Landlord can't claim rent deposit top-up as administration expense

• Landlords should not use rent deposits to cover administration rent
• Rent is payable as an administration expense but obligation to top up rent deposit is not
• Shinners and another (Joint Administrators of London Bridge Entertainment Partners LLP) v London Trocadero (2015) LLP [2019] EWHC 2932 (Ch)

Trocadero was the landlord of London Bridge Entertainment Partners LLP (London Bridge) under two leases from 2007 and 2008. It was also the beneficiary of a rent deposit deed through which London Bridge paid £2 million. London Bridge entered into administration in September 2017.

A few days after the administrators were appointed the quarterly rent fell due under the 2007 lease. The rent under the 2008 lease was a peppercorn rent. Trocadero made a withdrawal of £615,000 from the rent deposit and told London Bridge to replenish the rent deposit within 14 days, in accordance with its terms. London Bridge failed to replenish the rent deposit and so Trocadero served further notice on London Bridge requiring it to remedy the breach which was also ignored.

In December 2017 both leases were forfeited with consent from the administrators. Trocadero argued that while it had received the rent under the 2007 lease for the period of the administrators' occupation, the administrators needed to top up the rent deposit to cover other sums due under the leases such as dilapidations and losses arising from the forfeiture.

The administrators asked the court whether London Bridge's top-up obligation would be elevated to an "expense" of the administration, in accordance with the ruling in Re Lundy Granite Co (1870-71) LR 6 Ch App 462. The Lundy principle means that where property is used for the benefit of an insolvent company, such use is paid for as an expense as part of the insolvency process. The court considered that there were four issues to address in determining whether the top-up obligation should be treated as an expense in the administration.

Firstly, is the Lundy principle limited to provable debts, meaning debts arising under pre-administration contracts, or can it apply to expenses in an administration? The court concluded that the Lundy principle is not limited to provable debts but that anyone seeking expense status 'must show why he should have such advantage over the other creditors'.

Secondly, is the top-up obligation provable in London Bridge's administration? The court said that the obligation contained within the rent deposit was provable in the administration as it clearly qualifies as a 'liability to pay money or money's worth' and therefore constitutes a 'debt' for the purposes of rule 14.1(3)(b) of the Insolvency (England and Wales) Rules 2016.

Thirdly, does the top up obligation offend the rule against double proof, meaning would Trocadero receive two dividends in relation the same debt? The court said that the top up obligation constituted an obligation to provide security. With this in mind, the court determined that Trocadero could not prove for this security through the top up, in addition to proving for the obligations of London Bridge under the lease, as secured by the rent deposit, as this would offend the rule against double proof.

Fourthly and of most significance, should the top-up obligation be treated as an administration expense? The court found that the Lundy principle does not apply to the top-up obligation and that there is no basis upon which it could properly be treated as an administration expense. Whilst the administrators were obliged to pay rent as an administration expense, the parties accepted that the rent had been paid.  Any other sums due under the lease, such as dilapidations, should be treated as an ordinary unsecured claim.

In coming to its conclusion, the court reflected that the making of the top-up payment would be contrary to the pari passu rule (i.e. the principle that each class of creditor is paid equally and without preference to one another) in circumstances that did not warrant contravention of the same.

The case is a reminder to landlords not to resort to using the rent deposit monies too quickly. From the outset the administrators accepted that they were obliged to pay rent for their period of occupation. The judge commented that the landlord was under no obligation to use the rent deposit monies to discharge the rent; it "elected" to do so. Had the landlord not used the rent deposit monies to discharge the rent, it would have been able to use them to discharge the other sums, such as dilapidations, due under the lease.

Co-written by Tom Storer, a restructuring expert at Pinsent Masons, the law firm behind Out-Law.com