Is rent an 'administration expense' during coronavirus lockdown?

The more likely it looks that an administrator plans to re-open a site or sell it as a going concern, the more likely it is that rent will be seen as an administration expense.

Expenses of a company's administration often have priority over other claims against a company in administration such as general unsecured claims. Administration expenses are typically paid in full whereas general unsecured creditors often only receive a small proportion of the sum owed to them or receive no payment at all. It is therefore extremely beneficial to a landlord for it to be able to claim rent as an administration expense rather than as a general unsecured claim.

The UK lockdown has resulted in many business premises being left empty, and is also increasing pressure on retail and restaurant businesses, meaning that some may go into administration. Landlords and insolvency practitioners are turning their thoughts to what the status of rent would be in those cases.

The issue is particularly relevant in the context of 'light-touch administrations', where administrators are appointed but the directors continue to exercise the day to day control of the business.

In normal circumstances the law is clear because of a Court of Appeal ruling known as the Game case. The Court said that rent would be an administration expense if the tenant is using the premises for the benefit of its administration. In other words, if the administrator is using the landlord's property "to its own advantage", rent will be payable as an administration expense. This will typically be the case where the tenant continues to operate its business from the premises, whether that be to sell it as a going concern, to sell its stock or just to wind down its operations in an orderly manner.

The Court said that where the tenant is using the premises for the benefit of its administration the rent is treated as an administration expense for the period of occupation and it accrues on a daily basis from the date of administration until the date on which such occupation ends. If the tenant stops using the premises for the benefit of its administration, such as by vacating the premises, returning the keys to the landlord and offering the landlord a surrender of the lease, the rent ceases to be an administration expense. It therefore does not matter if the rent under the lease fell due before or after the date of administration; it is the period of occupation that is relevant. The position is substantially the same in the context of a tenant in liquidation.

Does the UK lockdown change anything?

The coronavirus lockdown represents an extraordinary set of circumstances and many retail and food businesses have been forced to close.

Retailers are not trading from their premises but stock continues to be stored on site; restaurants have closed temporarily with kitchen equipment in place.

If these companies went into administration rent would be more likely to be considered an expense of that administration if:

• the administrator intends to re-open the site for trading once the lockdown period ends;
• the administrator is marketing the business for sale in a manner that would involve a buyer taking on the lease of the premises or otherwise trading the business from the existing premises. This will include any accelerated sales process being conducted by firms of insolvency practitioners and their agents;
• the administrator has left its furniture, equipment or stock on the premises in a manner that would prevent the landlord from re-letting the premises;
• the administrator furloughs employees, which can only be done if they are to be rehired at a later date;
• the administrator has granted access to the premises to a third party, whether that be under a written agreement such as a licence or under an informal unwritten arrangement; or
• the administrators has not returned the keys to the landlord and has not consented to the landlord's re-entry of the premises or offered a surrender of the lease.

These factors will help a landlord to argue that its claim for rent is an administration expense claim.

Can a lease be ended by lockdown?

Administrators may want to try to avoid paying rent by saying that the lease has been frustrated by the lockdown or that it has made it illegal for the tenant to continue to occupy the premises. Administrators and their lawyers should scrutinise the lease terms to see if there is anything on which they can hang their hat; if there are no express terms of use, they may seek to argue that there is an implied term in the lease that the tenant has a right to bring the lease to an end or other relief because an event has occurred that was not contemplated by either party when the lease was entered into.

It is worth noting that nothing in the Coronavirus Act 2020 or existing government guidance provides that rent need not be paid during lockdown; instead, the Act assumes that rental liabilities continue but provides respite for tenants through other means such as the temporary moratorium on forfeiture of leases for non-payment of rent. One may argue that, if parliament intended for rental liability concessions to be given to tenants, they would have legislated for it.

Last week, the Australian Federal Court ruled that the administrators of the retailer the Colette Group would not be personally liable for accruing rent for a two week period while the business premises were temporarily closed due to the Australian lockdown; instead, the landlords would be ordinary unsecured creditors for the unpaid rent.

In reaching its decision the court decided that the detriment that would be caused to the landlords by this ruling was outweighed by the benefits to Colette's body of creditors in allowing the administrators to pursue one of the alternative strategies that they had modelled, which did not involve an immediate shut down but instead involved either a managed a wind down of operations or a period of trading followed by a sale of the business. The court found that, at least in the sale scenario, there was potential for the landlords to maintain tenanted stores and any outstanding amounts could form part of lease renewal negotiations.

These are uncertain times for both tenants and landlords, and the financial ramifications of whether rent is paid are significant. That is particularly the case for commercial premises outside of prime locations where there will be a limited number of businesses willing to take on the lease. It is therefore widely expected that parties will seek to reach compromises where possible in order to avoid closure of businesses and empty premises. Where a compromise cannot be reached, it seems likely that administrators or landlords will seek direction from the court on the position.

Co-written by James Hillman, a restructuring expert at Pinsent Masons..