A WAR STORY

A landlord client was owed arrears of rent amounting to some £20,000. The current tenant was unable to pay, and so it was a matter of investigating which of the former tenants and guarantors might be good for the money.

The lease was an unusual one: granted some 180 years previously for a 200-year term, with rent reviews every ten years.

As might be expected, over the preceding 180 years there had been a long list of previous tenants and guarantors, mostly individuals who had died or become untraceable, and companies which no longer existed.

Only one party remained traceable and solvent and that was the original tenant.

This company must have been one of the earliest to be incorporated under Companies Acts, but was still trading profitably.

They had had nothing to do with the property since assigning the lease 160 years previously, and one can only imagine the reaction when they opened a letter asking them for £20,000.

They paid, however, and without having to be sued.

THE BAD OLD DAYS?

That episode (which actually happened, back in the late 1980s) is as clear a demonstration as any of how the old privity of contract rule could mean injustice. Under that rule:

#  A former tenant would remain at risk until the end of the lease, and at the mercy of whatever rent increases might have resulted from intervening rent reviews.

#  Under Limitation Acts, a landlord could sue to recover rent over as much as six years, without giving the former tenant any warning.

#  There was no mechanism by which the former tenant could ensure a re-letting of the property so as to limit its exposure.

BRAVE NEW WORLD?

The position was substantially changed by the Landlord and Tenant (Covenants) Act 1995. It is still possible to claim against some former tenants and guarantors, but not all; and those who are still at risk now have a degree of procedural protection:

#  Under s.17, if the landlord is to claim against a former tenant or guarantor, he must give them a notice alerting them to the claim within six months of each sum falling due.

#  If he doesn’t, he loses the ability to claim that sum from them.

#  He can still recover up to six years’ arrears, but only if he has served appropriate s.17 notices throughout that period, in each case within the six-month time limit. · If a former tenant or guarantor pays arrears in response to a s.17 notice, they are entitled to be granted a new lease of the property, effectively converting the existing one into a sub-lease. This enables them to recover possession and market the property.

AN UNINTENDED ANOMALY?

We have commented previously on the case of Scottish & Newcastle plc v Raguz, which concerned how these s.17 procedures interact with lease provisions in relation to a backdated rent review settlement.

That decision has now been confirmed by the Court of Appeal, although at least one member of the Court regarded the result as an “unintended anomaly of the legislation”.

Since the outcome has surprised many practitioners, and applies to a very commonplace situation, it is worth revisiting. 

A WAR GAME: BATTLE LINES

#  You are a landlord. On 29 September 1995, you granted a lease of an industrial unit to Cashbags Limited, for a 15-year term. In 2001, they assigned the lease to Strawman Limited.

#  The lease provides for the annual rent to be payable in advance on the usual quarter days, by equal quarterly instalments. The rent was reviewed to £120,000 with effect from 29 September 2000. The second and final rent review was due with effect from 29 September 2005, although it was only settled in January 2007, at £160,000.

#  It is now 1 March 2007. According to the lease, where late settlement of a rent review results in a backdated increase, payment of the increase falls due on the next quarter day, in this case 25 March 2007. The annual increase in rent is £40,000, so on 25 March 2007 Strawman will have to pay backdated rent arrears of £60,000, as well as that quarter’s rent at the new level of £40,000 per quarter.

#  The bad news is that Strawman have now entered into an insolvency procedure. They cannot afford to pay the new rent, let alone the backdated increase. This is a surprise, as there was nothing to indicate they were getting into difficulties, and they have always paid their rent on time. Indeed there are presently no arrears, although presumably there will be on 26 March 2007. Fortunately, Cashbags Limited is also liable, and comfortably able to pay…

PLAN OF ATTACK

Obviously, you decide to claim against Cashbags. To do so it will be necessary to serve a s.17 notice, within six months of any sum falling due.

As the backdated increase and the March quarter’s rent will fall due together on 25 March 2007, you have from then until until 25 September 2007 to serve a s.17 notice claiming those sums. Or so you might assume…

SURPRISE COUNTER-ATTACK

The outcome of the Scottish & Newcastle v Raguz decision is that, regardless of what the lease says about when the backdated increase falls due, for the purposes of s.17 it is regarded as having fallen due in the same manner as the annual rent generally under the lease: ie, by equal quarterly instalments on the usual quarter days.

Obviously, no-one could have paid or even demanded the rent increase at those times, because the amount was unknown, but as a matter of law an unknown amount fell due on each of:

29 September 2005

25 December 2005

25 March 2006

24 June 2006

29 September 2006

25 December 2006

The consequence is that to have preserved your right to claim the backdated increase from Cashbags, you should have served s.17 notices within six months of each of those dates, notifying them of their potential unquantified liability.

Presumably you haven’t, because there were no arrears, and you had no idea that Strawman had financial problems.

Up to 29 March 2007 it is still possible to serve notice in respect of the last two instalments, but it is too late now to serve notice in respect of any of the first four.

The first year’s rent increase of £40,000 is lost for good.

NEW RULES OF ENGAGEMENT
No matter how absurd it may seem, in the routine situation where:

#  a rent review has not been settled by the rent review date; and

#  there are former tenants or guarantors; then:

#  even though the current tenant is not in arrears, and

#  even though there is no reason to suspect that they might get into financial difficulties, and

#  even though the amount of the rent increase is unknown,

it is necessary to consider serving s.17 notices on the former tenants and guarantors within six months of each rent date until such time as the rent review is settled. If this is not done, then the right to recover from those parties will be lost.

