Last year saw a flurry of cases in which tenants failed to persuade the courts they had complied with the conditions necessary to exercise break rights in their leases. In the first reported break case of 2013, the High Court has found a possible chink in landlords' armour. The decision is a potential source of comfort for those who do manage to break their leases, but it's not game, set and match for tenants yet.

Key points

  • Where rent or other payments fall due before a break date, they will usually be payable in full, although the position will always depend on what the lease says
  • A tenant who apportions payments in this situation runs the risk of invalidating the operation of the break
  • However, once the break has been validly operated, the tenant may be entitled to a refund of payments referable to a period after the break date. This will be the case where the lease expressly provides for refunds, or where the lease is silent but such a term can be implied
  • The High Court has ruled for the first time on a situation where an obligation to refund rent could be implied into the lease. But, each case will depend on its own facts

Background

Tenants' break rights are often subject to conditions. Strict compliance with those conditions is required in order for the break to operate. This can prove a trap for tenants even in the seemingly innocuous case of a break conditional on the payment of all sums due under the lease up to the break date.

Where the break date falls part way through a quarter, tenants have frequently come unstuck by paying rent only in respect of the period up to the break date itself (rather than for the full quarter in which the break date falls). Previous cases have established that rent payable in advance cannot be apportioned under either the common law or the Apportionment Act 1870. So, in the absence of an express right to apportion in the lease, payment of anything less than the full amount will not operate the break. See, for example, our review in January's Property update of the decision in Canonical UK Ltd v TST Millbank LLC.

In the most recent case, the question for the Court was not whether the tenant had successfully operated the break but whether, having done so, the tenant was entitled to a refund of the rent and other payments it had made for the period after the break date.

Marks and Spencer PLC v BNP Paribas Securities Services Trust Company (Jersey) Limited and another [2013]

Brief facts

Marks and Spencer was the tenant of four materially identical leases of offices at The Point building in Paddington. In each case, Marks and Spencer had the right to break the lease on 24 January 2012 by giving a certain period of notice. In each case, the break was conditional on there being no arrears of the basic rent at the break date and payment of a penalty premium on or before that date. Rent under the leases was payable quarterly in advance, in the usual way.

In July 2011, break notices were duly served. Subsequently, all payments were made under the leases, including the full December 2011 quarter's rent and service charge and the penalty payments required to secure termination on the break date, 24 January 2012.

After the leases ended, the tenant requested a refund of sums paid in respect of the period beyond 24 January 2012. These included rent and service charge, which had been paid for the quarter up to 24 March 2012, and insurance rent paid for the year to 30 June 2012.

The landlords refused to pay, arguing (among other things) there was nothing in the leases that required them to do so. The Court ruled in favour of the tenant.

Grounds for repayment of rent

In court, the tenant claimed it was entitled to repayment of the rent on three grounds:

  • It was, in fact, an express term of the leases that repayment should be made of any rent referable to a period after the break date
  • If there was no such express term, a term to that effect should be implied
  • If it was neither an express nor implied term of the leases that rent should be repaid, the tenant was entitled to recover it under the general law of restitution, there having been a total failure of consideration in respect of the rent for the period after the break date.

The first argument failed. Following previous case law, the fact that the annual rent was reserved "proportionately for any part of a year" was not enough to allow the tenant to pay only part of the quarter's rent. On the quarter day itself, it could not be said for certain that the lease would actually come to an end on the break date because the other condition (payment of the penalty) had yet to be fulfilled. That meant that the full quarter's rent was due and neither did those words entitle the tenant to recover rent for the period beyond the break date after the lease had come to an end.

Similarly, the tenant's final argument (restitution) was rejected, as it had been in PCE Investors Ltd v Cancer Research UK last year. However, the Court found in the tenant's favour on the second argument (implied term)

Implied term

The Court found that it was an implied term of the lease that rent paid in respect of the period after the break date would be repaid after the lease had successfully been brought to an end in accordance with the break clause.

The Court was influenced by a number of factors, including the use of the phrase "yearly and proportionately for any part of a year" in the rent clause and that rent was payable in "instalments". The fact that the penalty payment was equal to a year's rent also appeared to weigh quite heavily with the Court. Having agreed this payment as compensation for the landlords being left with vacant premises after the break date, the Court felt it unlikely that the parties would have intended that the landlords would be entitled to keep the full quarter's rent as well. However, it should be noted that the Court reached the same conclusion in relation to repayment of a separate car park licence fee, in relation to which no penalty payment was due. It cannot, therefore, be said with certainty whether the rent penalty condition was crucial to the Court's decision.

The decision certainly is likely to raise eyebrows among landlords and tenants alike. It appears to be the first reported case in England and Wales in which such a term has been implied into a lease.

