A commercial lease will usually allow assignment of the whole property but not part, as many properties are unsuitable for legal and physical subdivision to separate ownership. There are three statutory provisions that are relevant to assignment covenants. These are section 19(1)(A) of the Landlord and Tenant Act 1927, section 19(1)(A) of the Landlord and Tenant Act 1927, and section 1 of the Landlord and Tenant Act of 1988. These are detailed below.
An underlease is created by someone who is already a tenant. When a tenant grants an underlease there are two leases in existence in relation to the same property – a headlease and an underlease.
An underlease is an estate in land. It must be for a shorter term than the headlease out of which it is created even if just by one day. Otherwise, the transaction is an assignment. A tenant might choose to underlet because the property is temporarily surplus to requirements. Another reason for a tenant deciding to underlet rather than assign is that the landlord has concerns about the financial strength of the proposed new occupier so it will not give consent to an assignment of the headlease. It may be that the tenant would prefer to assign the lease but cannot find anyone willing to take it. This situation may arise where rent levels have been dropping and the rent reserved by the tenant’s lease is too high. The proposed new occupier will not take an assignment of the lease, but they might be willing to take an underlease of the property at a lower rent.
A landlord could be concerned about the prospect of underletting for two main reasons. Firstly, it is possible that the landlord might end up with the undertenant as their direct tenant. This could occur when the head tenant’s lease is forfeited and the undertenant whose underlease would normally come to an end at the same time successfully applies to the court for relief from forfeiture. Secondly, although legally the head tenant will remain liable to the landlord for the performance of the tenant’s covenants under the lease, in reality it is the undertenant who will be in occupation and who will have physical possession of the property. The landlord will have very limited day-to-day control over what is happening at the property and the right reserved to the landlord such as inspection and serving notices to repair will be exercisable and the head tenant and landlord will have to go through the head tenant to get anything done.
A landlord can protect itself by imposing strict controls on the tenant’s ability to underlet the lease. It is not uncommon for a lease to contain an absolute prohibition on underletting or for it to only permit underlettings of whole rather than part. If underlettings of whole or part are permitted there will be a requirement for the tenant to obtain the landlord’s consent. The following statutory provisions apply:-
- Section 19(1)(A) of the Landlord and Tenant Act; and
- Section 1 of the Landlord and Tenant Act 1988.
These are explored in detail above.
Rent and rent review
The lease will reserve an annual rent and include a tenant’s covenant to pay. The lease should make the following matters clear:-
- When rent is payable;
- Whether rent is payable in advance or arrears;
- How instalments are to be apportioned;
- How rent is to be paid;
- VAT and how it will arise and who will account for it; and
- When rent is likely to be reviewed.
There are different types of rent review which might be built into the lease. It could be a fixed increase where a clause could specifically increase the rent to a fixed amount. This has the benefits of certainty and complicity, but it is not often used because difficulties of predicting with any certainty what rental levels are likely to be at a given point in the future. You might have an index linked rent review meaning that the rent is linked to an external index such as the Retail Prices Index. You might have a tenant’s receipt rent review which would be linked to the tenant’s receipts from its use of the property. You might also have an open market rent review where rent is adjusted at regular intervals with respect to the open market value of the tenancy. This is the most common form of rent review clause.
Code for leasing business premises
In terms of the overall balance between the parties, shortage of suppliers has meant that landlords have often had the upper hand in the initial negotiation for lettings of commercial property. The Government has tried to address concerns over a number of years by the instruction of a voluntary Code of Practice. This was initially launched in 1995 and then again in 2002 and 2007 and it is designed to introduce fairness and flexibility in leasehold transactions. A copy of the Code is here.
Procedural steps for the assignment of a Lease
An assignment is the transfer of an existing Lease by the tenant to a third party. The conveyancing procedure is very similar to that used in a freehold transaction. One difference between the sale of a freehold property and the assignment of a Lease is the existence of the Lease itself. Although there is no scope to negotiate the terms of the Lease the assignee’s solicitor will need to check its terms to make sure they meet the assignee’s requirements. There is a possibility that the landlord will agree to vary the terms of the Lease, but this is at the landlord’s absolute discretion.
Commercial property Leases will ordinarily require a landlord’s consent before an assignment can take place. It is the assignor’s responsibility to obtain the consent but both parties to the assignment will need to be involved. Although the Licence to Assign is not finalised until completion the assignor will need to check that at the pre-exchange stage that the landlord will agree to the assignment in principle. The landlord will require an assignee to provide a guarantor as a condition of consent and/or for the assignor to enter into an authorise guarantee arrangement to guarantee the performance of the tenant’s covenants by the assignee.
A Licence to Assign
The purpose of the Licence to Assign is for the landlord to give consent to the assignment of the Lease by the assignor to the assignee. The draft Licence to Assign is produced by the landlord’s solicitor and sent to the assignor’s solicitor who coordinates with the assignee’s solicitor to amend or agree the draft. A typical Licence to Assign will contain some important components. Firstly the landlord will grant consent to the assignor to assign the Lease to the assignee. If the Lease was granted on or after 1 January 1996 the assignor will typically give an Authorised Guarantee Agreement to the landlord. If the Lease was granted before 1 January 1996 a direct covenant by the assignee to the landlord to observe and perform the covenants in the Lease for the remainder of the term. Lastly the assignor will agree to pay the landlord’s legal and professional costs.
