Charlotte Bijlani and Alasdair Thomas write in Estates Gazette on break rights

21 April 2012

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Estates Gazette - Break rights: Paying the rent is not so easy

This article was previously published in Estates Gazette on 21 April 2012.

If a lease contains a tenant break option, the tenant will probably be paying an increased rent for that flexibility. Notwithstanding that, tenants are continuing to find that it is often difficult (if not impossible) for a break right to be validly exercised.

Break rights are often conditional upon certain covenants being complied with, including the payment of all sums due and vacant possession. These conditions may seem simple enough to satisfy, but a number of recent cases have highlighted how easy it is for a tenant to trip up.

In Avocet Industrial Estates LLP v Merol Ltd and another [2011] EWHC 3422 (Ch), the court found that the tenant had failed to break the lease because it had not paid late rent payment interest (which the landlord had not demanded before the break date) of £130. In PCE Investors Ltd v Cancer Research UK [2012] EWHC 884 (Ch), a tenant break was found to be ineffective because the tenant had failed to pay rent for a period beyond the break date.

The Avocet case

The tenant (Merol) had the right to break its lease with the landlord (Avocet) on 17 March 2010 if it complied with certain conditions. Two of these required Merol to have paid all sums due under the lease and a break premium equal to six months' rent, before the end of 17 March 2010.

On 11 August 2009, Merol served a break notice on Avocet stating that it was up to date with the payments under the lease and that it did not know of any matter that placed it in breach. The day before the break date (16 March 2010), Merol sent another letter to Avocet enclosing a cheque for the break premium and stating that no other sums were due. Avocet did not respond until 7 April 2010, when it said that Merol had failed to validly exercise the break because: 1) Merol's tender of a cheque for the break premium a day before the break date was insufficient (Avocet said that the payment should have been in its account in cleared funds by the break date) and 2) Merol had failed to pay interest on its consistently late payments of rent.

Cheque payment

The common law rule is that the landlord should have the rent in cash in his hands by the due date (Beevers v Mason (1978) 37 P&CR 452) unless there is an express or implied agreement that cheque payments will be accepted. As cheque payments had been previously accepted by Avocet, the court held that there was an implied agreement between the parties. The court went on to find that Avocet had in any event "accepted" the cheque because it had failed to communicate its "rejection" of the cheque promptly.

It must be said that paying such a critical sum of money by cheque a day before the break date is, on any analysis, very risky.

Late payment interest

Merol had consistently paid its rent late and the lease required Merol to pay late-payment interest. Avocet had not demanded this before the break date and Merol said that, on the true construction of the lease, no interest can be due unless and until it has received a demand; Merol's point being that it would not know what sum it had to pay in the absence of a demand.

The court held that the issue of a demand was not a precondition to the payment of interest and that it was unlikely there would be any real difficulty in Merol working out the amount of interest it had to pay.

So, in effect, Merol should have gone through its payment records for the entire duration of the lease, identified every single late payment and calculated the interest that was due. Indeed, this is the very exercise that Avocet carried out to prove its case for interest.

Was there an estoppel?

A party to a lease can be estopped from asserting the true position (Rodenhurst v Barnes [1936] 2 All ER 3 (CA)). In the context of break clauses we have seen estoppel arguments being taken by tenants in relation to the validity of break notices and all types of break condition. In relation to the latter, such arguments have commonly been based upon the silence or inaction of the landlord about the adequacy of the steps the tenant is proposing to take to achieve compliance.

The finding of an estoppel is "highly fact-sensitive", which means that the court must look carefully at the conduct of the parties and the communications between them over the relevant period. Morgan J said that he could not find a positive representation by Avocet (express or implied) that estopped Avocet from claiming interest in the absence of a prior demand. He went on to consider whether Avocet's silence (or rather delay in responding to Merol until 7 April 2010) amounted to an estoppel and whether Avocet had a duty to tell Merol that it was wrong to conclude that no other sums were due.

