rental payment rather than quarterly;
• for a moratorium on rental payments for 3–6 months. If the landlord objects to a moratorium, the tenant could suggest that those rental payments are then spread over the following 6 months once all has returned to normal;
• for a reduction in rent; or
• that the rent is permanently or temporarily converted to a turnover-only basis; or
• that the rent is reduced by 50% so both landlord and tenant “share the pain”.

However, how landlords will react to any such proposals in each case is likely to be different. Before taking any action, a tenant should seek formal advice from their lawyers who can also review any side letters/agreement.

Landlords and tenants must recognise that to co-operate with each other at this time would make the most commercial sense. In fact, market intelligence seems to be that most retail and restaurant companies are asking for at least one of the above from their landlords and some are aggressively refusing to pay rent. Whether anyone can read into that that landlords will not refuse or won’t take action against “the herd”, is a commercial decision for each tenant.

3. Failure to pay rent

There are other ancillary issues that may also arise:

(a) Many tenants have personal concessions, such as reduced rents or turnover-only rents, by way of a side letter, but almost all of such arrangements are contingent on continuing to pay the rents (and in some cases remaining open). On that basis, failure to pay rent (and closure, even though legally required) could lead to the loss of those concessions and potentially a sharp increase in rent.

(b) It is possible that failure to pay rent or any other material breach of the lease could lead to the landlord opposing the renewal of a lease under the Landlord and Tenant Act 1954.

(c) Where break notices have been served it is not uncommon for break rights to require all rents to be up to date as at the break date. Therefore in order to avoid a situation whereby the landlord seeks to argue that the break notice is invalid for arrears of rent, depending on when the break date will fall you may either wish to pay the rent due or ensure that any agreement with the landlord to defer/suspend rent for a period deals expressly with the break rights remaining valid.

(d) Many tenants have given a rent deposit and so usually a landlord would have a right to simply deduct the underpaid rent from the deposit. Most deposits then require an additional payment into the deposit account by the amount withdrawn which would be enforceable in court.

4. Insurance

Tenants should also check their insurance policies as to whether losses due to viruses are covered. Companies may well have the following insurances which they may wish to check:

• General Liability insurance;
• Business Interruption policy (either a standalone or part of a General Liability policy attached as an endorsement);
• Crisis Management insurance; and
• Mitigation insurance.

However, early indications seem to be that Covid-19 is not covered, notwithstanding enforced closure, and in fact AXA has published a bulletin that most insurances won’t cover a virus unless it is expressly mentioned in a policy, which it will not be. It may be possible to make a claim for losses by act of God if this clause/risk is in the policy.

5. Termination

If you don’t have a lease event such as a break date or lease expiry, you will not be able to terminate your lease. A lease cannot be said to be “frustrated” as a result of the outbreak of Covid-19 and so at an end in these circumstances, and it is highly unlikely a lease contains a force majeure clause permitting termination.

6. Landlords closing centres and common parts

If a landlord closes a centre or any common parts, you will need to check the lease as to the landlord’s obligations and any potential claims. Certainly in this case, your service charge payments should be reduced or suspended, but again tenants will need to check their leases.

Going forward, force majeure clauses allowing termination, or at least closure, and providing for the cessation of rents should be included in all new leases.

For further advice on your commercial lease, please contact Stuart or Laurence using the below details.