Covid-19 commercial rent arrears: new legislation
The widely anticipated legislation sets out, on a legal footing, the arbitration process that was announced by Government in its response to the call for evidence in relation to Covid-19 arrears (see here for a summary of the consultation responses). The overview to the Commercial Rent (Coronavirus) Bill ("the Bill") makes clear that the arbitration process is a resolution available to tenants and landlords if they have not been able to reach a resolution by agreement.
The Bill will apply to business tenants under a business tenancy (defined by Part II of the Landlord and Tenant Act 1954) who were mandated to close their premises or cease trading in whole or in part under Government regulations made under the Public Health (Control of Disease) Act 1984 during the Covid-19 pandemic. A list of the businesses forced to close and the duration of such closures are set out in Annex A of the new Code of Practice that has been published alongside the Bill. The focus of the Bill is therefore rent debt accrued during the pandemic by businesses operating in the retail, leisure and hospitality sectors.
The aim is for the arbitration process to take effect from 25 March 2022 (the end of the "relevant period" under the Coronavirus Act 2020, as amended) provided that the Bill makes timely passage through Parliament. It is anticipated that the Bill will be subject to limited amendments in order to meet this deadline and to prevent a "gap" between the end of the relevant period and the coming into force of the arbitration process which could result in confusion as to what remedies are available to landlords and what processes should be followed.
The following is a summary of some of the key provisions set out in the Bill:
Landlords or tenants who have been unable to reach agreement as to the treatment of rent arrears accumulated during the pandemic will have the right to unilaterally apply for arbitration during the six month period following the date on which the Commercial Rent (Coronavirus) Act is passed.
The statutory dispute resolution process will be administered by private arbitrators who will have undertaken a pre-approval process through which their competence will be confirmed and a list of approved bodies will be published by BEIS. Given the relatively short window of time within which parties can submit an application for arbitration there will be a practical requirement for a sufficient number of arbitrators to be available with the capacity to deal with such applications.
It might be the case that there will be an initial "rush" of applications at the end of March 2022 from parties who have failed to reach a satisfactory arrangement since March 2020. However, the British Property Federation has collected survey data which suggests that it is the minority of cases – perhaps in the region of 20% - where landlords and tenants have not yet been able to reach agreement on arrears. This figure may drop further over the next quarter which in turn would lessen the chance of the new process, and those providing it, being overwhelmed by applications. This risk is further mitigated by the fact that the 6 month period is subject to extension by the Secretary of State under clause 9 of the Bill.
For the purposes of arbitration, arrears will include not only principal rent. It will also comprise any amount payable by the tenant to its landlord or managing agent for the possession and use of the premises including VAT (whether or not described as rent), service charge and interest. Service charge includes insurance costs incurred by a landlord (or paid by a landlord to a superior landlord) to insure their tenant’s premises and common parts. For those landlords who have opted to make a withdrawal under a rent deposit the amount drawn-down to meet rent debt will be treated as unpaid rent due - although it will be treated as being paid where the tenant makes good any shortfall in the deposit.
Parties should note that the arbitration process will not apply to debt that has accrued outside of certain time parameters. The process will apply only to "protected rent debt" attributable to such time period as the tenant’s business was "adversely affected by coronavirus" during a "protected period".
In practice this means the ringfencing of rent arrears which accrued as a result of mandatory closure of certain business premises (fully or partially) by coronavirus regulations during the period from 21 March 2020 until the date on which restrictions were lifted for that tenant’s particular sector (and ending in any event on 18 July 2021 for premises in England). Where coronavirus regulations permitted specific limited activities to be conducted at the tenant’s premises despite mandated closure this will be disregarded for the purposes of determining whether or not the tenancy was "adversely affected by coronavirus."
Normal periods of operation will not be within scope of the binding arbitration and so tenants are encouraged to meet their rent payments for these periods.
The applicant for arbitration must notify the other party of their intention to refer the matter to an approved arbitration body ("initial notice"). The other party will then have 14 days in which to respond. A reference to arbitration can be made at the end of the period of 14 days following receipt of the response. Alternatively, if no response is received, a reference to arbitration can be made at the end of the period of 28 days following service of the initial notice.
The reference to arbitration must include a formal proposal for resolving the matter and must be accompanied by supporting evidence. Following submission of the initial proposal the other party will have 14 days in which to put forward a formal proposal in response. The parties can submit revised proposals within 28 days of submitting their formal proposals. The Bill is not prescriptive as to what this evidence might comprise however it may include written statements, and if so, such statements must be verified by a statement of truth. The updated Code of Practice (referred to in section 3 of this note) provides an example list of evidence that arbitrators might consider at Annex B.
