The procedure for disclaiming is essentially administrative in nature. The liquidator, administrator, or trustee in bankruptcy (“TIB”) simply files a notice of disclaimer in court in the prescribed form. Within 7 days of the notice being returned to him, the liquidator/ administrator/TIB must serve a copy of it on the landlord. The disclaimer will not take effect until the last of the parties with an interest in the lease has been served with the notice of disclaimer and 14 days has then elapsed without an application for a vesting order being made. Any “person interested in the property” may apply in writing to the liquidator/administrator/TIB requiring him to decide whether he will disclaim or not and, if he does so, the liquidator/administrator/TIB then has 28 days (or such longer period as the court may allow) to decide whether or not to disclaim. If the liquidator/administrator/TIB does not disclaim within that period, he loses the right to do so and, in the case of the TIB, is deemed to have affirmed the lease.
The Effect of Disclaimer
A disclaimer “operates so as to determine, as from the date of the disclaimer, the rights, interests and liabilities of the [company] in or in respect of the property disclaimed”. Where a lease is disclaimed, the effect of the disclaimer as between the landlord and the tenant is therefore that neither party owes the other any further obligation under or in respect of the lease. The tenant loses any right to remain in the premises and the landlord can demand possession (although he may not wish to because this may affect his rights against others, as to which we will return to below). The disclaimer will not, however, affect liabilities (eg rent) which have accrued due before the disclaimer, although if the liabilities are those of the tenant they will have to be proved for in the usual way in the winding up. This relatively straightforward position is, however, complicated by the remainder of the above sections which provide that a disclaimer “does not, except so far as is necessary for the purpose of releasing the [company] from any liability, affect the rights or liabilities of any other person”. The House of Lords described this as a “deeming” provision. As Lord Nicholls put it:”Thus when the lease is disclaimed it is determined and the reversion accelerated but the rights and liabilities of others, such as guarantors and original tenants, are to remain as though the lease had continued and not been determined. In this way the determination of the lease is not permitted to affect the rights or liabilities of other persons”.
Surety (Guarantor) for tenant
A surety will remain liable to the landlord notwithstanding the disclaimer and the consequent ending of the lease as between the landlord and the tenant. The surety cannot say that he is released because the principal debtor (i.e. the tenant) has been released from liability.Furthermore, the surety, following disclaimer, will also lose his right of indemnity from the tenant. If he were to retain such a right, the disclaimer would not operate effectively to discharge the tenant from all liability in respect of the lease. However, the surety does have a right to claim in the winding up for loss suffered as a consequence of the disclaimer (which would include loss of such right of indemnity).Any surety for the insolvent tenant is likely to be the first port of call for the landlord in his attempts to recover his losses following a disclaimer. In most cases, there is nothing much the surety can do to avoid a claim. He can only hope that the landlord will prefer to take possession of the premises (which will put an end to any future claim against the surety) or do so mistakenly without realizing the consequences for his right to claim against the surety.
If the surety is pursued by the landlord, the only protection available to him is to apply to court for a vesting order in his favour. A surety (unlike former tenants or sureties for former tenants) does not have a right to request an overriding lease. However, a surety has clear standing to apply for a vesting order following a disclaimer. Of course, the surety might not get the vesting order because a mortgagee might assert their prior right to a vesting order. The only dilemma a surety might face is what to do if he has not yet been pursued by the landlord at the date of the disclaimer. A vesting order must be applied for within 3 months of the applicant becoming aware of the disclaimer. If the landlord has not yet made a claim against the surety, he may be reluctant to take the step of applying for a vesting order. To do so might invite such a claim in circumstances where the landlord would otherwise have decided to re-take possession or to pursue other parties whereas not to do so is to run the risk of losing the opportunity to obtain a vesting order.