The main authority cited in support of the "estoppel by silence" argument, was The Lutetian [1982] 2 Lloyd's Rep 140, a shipping case, where the charterers of a ship believed that they had paid the sum of money which they were due to pay by a certain deadline. The owners of the ship knew that the charterers had underpaid and that fact gave the owners the right to withdraw the ship. The owners did not correct the charterers' mistaken belief, and in deciding whether the owners could rely on the incorrectness of the charterers' deduction Bingham J said:

"One must be careful not to impute unrealistically onerous obligations to those who may choose to conduct their relations in a tough and uncompromising way. There is nonetheless a duty not to conduct oneself in such a way as to mislead. I have no doubt that the owners knew that the charterers believed that they had paid the right amount. It was their duty, acting honestly and responsibly, to disclose their own view as to the charterers."

In applying the decision in The Lutetian, Morgan J said that in order for an estoppel to arise, Avocet must have known before the end of 17 March 2010 that Merol's belief that no other sums were due was wrong:

"If I were able to hold that [Avocet] did know that matter, then I would hold in the same way as was held in The Lutetian that [Avocet] cannot take advantage of [Merol's] mistake, which at the time [Avocet] knew that [Merol] was making."

Avocet's key witness said that he had not fully considered whether interest was due prior to the break date and Morgan J therefore concluded that Avocet did not have the requisite knowledge.

Merol's attempt to break the lease therefore failed. The practical consequence being that Merol remained on the hook for rent of around £300,000 (until the lease expiry) for failing to pay interest of £130.

Alternative judicial view

We already know that if a lease requires absolute compliance with a condition, it does not matter if the sum that the tenant has failed to pay is small (Quirkco Investments Ltd v Asprey Transport Ltd [2011] EWHC 3060 (Ch)). However, what is interesting about the Avocet case is the suggestion that a landlord with knowledge is obliged to tell a tenant if it is making a mistake. Can that really be right? It appears that at least one member of the judiciary, Smith J, has a different view.

In MW Trustees and others v Telular Corporation [2011] EWHC 104 (Ch), he said that in relation to a defective break notice:

"There is no duty in my view on a landlord served with a document to inform the server that he believes that it has not been validly served. However, a landlord receiving such a notice must not give any indication that the notice is accepted despite its defect."

In PCE Investors Ltd he said that in relation to a conditional break where the tenant has assumed that it has to pay a certain amount to achieve compliance:

"I do not believe the tenant can draw any comfort from the silence [of the landlord] and elevate that to a duty to tell it its assumption is wrong."

The approach of Smith J is consistent with the approach by the Court of Appeal in Fitzroy House Epworth Street (No1) Ltd v The Financial Times Ltd [2006] EWCA Civ 329, where the landlord was entitled to stay silent and refuse to comment on the adequacy of the works the tenant was proposing to do to comply with repairing covenants.

Arguably, the correct approach must be that a landlord is entitled to stay silent and it will only be estopped if it takes a positive step to mislead the tenant or causes the tenant to believe that what it has done, or is proposing to do, is sufficient to achieve the break.

Spent breaches

Finally, it is worth noting that not every single past breach during the term of a lease will be relevant to the question of compliance with a break option. If a breach is "spent" so that there does not exist a cause of action for non performance, it will not deprive the tenant of the right to break. Only subsisting breaches of covenant are relevant (Bass Holdings Ltd v Morton Music Ltd [1987] 2 All ER 1001).

The analysis applies to both positive and negative covenants. So, for example, if the tenant has previously breached a positive covenant requiring the tenant to paint the premises at a certain time during the term, that breach will become spent by the tenant painting the premises before the break date. Similarly, if a tenant has previously breached a negative covenant that prohibits the tenant from applying for a planning permission without landlord's consent, the breach will be spent if the landlord has no subsisting cause of action as at the break date.

Lessons to be learnt

The Avocet decision is being appealed and further guidance will be welcomed from the Court of Appeal on the circumstances in which a landlord can be estopped from requiring full compliance. In the meantime, tenants seeking to exercise a conditional break should:

  1. Check the lease requirements carefully.
  2. Check the payment history and carefully assess if and how much late payment interest must be paid.
  3. Never pay any sum by cheque. Always pay by bank transfer and make sure that the payment reaches the designated account for the landlord in good time before the break date.
  4. Make an appropriate overpayment to cover the risk of any other sum being due.
  5. Never rely on the landlord's silence.

Charlotte Bijlani is partner and head of real estate litigation and Alasdair Thomas is an associate, real estate litigation, at Norton Rose LLP