Briefing

High Court says tenants cannot assign to their guarantors

Posted by: Shona Ferguson | Date posted : 30/03/2016

Since 1996, tenants and their guarantors under 'new leases' have been released from their liabilities on an assignment of the lease, but a series of cases has emerged over the last few years clarifying what can and can't be done. On 16 March, the decision in EMI Group Limited v O&H Q1 Limited provided an answer to one of the remaining issues.

The Landlord and Tenant (Covenants) Act 1995 came into force on 1 January 1996 and fundamentally changed the landlord and tenant relationship. Prior to this Act, original tenants and landlords could be liable to each other for the lease covenants even after they had each sold their interest in the property. The Act provided that under 'new leases' (broadly, those granted on or after 1 January 1996) tenants would be automatically released from their liabilities on an assignment of the lease, unless they entered into an 'authorised guarantee agreement' (AGA) to guarantee the assignee's performance of the lease obligations. The release of the tenant applies equally to anyone who guarantees the performance of the tenant's obligations.

The provision of the Act that has caused the most difficulty states that any attempt to get around the effect of the Act is void. This has resulted in numerous cases considering the varied structures that landlords, tenants, guarantors and their lawyers have used to get around the Act and in particular whose liability guarantors are able to guarantee. For example, cases in recent years have decided that an original guarantor cannot provide a guarantee for an immediate assignee of the lease but may provide one for a later assignee. A guarantor may also 'sub-guarantee' the tenant's liability under an AGA.

One of the issues left unresolved after these cases was whether a tenant could assign to its guarantor. In many cases it would be helpful if they could – for landlords, because a guarantor may have better financial standing; and for tenants, because intra-group assignments of leases allow flexibility in the way companies hold property. On 16 March, the High Court decided that a tenant could not assign its lease to its guarantor, even if all parties agreed that it should, because this would mean that the guarantor was not released from its original liabilities as required by the Act. Rather than finding that the guarantor was released, the Court said that the entire assignment was void, so the tenant remained liable, along with its guarantor.

In some ways this may be reassuring to landlords, because even if a tenant tries to assign to its guarantor, the tenant remains on the hook and the landlord will not lose the covenant strength of the tenant's guarantor. On the other hand, this will be unwelcome for tenants – assigning the lease to a guarantor will not work, even where there may be good commercial reasons to do so.

All parties may be concerned about the implications of unravelling a pre-existing transaction – for example, the registered proprietor of the lease (the assignee) may not be the entity which has the true benefit of and liability under the lease, and investors purchasing property will need to look closely at the history of any leases to make sure previous assignments were valid. It remains to be seen whether this decision will be appealed – and if not, whether Parliament will seek to clarify the terms of the Act following this key case.

If you require further information on anything covered in this briefing please contact Shona Ferguson (shona.ferguson@farrer.co.uk; 020 3375 7301), or your usual contact at the firm on 020 3375 7000.  Further information can also be found on the Property page on our website.

This publication is a general summary of the law.  It should not replace legal advice tailored to your specific circumstances.

© Farrer & Co LLP,  March 2016