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Insolvency and Forfeiture – A gentle reminder for hard times to come

As the cost of living crisis increases and a long recession looms, there will be tough trading conditions and many landlords will need to consider how to deal with tenant insolvency.

Forfeiture – An Introduction

Where expressly included in a lease, forfeiture is a right for the landlord to terminate the lease for a tenant breach of a lease covenant or under specific circumstances, which usually include acts of insolvency. Where this right arises, the landlord will need to consider whether they wish to exercise the right to forfeit through peaceable re-entry or otherwise. If they elect to do so, they need to ensure they have not communicated, either expressly or inadvertently, to the tenant that the lease is continuing. To do so would waive the right to forfeit.

Commercial Insolvency – An introduction

There are various types of insolvency which a commercial tenant may enter into, but the most relevant three are administration, company voluntary arrangement (CVA), and winding up (liquidation).

Administration

    Administration is akin to restructuring the company in order to save it from being wound up (liquidated). An administrator is appointed in order to carry out the daily business of the company and restructure it or sell the business as a going concern. As part of this process, rent is often paid as an expense of the administration, assuming the premises are not surplus to requirements.

    CVA

      A CVA is an agreement between the debtor (in our case the tenant) and its creditors, including landlords, who vote on reducing the debtor’s liabilities to ensure its survival. Once in place, there are restrictions on what a creditor can and cannot do under the CVA.

      Winding Up

        Winding up occurs usually when the tenant is insolvent, and any assets are sold off to settle its debts. This is either done voluntarily by the debtor, or where a Court orders the company is to be wound up.

        Where Forfeiture and Insolvency Collide

        Forfeiture is referable to two types of breaches, a continuing breach and a once and for all breach. This is an important distinction to be made as a continuing breach may be waived inadvertently by a landlord, but with each day the breach continues, a fresh right to forfeit arises.

        However a once and for all breach is fatal to the landlord’s chances of forfeiting the lease if they waive their right to do so after the breach occurs. An example of this would be unlawful assignment or subletting as that is a one off action by the tenant. If the landlord subsequently affirms the lease, they accept the position and lose the right to forfeit because of it. Administrations often involve “pre-pack” sales to phoenix or other unknown entities and this may include an unauthorised transfer of rights which is prohibited under the terms of the lease.

        Insolvency is generally considered to be a one off breach, so it is important to decide quickly whether to try to forfeit the lease, to avoid inadvertently waiving the right through acquiescence.

        Administration/Winding Up and Forfeiture

        If a tenant enters into administration, consideration should be given to whether an administrator can turn the company around. If the restructuring plan seems sound, would forfeiture achieve a better financial outcome?

        If forfeiture does seem appropriate, a rent stop should be put in place and a section 146 notice served. The latter step is always required for forfeiture, unless solely for non-payment of rent.

        If a tenant is being wound up, forfeiture is likely to be the preferred option to get the property back as soon as possible and again, a rent stop and s146 notice should be put in place as a matter of urgency.

        However a word of warning, if the tenant is already in administration or is being wound up, Court permission or the consent of the liquidator/administrator will be needed to forfeit the lease. The Court will have in mind the recovery of the business as well as the position of creditors overall, which may not assist the landlord, if they can achieve a higher income from a new tenant.

        The landlord will also want to think about the future prospects for letting or developing the premises and exposure to liability for empty business rates and insurance issues. Deferring recovery of possession may mitigate exposure to these costs.

        CVA and Forfeiture

        The circumstances of a CVA may be more nuanced. Will the landlord achieve a higher income under the CVA than if the lease is forfeit, with the risk of voids, business rates liability, fit out costs, and uncertain reletting the unit in the current market?

        Various established tenants have previously restructured their businesses through a CVA and now appear to be trading strongly.

        If it appears forfeiture is the best option, then fast action is required, preferably before a vote on the CVA. By voting against the CVA, the landlord may be waiving the right to forfeit by asserting a wish for the lease to continue as is. Similarly, by voting for the CVA, the landlord is accepting the position. Careful consideration of the proposals is required.

        The Best Course of Action

        Up to date information about a tenant’s circumstances will be invaluable and may enable a pre-emptive strike before an insolvency regime limits the landlord’s options. There is much to think about when deciding whether to forfeit, and factors must be considered quickly to avoid waiving the right by treating the lease as continuing.

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