It is important, however, that the landlord does not re-take possession of the property. If he does, this will have the effect of bringing the notional lease to an end and release the surety. By his act of taking possession the landlord demonstrates that he regards the lease as ended for all purposes. By this act, the landlord’s conduct is inconsistent with there being any continuing liability on others to perform the tenant covenants in the lease. The retaking of possession by the Claimant has this effect in common law, and it is therefore critically important therefore that the Landlord does nothing to jeopardise its claim by doing anything which could be construed as re-entering the premises (thereby bringing the lease to an end). This, of course, does not prevent the Landlord from re-entering, subject to any proviso as to notice, but the landlord should be aware that by doing so it would be waving goodbye to the claim against the surety. Indeed, doubtless the surety would be only too pleased to see the landlord re-enter and re-let as that would operate as a release of its liability.
The position of the landlord
This is the most complex of all. The landlord has a number of options and must take care in deciding which is the most beneficial for him and in pursuing that option.
The landlord will normally be concerned about one or more of the following claiming against third parties liable in respect of the lease maximising the value of his claim in the winding up. It should be remembered that if no disclaimer has yet actually taken place the landlord has ability to force the issue by putting the liquidator/administrator/TIB to elect within 28 days whether or not to disclaim. The most obvious option for the landlord following disclaimer is to re-take possession of the property and to re-let it. He will obviously not face any resistance from the tenant in so doing and, if no one else is in possession of the property, he will not need an order of the court. However, if there are others in possession of the property or with potential rights to the property (eg subtenants or mortgagees), he will probably need to proceed by way of applying for a vesting order in order to clear off such interests.
The landlord will therefore need to weigh up carefully the advantages and disadvantages of obtaining possession as against retaining rights against third parties. Relevant factors will include:·
- ease of re-letting;
- likely rental on re-letting;
- existence of rights against third parties;
- likely recoveries from third parties on exercise of such rights;
- likely reaction of third parties in terms of seeking vesting orders or an overriding lease; existence of subleases;
- likelihood of subtenants wishing to pay the rent or to apply for a vesting order;
- size of likely distribution in winding up.
Disclaimer therefore does not let such third parties (eg a surety) off the hook. As indicated above, in order to be able to bring such claims, it is vital that the landlord does not do anything that might be construed as a re-taking of possession.
To date, the courts have not proved particularly sympathetic to arguments by third parties trying to establish that landlords should be regarded as having re-taken possession following disclaimers. For example, the court rejected a surety’s argument that the landlord had re-taken possession by putting the property up for sale and describing it in the particulars of sale as “vacant”. However, the landlord should nevertheless exercise great caution to make clear at all times that they are not taking possession and regard the lease as continuing as regards all persons other than the insolvent tenant.
Importantly in the context of this case, there is nothing legally objectionable in a landlord refraining from re-taking possession and re-letting the property, but instead claiming payment of continuing rent from a third party (surety) liable in respect of the lease. The third party cannot object that the landlord is unreasonably failing to mitigate his losses by not re-taking possession of the property and seeking to re-let it. In principle, such a situation could continue for many years. In one case, it continued for some 10 years following the disclaimer. The court held that the landlord had not done anything to re-take possession of the property and accordingly the liability of the original tenant to pay the rent under the disclaimed lease continued throughout the period. Therefore, there is nothing legally wrong with a landlord standing back, not taking possession, collecting the rent from the surety for the guarantee period, and then thereafter retaking possession and re-letting at a market rent. It is also worth noting that the landlord can sell this “notional reversion” with the benefit of the relevant third party covenant: see the Scottish Widows case referred to above.
Maximising the value of a claim in liquidation
If the insolvent tenant has significant assets and there is therefore the prospect of a substantial distribution in the winding up/bankruptcy, the landlord may be concerned to maximise the value of his claim in the winding up/bankruptcy. There is nothing he can do to increase the value of his proof for rent or other monies accrued prior to the winding up. However, as explained above, where the liquidator/administrator/TIB has disclaimed the lease, the landlord may claim in the winding up/bankruptcy for any losses suffered as a result of the disclaimer. This is one respect in which disclaimer actually improves the landlord’s position by comparison with his position in the absence of disclaimer. Disclaimer gives him the opportunity to claim, in effect, for future rent, something which he would not otherwise be able to claim in the winding up.
