Tenant default: Remedies against former tenants and guarantors

In times of economic downturn landlords have to consider every option they have to protect their rental income without terminating the lease. It is often more attractive to try to recover from third parties, such as former tenants and former guarantors given the difficulty and risks associated with pursuing a tenant which is struggling and which may become subject to formal insolvency in due course.

In this note we take a look at section 17 of the Landlord and Tenant (Covenants) Act 1995 (the ‘1995 Act’) which sets out the formal steps which must be taken to recover rent and other sums due under the lease from former tenants and guarantors.

Remind me of the dates…

Under pre 1 January 1996 leases original tenants and their guarantors are usually liable to pay rent and perform the covenants in the lease for the whole of the term even after an assignment. The 1995 Act was introduced during the recession of the early 1990s to balance a landlord's right to recover monies due under leases from former tenants and guarantors whilst at the same time providing safeguards so that former tenants and guarantors were not hit with potential liability stretching back many years.

In leases granted after the 1995 Act tenants are no longer liable under the tenant’s covenants after they have assigned the lease although they may be required to guarantee performance of their own assignee, by way of an Authorised Guarantee Agreement “AGA”. If the former tenant of a lease granted on or after 1 January 1996 had a guarantor, that guarantor may also remain on the hook if it has guaranteed the former tenant’s obligations under the AGA under what is commonly known as a “GAGA”.

In relation to all leases, whether granted before or after 1 January 1996, s.17 of the 1995 Act requires the landlord to notify former tenants and their guarantors within six months of any default by a current tenant in relation to payment of a ‘fixed charge’ i.e. an ascertained sum of money.

Tips and traps

• The notice requirements are strict – there is a pro forma notice that needs to be completed and served. If the landlord fails to serve the notice or to serve a valid notice he will be unable to pursue those former tenants and guarantors.

• This obligation to pay on the former tenants and/or guarantors will continue even if the tenant goes into liquidation and the liquidator disclaims the lease.

• ‘Fixed charges’ must be ascertained; they can include balancing charges which have been assessed or third-party costs incurred. In relation to rent reviews, and following the House of Lords’ decision in Scottish & Newcastle v Raguz [2008]UKHL 65, it is clear that s.17 notices are only required once the review has finally been determined and there are actual arrears of rent; no notice is required while the rent review is outstanding.

• Particular s.17 traps may still arise, for example, where a Jervis v Harris clause is operated by the landlord who will seek to recover the cost of repair as a debt – i.e. a fixed charge. The landlord may have to make the decision to serve s.17 notices on an on-going basis if the final cost of the works will be unascertained for more than six months.

Do you want them back?

A former tenant (or the guarantor of a former tenant) who is required to make good and does make good a current tenant’s default is entitled to call for an overriding lease to be granted to him and which will interpose between the landlord and the current tenant. This will enable the former tenant (or guarantor) to pursue the current tenant for the rent debt and/or to negotiate a surrender and/or forfeit the current tenant’s lease and thereby regain possession of the premises.

The landlord may have several parties upon which a s.17 notice can be served. The landlord does not need to exhaust his remedies against one of these parties before pursuing another; nor does he have a positive duty to pursue them at all. Any that are served and pay the amount due in full can apply for an overriding lease. The landlord should consider very carefully, therefore, whose covenant it would be prepared to have going forward pursuant to the terms of an overriding lease.

Do the provisions of s.17 apply to my current tenant’s guarantor?

It is important to note that the provisions of s.17 do not apply to a guarantor of the current tenant where the limitation period remains 6 years. Moreover, a guarantor of the current tenant is NOT entitled to call for an overriding lease even if he is called upon to make good the current tenant’s defaults.