The relationship between the landlord and the assignee will depend on whether the Lease is an old Lease or a new Lease i.e. whether it’s granted before 1 January 96 or after. The assignee of an old Lease is liable under the doctrine of privity of estate for all covenants in the Lease which ‘touch and concern’ the land but only for as long as the Lease remains vested in the assignee.
An assignee of the new Lease is also liable for breaches of covenant committed while the Lease is vested in them although they are liable during that time for all tenant covenants not just unclear 3.12 the land. However on a future assignment of the Lease the Landlord and Tenant Covenants Act 1995 automatically releases the assignee from all tenant covenants of the tenancy.
If the Lease is a new Lease granted on or after 1 January 1996 the landlord may have inserted the need for an AGA or Authorised Guarantee Agreement in the Lease as a pre-condition of giving consent. In this case the landlord can always insist on the assignor entering into the AGA whether or not it is reasonable. In the absence of a provision in the Lease the landlord could insist on the AGA only if it is reasonable to do so. An AGA will typically contain covenants by the assignor:
- Guaranteeing that the assignee will perform the tenant’s covenants in the Lease including the covenant to pay rent.
- Promising to perform such covenants if the assignee does not:
- Guaranteeing that the assignee will perform the tenant’s covenants in the Lease including the covenant to pay rent.
- Promising to perform such covenants if the assignee does not.
- Indemnifying the landlord for the assignee’s failure to pay rent or to observe other covenants.
- Promising to take a new Lease if the liability of the assignee is disclaimed in insolvency.
The assignor’s solicitor should investigate title in the same way as the purchase of a freehold property. The superior freehold title should be checked as part of this process as well as the leasehold title as any covenants or easements affecting the freehold will also bind the leasehold interest. As to whether superior freehold title should also be deduced:
- If the assignor’s Lease is registered with absolute title the assignor’s solicitor will be able to obtain and provide the assignee with official copies of the register and title plan in the usual way.
- If the Lease is registered with good leasehold title, there is no guarantee of the soundness of the freehold title and so although not entitled under the general law to do so the assignee will try and insist on deduction of the freehold title.
- If the assignor’s Lease is unregistered under the general law the assignee is entitled to call for the Lease and all assignments under which that Lease has been held during the last 15 years but not for evidence of freehold title. Without deduction of the freehold title unless the freehold is already registered with absolute title the assignee will only obtain the good leasehold title on registration of the Lease at the Land Registry following completion which may be unacceptable to the assignee and/or the lender.
The assignee’s solicitor should make the same enquiries and searches for the same reasons as a purchase of a freehold property in addition the assignee’s solicitor should ask to see the insurance policy relating to the property and the receipt of the last insurance premium due. The assignee should also ask to see a copy of the receipt for the last payment of rent due under the Lease to check the assignor is not in breach of the Lease.
In order to transfer legal title to an estate in land it is necessary to do so by deed. In the case of an assignment of a Lease the Transfer deed is now called a Deed of Assignment but this document has the same effect and function of any other Transfer deed. The drafting of a Transfer deed was considered earlier and the same points apply to the assignment of a Lease but the following additional points can be noted:
- If an assignor is in breach of a repairing covenant in the Lease the lack of repair can involve them in liability to the assignee after completion under the covenants the title of which will be implied in the Transfer deed. A conflict between the promise implied by the covenants for title unclear 6.32 by modifying the covenants for title to exclude references to repair. This is covered in both sets of standard conditions in the Contract but there must be an express modification of the implied covenants with title in the Transfer deed itself.
- For the assignment of old Leases granted before 1 January 1996 an indemnity covenant from the assignee to the assignor is implied except where for unregistered Leases value is not given by the assignee for the transaction. In the latter case an express indemnity covenant will be inserted into the Transfer deed if required by the Contract and this is provided for by the unclear 7.06 standard conditions. You will then need to comply with certain pre-completion formalities.
- You will need to undertake pre-completion searches. In the case of a registered Lease an official search of the registers for the freehold title should be carried out to check for any new entries and gain a priority period within which to register the Transfer. In the case of an unregistered Lease another land charges search should be made against the name of the assignor to check that no adverse entries have been made since the pre-exchange land charges search on all the previous estate owners was made and to ensure that the priority period of 15 working days covers completion of the assignment.
The landlord’s solicitor will supply the engrossments or top copies of the Licence which must be by deed if it contains covenants. Where the assignee is to give direct covenant to the landlord the Licence is usually drawn up in at least two parts the landlord executing the original Licence and the assignee executing a counterpart. The assignor’s AGA can be contained in the Licence or created in a separate deed and in either case to take effect only on completion of the assignment. Lastly with respect to apportionments the assignor will usually have paid rent in advance. Unless completion takes place on a day when the annual rent becomes due under the Lease it will be necessary for the instalment to be apportioned on completion so that the assignee reimburses the assignor for the period from completion until the next rent day.