The arbitration process will not be available where the protected rent debt is subject to a CVA approved under s.4 Insolvency Act 1986, an IVA approved under s.258 Insolvency Act 1986 or a compromise / arrangement sanctioned under s.899 or 901F Companies Act 2006. It will also be open to the arbitrator to dismiss a reference to arbitration if:
- the parties have already reached agreement prior to the reference being made;
- the tenancy is not a business tenancy or there is no protected rent debt; and
- the arbitrator assesses the tenant’s business and determines that it is not viable and would not be viable even if relief from payment was awarded.
The Bill anticipates that the following "reliefs from payment" could be applied by the arbitrator in relation to ringfenced arrears:
- writing off the debt in whole or in part;
- allowing additional time for payment of the debt, including provision for payment in instalments; and
- reducing any interest on the debt in part or in its entirety.
It will be within the arbitrator’s remit to make an award stating that the tenant is to be given no relief from payment of the debt. For those parties who do go through the arbitration process, the award made by the arbitrator will be legally binding on both landlord and tenant and there will be a maximum repayment period of 24 months. Before making the award the arbitrator will consider any final proposals put forward by the parties and will measure these against the principles set out at clause 15 of the Bill – the proposals most closely aligned with the principles will be favoured. For this reason it is suggested that parties consult clause 15 when collating their proposals. If only one party submits a final proposal the arbitrator will make the award in accordance with that proposal provided that it is consistent with the principles in clause 15, if it is not, the arbitrator can make such award as they consider appropriate.
The principles in clause 15 are a balancing act based on (i) preserving or restoring the viability of the tenant’s business insofar as that is consistent with preserving the landlord’s solvency and (ii) ensuring that the tenant is required to meet its obligations regarding payment of the protected rent in full and without delay.
The threshold for landlord’s solvency is low. The landlord will be considered to be solvent unless it is or likely to become unable to pay its debts as they fall due. In assessing the landlord’s solvency the arbitrator will consider the landlord’s assets and liabilities and the landlord’s financial position generally. The tenant’s viability and solvency will be assessed having regard to previous rental payments made, the tenant’s assets and liabilities (including other tenancies), the final position of the tenant and the impact of coronavirus on the tenant’s business. The prospect of business restructuring or borrowing money will be excluded by the arbitrator in considering the solvency of both parties.
Part 3 of the Bill provides for temporary restrictions to protect commercial tenants from "debt claims, including County Court Judgements, High Court Judgements and bankruptcy petitions, issued against them in relation to rent arrears accrued during the pandemic." The restrictions appear to have a twofold purpose (i) to encourage landlords to attempt to reach a negotiated agreement with tenants rather than pursue a County Court Judgment and (ii) to allow for effective use of the statutory arbitration mechanism (preventing conflict with and dual-tracking of other remedies).
During the “moratorium period” a landlord will not be able to use the following remedies in relation to or on the basis of the protected rent debt:
- a debt claim;
- forfeiture or exercising a right of re-entry; and
- draw-down on a tenant’s deposit.
Where arbitration under the Act (once passed) is initiated the "moratorium period" starts on the day the Act is passed and finishes on the date that the arbitration concludes. Where a reference is not made to arbitration within the time period prescribed by the Act the moratorium period begins on the day the Act is passed and ends on the date that is the last day that a reference to arbitration could have been made under the Act.
Where a debt claim has been commenced by a landlord against a tenant in respect of debts including or relating to the protected rent debt on or after 10 November 2021 but prior to the date of commencement of the Act the Bill provides for such proceedings to be stayed to allow for resolution of the matter relating to payment of the protected debt rent by arbitration or otherwise. The Bill also addresses the circumstances where judgment is given on a debt claim during this period. These provisions will be of key interest to landlords – particularly given that recent County Court cases have resulted in judgement in favour of landlords in debt claims.
The protected debt rent will be disregarded in calculating net unpaid rent for the purposes of CRAR. It is only the protected rent debt in respect of which CRAR cannot be exercised during the moratorium period.
Certain provisions from s.82 Coronavirus Act 2021 apply to the moratorium on forfeiture. For example, the landlord will not waive its right to forfeiture or re-entry through its own conduct, or conduct on its behalf, during the moratorium period - only an express waiver in writing will waive the right. Additionally the failure of the tenant to pay the protected rent debt cannot be used by the landlord to establish ground 30(1)(b) Landlord and Tenant Act 1954 (persistent non-payment of rent) in resisting a statutory lease renewal.