Insurance rent and service charge

The court also reached a similar conclusion in relation to an overpayment of insurance rent. As for service charge, the situation was slightly more complicated. It was accepted in principle that any overpayment should be refunded when the relevant credit was ascertained following reconciliation of the 2012 service charge accounts (which is expected to happen later this year). Here the Court had the benefit of a Court of Appeal decision on a similar point in Brown's Operating Systems Services Ltd v Southwark Roman Catholic Diocesan Corporation [2007].

In that case, a surplus service charge fund had built up over the term of the lease. The Court of Appeal ruled that the tenant's share of the surplus was to be repaid to the tenant when the lease was terminated early by the tenant exercising a break (as well as if the lease had run for its full term). The Court of Appeal's exact reasoning was not clear, but the judge in the Marks and Spencer case thought it appeared to be "a case of an implied term ... giving effect to how the lease should reasonably be read and take effect".

Settlement agreement

On the break date, the parties had also entered into a settlement agreement. Under that agreement, the landlords accepted a further sum from the tenant in satisfaction of any claims under the leases. However, this only released the tenant from claims by the landlord. It did not apply the other way round. A differently worded settlement agreement might, however, have prevented the tenant's claim for the refunds.

Things to consider

Scope of decision

It is perhaps surprising that this should be the first case in this country to fully consider whether a repayment term should be implied into a lease in these circumstances. However, in many of the previous cases, the question of whether the tenant is due a refund has not actually arisen, because the tenant has failed to break the lease in the first place.

Furthermore, the decision does not mean that tenants will automatically be entitled to a refund of rent in every case. The principles governing when a term can be implied are notoriously difficult to apply and often misunderstood. When interpreting a document, the Court must be satisfied that any implied term will simply express what the parties to that document, (with the knowledge of all the relevant background facts) would reasonably have understood it to mean. As a result, the interpretation of one document by a Court can rarely be relied on accurately to predict the correct interpretation of another.

Unresolved questions?

The Court concluded that if the break had been conditional only on there being no arrears of rent, the tenant would only have had to pay the rent for the period up to the break date (not the full quarter) in order to satisfy the condition. Interestingly, the Marks and Spencer leases provided for a second break in 2016 which was conditional only on there being no arrears of rent at the break date. One can only conjecture as to the course Marks and Spencer would have taken had it been exercising the 2016 break instead. However, pending a ruling from a higher court on the point, many tenants in those circumstances may prefer to play safe and pay the full quarter's rent (and where possible demand a refund) rather than run the risk of not securing the break.

In any case, tenants are relatively unlikely to face this particular dilemma in practice. It is still common for other conditions to be attached to break clauses. For example, that the tenant makes a penalty payment or gives vacant possession or complies (to some degree or other) with all its other obligations under the lease, not just payment of rent, up to the break date. Indeed, even the Commercial Leases Code permits as pre-conditions to the exercise of a break that the tenant:

  • Is up to date with the main rent;
  • Gives up occupation; and 
  • Does not leave behind any continuing subleases.

So the point may not be finally resolved by the Courts for some time yet.

The decision also leaves open a question of timing. The Court was not required to address the question of exactly when the implied term required the landlord to make the repayments. There would seem to be two main possibilities - either on the break date itself or on the date when the penalty payment was made (when the final condition was met and it became clear that the lease would in fact end on the break date).

In practice, of course, the date on which the final condition is met will in many cases be the break date itself. Whatever the trigger date for repayment, a further term is likely to be implied allowing the landlord a reasonable period after that date (perhaps 14 days) in which to pay.

Looking ahead

  • Tenants will no doubt now be inclined to revisit historic breaks to check what payments were made and in respect of what periods, particularly where a penalty payment was made.
  • Landlords who have not voluntarily made such refunds in the past should expect to receive requests for them now. For the reasons outlined above, specific advice should be sought in each case.
  • When exercising conditional breaks, the best advice for tenants will still usually be to make all payments due under the lease in full and seek any refund later.
  • In the Marks and Spencer case, the landlords had originally only demanded rent and service charge for the period up to the break date, but the tenant nevertheless paid the full quarter's amount.
  • This remains the safest course for tenants to adopt even where the break is conditional only on payment of rent up to the break date.
  • Following this case, landlords may be more willing to agree to accept apportioned payments as full payments for break purposes, to avoid having to deal with refunds after the lease has come to an end. However, this may well depend on what other conditions are attached to the break and how likely the tenant is to be able to comply.
  • No doubt tenants will continue to negotiate for as few conditions as possible to be attached to break clauses in new leases. They may also seek express apportionment or repayment provisions in those clauses to avoid having to rely on implied terms.
  • Landlords may need to think twice before signing up to one-sided settlement agreements where refunds of rent, service charge or other payments are potentially due. This could lead to more protracted negotiations in settling dilapidations or other claims.
  • The case was heard in the High Court, so it would be open for a differently constituted court, or a higher court, to reach a different interpretation.
  • It remains to be seen whether the landlords will appeal. We understand that appeals in the earlier PCE Investor and Canonical cases were settled out of court.