Shop with flat over...or flat with shop below?

When a landlord comes to terminate a lease, he needs to know which (if any) security of tenure scheme applies. This is something which his solicitor should have advised him on when the lease was granted, but is it possible that during the life of the lease it could have moved out of one regime and into another?

This would mean a great deal of uncertainty for landlords, but it is what was argued in two recent cases.

The question arises when letting mixed residential and business premises to tenants, most commonly where the premises consist of a ground floor shop with residential accommodation on the upper floor.

Tenancies of business premises are governed by the Landlord and Tenant Act 1954, while residential tenancies fall within either the Rent Act 1977 or (more usually) the Housing Act 1988.

WHICH SCHEME APPLIES?

When deciding which legislation applies to a particular tenancy, the first consideration is whether the tenant occupies the residential and the business premises under one lease or under separate tenancies.

If the residential part of the premises is not held under the same tenancy as the business premises, then the 1954 Act may apply to the business use and the 1977 or 1988 Act to the residential use.

However, where the business and residential parts are held under the same tenancy the matter is more complicated.

Both the 1977 Act and the 1988 Act specifically provide that they can have no application to a tenancy which falls within the 1954 Act, so the business and residential schemes cannot simultaneously apply to the same tenancy.

In these circumstances, the question to be considered when trying to establish which Act applies to the tenancy will be the degree of business use in the letting as a whole.

Generally, if premises are let for mixed business and residential use they will be treated as having being let for business purposes unless the business use is ‘incidental’ to the residential use (Cheryl Investments Limited v Saldanha (1978); Gurton v Parrott (1990)).

FROM BUSINESS TO RESIDENTIAL?

The possibility of a regime change crops up where the mixed letting originally fell within the 1954 Act as a business tenancy, but the tenant subsequently gives up the business use while continuing to live there.

The tenant loses the protection of the 1954 Act, as he no longer satisfies the requirement of business occupation, but does he gain the protection of the 1977 or 1988 Act?

The key lies in the provision in the residential legislation that the premises must be ‘let as a separate dwelling-house’ in order to be afforded protection. It is the purpose of the letting which is paramount, and subject to any subsequent agreement, the relevant time for ascertaining the purpose is the date of the letting (Cheryl Investments Ltd v Saldanha; Pulleng v Curran (1982)).

Therefore, any property let on the basis that a tenant may carry on a business from the premises is not ‘let as a dwelling’ even if the tenant also lives there.

THE RECENT CASES

There have been two recent cases which have considered these issues.

Broadway Investments Hackney Ltd v Grant (2006)

The facts:

#  In 1995, the tenant was granted a lease of premises which permitted the lower floor to be used as a shop and the upper floor for residential purposes. The lease described itself as a lease of shop premises and there was an obligation on the tenant to keep the premises open as a shop at certain times.

#  The tenant lived in the residential part of the premises for some time while he fitted out the ground floor for the purpose of carrying out his business. By 2000 the tenant was using the shop to sell fish and groceries (as allowed by the user clause).

#  Following a rent review the tenant fell into arrears with his rent and the landlord commenced action to terminate the tenancy. This would be straightforward if it was a business tenancy, but highly restricted if a residential tenancy. The issue went all the way to the Court of Appeal.

Decision:

The Court of Appeal held that it was hard to see how the tenancy could not have been a business tenancy within the meaning of the 1954 Act, given that the lease positively required the tenant to use the lower part of the premises for business purposes.

The terms of the lease were simply not compatible with the tenant’s contention that, once the shop was open, the business use was ‘incidental’ to the occupation of the upper floor as a residence.

Tan v Sitkowski (2007)

The facts:

The tenant was granted a tenancy of premises in 1970 by the local authority. He used the ground floor for the purpose of his business and resided on the first floor. In 1989 the tenant ceased using the ground floor for his business, but continued in residential occupation of the upper floor.

In 1990 the freehold of the premises was sold and in 2003 the new landlord served a number of notices to quit, one of which was effective to terminate the tenancy. If it was a business tenancy the landlord was entitled to recover possession, but not if it was a residential tenancy.

The tenant contended that when the tenancy was granted he enjoyed the protection of the 1954 Act. However, when he ceased trading from the premises, because the 1954 Act no longer applied, it followed that the provision in the 1977 Act, that a 1954 Act-protected tenancy could not fall within the 1977 Act, also no longer applied. This being so, he argued that at the point when he stopped trading from the premises he was afforded protection under the 1977 Act.

Decision:

The court held that a tenant could not gain the protection of the 1977 Act by simply unilaterally ceasing the business use at the premises.
The 1977 Act only applied to premises let as a separate dwelling and the premises in question had not been let on this basis, having originally been let as mixed residential and business use.

There was no indication in this case that there had been positive consent by the landlord (as opposed to mere acquiescence) to a change of user from mixed business and residential use to pure residential use.

CONCLUSION

In circumstances where the premises are used for both residential and business purposes pursuant to one lease, the starting-point is that the 1954 Act will apply, unless the business use is incidental to the tenant’s occupation as a residence.

In deciding whether the business use is incidental to the residential occupation the extensive case law provides valuable guidance.

The recent cases should reassure landlords that, having granted a tenancy within the 1954 Act, the circumstances in which a tenant can unilaterally increase its protection by simply discontinuing business use are highly restricted. Indeed, it is hard to imagine circumstances in which this might work.