Karen Mason, co-founder and real estate partner, and Alex Pelopidas, finance partner, both from specialist real estate law firm Newmanor Law, address the complex situation that many landlords and tenants have found themselves in following lockdown, advising on the solutions that are currently available to them, and offering guidance on what to expect from arbitration, should all else fail.

 

The commercial letting sector did not fare well when the Covid-19 pandemic took hold, with mandated closures and restrictive measures having a huge impact on the buoyancy of retail lets. In fact, at the end of March 2022, the government itself estimated there was still £9 billion in rental arrears for commercial properties left owing.

Whilst in the depth of the crisis, the Government chose to implement a range of legislation in an attempt to protect tenants’ businesses from the very real risk of total collapse, whilst also hoping to maintain the long-term viability of their commercial landlords.

Then, on 24 March 2022, to coincide with the withdrawal of Coronavirus restrictions, the Commercial Rent (Coronavirus) Act 2022 came into force. This saw the end of many of the temporary restraints placed on landlords dealing with rent arrears, whilst offering up a positive framework for arrears negotiations between landlords and tenants.

But how exactly will this new arbitration scheme work, and what will all of the changes mean for those tenants and landlords who are still struggling to rebuild in the aftermath of Covid-19?

What were the restrictions placed on commercial landlords during the pandemic?

The original Coronavirus Act 2020 put a temporary stop on many of the options available to commercial landlords dealing with rental arrears. However, despite plans to withdraw limitations being delayed numerous times as the pandemic dragged, these restrictions were finally removed on 25 March 2022.

The restrictions included the right to forfeit a commercial lease on the grounds of non-payment of rent was placed under a suspension, as was the use of Commercial Rent Arrears Recovery (CRAR).

Usually, using CRAR, a commercial landlord would be able to serve notice on a tenant once rental arrears have reached a specified level. But under the Coronavirus restrictions, this was extended to a period of 554 days.

At the same time, using statutory demands to pursue unpaid debt caused by Covid-19 was also deferred, removing the landlord’s ability to chase tenants who had failed to pay within a 21-day deadline with a petition to have their business wound up.

Within the Code of Practice originally published in June 2020, landlords were urged to make concessions with regards to debit accrual based on the impact an enforced closure would have. Instead, they were encouraged to employ more practical measures to solve any disputes, such as;

• A full or partial rent-free period for a set period of time;
• Deferring the whole or part of the rent for a set period of time;
• The payment of the rents over shorter payment periods for a set time (e.g. monthly rather than quarterly) including provision for their payment in arrears;
• Rental variations to reduce ongoing payments to a current market rate and/or to provide for all or part of the rent to be paid as a proportion of turnover of the site, incorporating any period during which the site was closed; and
• Landlords drawing from rent deposits on the understanding that they will not then require the tenant to “top-up” deposits before realistic to do so.

Although the idea of reaching a compromise might have seemed to be appealing to both parties initially, many landlords will have opted to ‘wait out’ the period covered by the original Coronavirus Act in order to take recovery action that they deem to be commercially necessary.

However, under the new legislation, landlords hoping to recover arrears built during the ‘protected period’ from 21 March 2020 to 18 July 2021, may have to accept that arbitration will be the only way forward if a compromise is not forthcoming.

In what circumstances does the Commercial Rental (Coronavirus) Act 2022 come into play?

The Act applies to business tenancy agreements whereby the tenant’s business was required by law to close their premises or businesses, either in whole or in part during the pandemic. The debts covered by the Act will include not just rent, but also any service charges, insurance premiums, interest due, or VAT charged.

Both landlords and tenants, if they have been unable to reach a mutual agreement regarding the repayment of rent arrears accumulated during the pandemic, will have the right to apply for arbitration at any point during the six months after the date the Act was passed. Whilst this may seem like a tight timeframe, this is alleviated by the fact that the Government has the power to further extend it if necessary.

Both parties will be expected to contribute towards the costs of arbitration, provided they have negotiated in good faith. However, if the arbitrator feels that either side negotiated in a manner at odds with the spirit of the Act, then the arbitrator can and will award costs to the other party.

What process will arbitration follow?

The resolution process will be administered by private arbitrators who will have been through a pre-approval process confirming their competency. The intention is that the Government will publish a list of such approved bodies.

The party making the application will need to notify the other party of their intent to pursue binding arbitration. This notification must include a fully-costed proposed settlement, backed with financial evidence proving it to be both viable and fair. Upon receipt, the other party will have 14 days to either accept this proposal or submit a counterproposal.

After this, either party can go ahead and make a formal application for arbitration, utilising the evidence gathered. A fee proportionate to the size of the debt will also be payable.

The arbitration itself can either be carried out using the documentation provided or via a public hearing. The arbitrator will have the power to defer or write off 100% arrears or suggest a payment plan at their discretion, and those decisions will be binding. These rulings will be made on the principle that any debts are as a direct result of the pandemic, and the business would otherwise be financially viable if it wasn’t for the arrears in question.

Other factors taken into account will include the total assets and liabilities of the tenant, including any other tenancies, as well as the payment track record of the tenant and the impact which the pandemic had on the business as a whole. This information will counter-balanced against the solvency of the landlord.

How will the arbitration scheme help to resolve disputes over rental arrears?

The Act states that both parties should continue to negotiate outside of the arbitration process and that all agreements reached in this manner will be enforceable regardless of the availability of the arbitration process. Arbitration should only be considered as a backstop.

If carried out properly, the arbitration scheme should hand down rulings that are fair across the board, accelerating the process of returning the commercial rental sector to something approaching ‘normal’.

The alternative would have been to either wipe out all Covid-19 arrears, which would be hugely damaging to landlords. Or, to include the ring-fenced arrears from the ‘protected period’ in the overall lifting of the moratorium on recovery, which would have forced many viable businesses to close needlessly.

With pandemic legislation now lifted, landlords are free to pursue unpaid rent using all of the possible remedies available. But they should take great care to ensure that none of the rent arrears in question date from a ‘protected period’. If a proportion of arrears does date from a ‘protected period’ the landlord, for example, might find themselves liable for the costs of pursuing an unlawful claim (in the case of forfeiture).

The key expectation is that both sides will continue to act ‘reasonably’ in seeking a resolution. If the arbitrator feels that a landlord is unreasonable in their demands then they may be seen as not acting in good faith. This could colour their decision as to the arrears and any division of costs.

But the same logic applies to tenants too. Anyone asking for an unsubstantiated reduction or write-off could result in the arbitrator doubting the long-term viability of the business. And because this is the basis of how arbitration is designed, that could be disastrous for all concerned.