The Bill also addresses the appropriation of rent. For example, where payment of rent is made by a tenant during the moratorium period in respect of rent arrears which are not ringfenced by the Act and the tenant has not exercised its right to appropriate the payment to any specific rent debt that it owes to the landlord then the landlord must apply the payment to the non-ringfenced element before applying such payment to the ringfenced protected rent debt.
Where reference has been made to arbitration under the Act, no proposal can be made (relating to the whole or part of the protected rent debt) for a CVA under s.1 of the Insolvency Act 1986 or an IVA or interim order under s.256A or s.253 of the Insolvency Act. Nor can an application be made for a compromise or arrangement under s.896 or 901C Companies Act 2006. These restrictions apply during the "relevant period" beginning on the date that the arbitrator is appointed and ending on:
- the date that an award is made (or if appealed the date on which the decision is made);
- the date that the reference is dismissed by the arbitrator (if it is dismissed); or
- the date of abandonment or withdrawal (in the event the arbitration is abandoned or withdrawn).
It is not clear what effect these provisions might have on extant insolvency proposals or arbitration proceedings – the Bill specifically prohibits the initiation of these arrangements.
Landlords and tenants of business tenancies will be prohibited from initiating arbitration proceedings (other than those provided for in the Bill) during the "moratorium period" unless the other party agrees. For this purpose, the “moratorium period” is the same as that applicable to the temporary moratorium on enforcement. It is not clear what effect these provisions might have on extant arbitration proceedings – the Bill specifically prohibits the initiation of these arrangements.
The provisions in schedule 3 of the Bill prohibit the presenting of:
- a winding up petition under section 124 Insolvency Act 1986 solely in relation to a protected rent debt; and
- a bankruptcy order petition under section 286(1) of the Insolvency Act 1986 in relation to a protected rent debt.
The provisions relating to winding up petitions come into force on 1 April 2022. The prohibition on presenting winding-up petitions will apply during the "moratorium period" which is the same as that applicable to the temporary moratorium on enforcement.
For bankruptcy orders, the prohibition applies during the "relevant period" which runs from 10 November 2021 and ends on the same date as the "moratorium period" ends. The provision relating to this prohibition is intended to come into force as of 10 November 2021.
Where a bankruptcy order is made (on petition of the landlord) on or after 10 November 2021 but before the date on which schedule 3 of the Bill comes into force and the order is one that the court would not have made if schedule 3 was in force, the order will be void.
Updated Code of Practice
In advance of the new legislation coming into effect, the Government has published an updated Code of Practice (the “new Code”) to assist positive dialogue and to provide a framework for rent (and service charge) arrears negotiations between landlords and tenants. The new Code replaces the previous Code of Practice introduced on 19 June 2020 (and later supplemented by an annex in April 2021). The new Code applies to “all commercial leases held by businesses which have built up rent arrears, due to an inability to pay, as a result of the impact of the COVID-19 pandemic” and is therefore “relevant for all commercial rent debts (including service charges and insurance) accrued since March 2020 within England, Wales, Northern Ireland, and Scotland, to assist with the terms of negotiation.” The expectation is that those business tenants who are beyond the scope of the Commercial Rent (Coronavirus) Bill will pay their arrears in full if they are able to and where that is not achievable, to negotiate with their landlords using the principles set out in the new Code.
As to how effective the updated Code will be might depend on how entrenched parties are by this stage – if the previous version of the Code and the annex have not been able to facilitate negotiations to a satisfactory conclusion it may well be that parties now feel that the arbitration process will be inevitable. However, that is not the Government’s intention; Business Secretary Kwasi Kwarteng has made it clear that landlords and tenants are encouraged “to keep working together to reach their own agreements ahead of the new laws coming into place, and we expect tenants capable of paying rent to do so.” The message from Government is clear – the arbitration process is to be used as a backstop and parties should continue to negotiate their own agreement. The message will have statutory backing - clause 1(3) of the draft Bill states that it will be possible for parties to continue to negotiate outside of the arbitration process and that agreements reached (in respect of ringfenced arrears or any other matter relating to the tenancy) will be enforceable regardless of the availability of the arbitration process.
The Government’s press release (9 November 2021) suggests that the arbitration process will be available to commercial landlords and tenants who have failed to reach agreement as to rent arrears having followed the principles in the Code of Practice. With this in mind landlords and tenants should consider whether or not their negotiations align with the new Code and if they do not, to consider revisiting or revising negotiations.