Depending upon the likely value of such claim, he may positively wish to encourage the liquidator/administrator/TIB to disclaim. Furthermore, once the liquidator/administrator/TIB has disclaimed, he may wish to keep an eye on the ramifications of his actions (eg in terms of attempts to re-let) on the likely valuation of such claim.The position of the claim as to future rent in the administration, however, ought to be distinguished from any prima facie liability of a surety under a Rental Guarantee where the liability may be limited for example to rent in default (rent arrears in other words).
Right to claim for loss suffered as a result of disclaimer
Any person suffering loss or damage as a result of the disclaimer may prove in the winding up for such loss or damage. The main person who stands to suffer loss or damage as the result of the disclaimer of a lease is the landlord in that he loses his right to claim against the tenant in respect of the period following the disclaimer. His loss, in effect, is the loss of future rents.In principle, the landlord’s loss is calculated as the value of the total income stream under the lease (discounted for payment at the date of the disclaimer) on the assumption of no liquidation, less the value of any income derived from any re-letting which the landlord can (or ought reasonably to) achieve on the open market for the remainder of the term, plus the rates and the cost of any repairs needed to achieve that re-letting.
The following may also be taken into account in calculating the landlord’s loss:
- any option to terminate early which the tenant may have had;
- a void period for re-letting;
- a vesting order (if made)
Where a liquidator/administrator/TIB has disclaimed onerous property, it is open to any person claiming an interest in the property or being under a liability in respect of the property to apply to court for an order vesting the property in such person or a trustee for such person.
In the case of leasehold property, it is therefore potentially open to the following persons to apply for a vesting order:
- the landlord.
The procedure for applying is laid down in the Insolvency Rules. Note that there is a time limit of 3 months from the date on which the applicant first became aware of the disclaimer. The court has a discretion whether to grant a vesting order and its terms. However, this discretion is subject to certain specific rules and requirements. In particular the court may not make an order vesting the property (in the case of a winding up) in an underlessee or mortgagee except upon terms making that person (a) subject to the same liabilities and obligations as the insolvent tenant was subject to under the lease at the commencement of the winding up (in which case the new tenant will be liable for accrued breaches) or if the court thinks fit, subject to the same liabilities and obligations as that person would be subject if the lease had been assigned to him at the commencement of the winding up (in which case the new tenant will not be liable for accrued breaches.
If (in the case of a winding up) an underlessee or mortgagee or (in the case of a bankruptcy) a person declines to accept an order in such terms, such underlessee/mortgagee or person is excluded from all interest in the property. If (in the case of a winding up) no underlessee or mortgagee or (in the case of a bankruptcy) no person is willing to accept an order in such terms, the court may vest the lease in any person who is liable to perform the lessee’s covenants under the lease and may do so freed and discharged from all estates, encumbrances and interests created by the insolvent tenant.
The court may not vest the lease in a person who is under a liability in respect of the disclaimed lease unless it appears to the court that it would be just to do so for the purpose of compensating such person. The rules and requirements referred to above have the consequence that there is an order of preference among the persons potentially entitled. A subtenant or mortgagee will come first, followed by a surety or former tenant, and finally the landlord. They also mean that a landlord cannot obtain a vesting order in his favour unless the prior interests of all other persons have been cleared away.
It is the court’s duty when making a vesting order to ensure that the disclaimer has effect with as little disturbance as possible to the rights and liabilities of third parties. For example, where the court made an order vesting the lease in a mortgagee, it attached terms to ensure that any surplus on sale by the mortgagee would benefit the bankrupt’s creditors. The effect of a vesting order is to vest the lease in the person concerned without he need for any further conveyance. Where an application for a vesting order is made, the court has a discretion (instead of or in addition to any vesting order) to make such order as it thinks fit in respect of any fixtures, tenant’s improvements or other matters arising out of the lease.