Liability for non-domestic rates on disclaimer of a lease

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The issue in Schroder Exempt Property Unit Trust, British Overseas Bank Nominees Limited, WGTC Nominees Limited (As Trustees for Schroder UK Property Fund) v Birmingham City Council [1] was who should bear the cost of rates liabilities where a lease has been disclaimed and the landlord has not re-entered the property. The case also tackles the question of whether a guarantor is still liable to make good the defaults (e.g. rent) of a former tenant after a lease has been disclaimed.

Schroder (the Landlord) were the freeholders of a property which was leased to Woodward Foodservice Limited (Woodward). Woodward assigned the lease to WF Group Limited (WFG) and provided an Authorised Guarantee Agreement (AGA) to the Landlord in respect of WFG’s obligations under the lease.

WFG went into liquidation on 20 April 2011, and the liquidator disclaimed the lease under section 178 Insolvency Act 1986 (the Act). The Landlord recovered the rent due from WFG by calling on Woodward under the terms of the AGA, and did not exercise its right to go into physical possession of the property. Woodward did not call for an overriding lease [2] and the property was left vacant.

Birmingham City Council (the Council) made rate demands of the Landlord after the disclaimer for the period 20 April 2011 to 31 March 2013, but these were not fulfilled. At first instance, a liability order was made against the Landlord in favour of the Council for non-domestic rates. The Landlord appealed.

Dismissing the appeal, the Court considered section 45(1) of the Local Government Finance Act 1988 (the 1988 Act), in particular section 45(1)(b). This states that:

“A person (the ratepayer) shall as regards a hereditament be subject to a non-domestic rate of a chargeable financial year if the following conditions are fulfilled in respect of any day in the year –

(b) on the day the ratepayer is the owner of the whole of the hereditament”

Under section 65(1) of the 1988 Act, the ‘owner of a hereditament’ is defined as “the person entitled to possession of it”. Previous case law suggested that a person was entitled to possession for the purposes of section 65(1) if they were “immediately entitled to possession”.

The present case therefore turned on whether the Landlord was entitled to immediate possession of the property after the disclaimer. On this point, the Court provided a useful summary of the position: after assignment of the lease and prior to disclaimer, the tenant (WFG) was the person entitled to immediate possession. Upon disclaimer, the lease terminates and the Landlord’s reversion accelerates. [3] The landlord, as the freehold owner, becomes entitled to immediate possession. Had Woodward requested an overriding lease, it would be they who were entitled to immediate possession.

The Court also tackled the effect of disclaimer on the obligations of guarantors; despite the disclaimer of a lease, a guarantor must still abide by the terms of the guarantee because of the operation of section 178(4) of the Act.

“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” [4]

The court also endorsed the approach taken in Hindcastle in relation to when a guarantor’s liability might end:

“If […] the landlord takes possession, the liabilities of other persons to pay the rent and perform the tenant’s covenants will come to an end as far as the future is concerned. […] [The landlord’s] conduct [in taking possession] is inconsistent with there being continuing liability on others to perform the tenant covenants under the lease” [5].

Consequently if a landlord takes physical possession of the property, the guarantor’s obligations under the lease covenants end.

Owing to the operation of sections 45(1) and 65 of the 1988 Act, it was the Landlord who was entitled to immediate possession on the disclaimer of the lease, and so it was they who were liable for the Council’s non-domestic rate demands. A disclaimer did not serve to extinguish the liabilities of Woodward to the Landlord under their AGA. The appeal was dismissed.

This case is primarily a consistent application of the established law; it provides further warning to landlords who have leases disclaimed that, in the absence of a guarantor calling for an overriding lease, it is they who are likely to be liable for non-domestic rates.

Practical points to consider
As to whether an administrator or liquidator would be liable for non-domestic rates where they were in occupation of the property, there is case law authority [6] to suggest that where administrators or receivers simply manage a business as agents of the company, this may not amount to rateable occupation of the relevant property. In these circumstances it would still be the company in administration who bears liability.

This means that if a tenant becomes insolvent and the re-letting of the property is likely to be problematic, landlords should strongly consider negotiating with the administrator or liquidator, in the hope of deferring any disclaimer, thereby maintaining the exemption from rates on insolvency. Only when the landlord is ready to re-let should disclaimer be effected.

[1] [2014] EWHC 2207 (Admin)
[2] An overriding lease allows a guarantor, where a tenant defaults on its obligations under a lease, to occupy the property on the same terms as the defaulting tenant and become the direct tenant of the landlord and the landlord of the defaulting tenant.
[3] Applying Hindcastle Limited v Barbara Attenborough Associates Limited [1997] AC 70
[4] Per Lord Nicholls in Hindcastle at paras 87E-88H of his judgment
[5] ibid.
[6] Re Beck Foods Ltd [2001] EWCA Civ 1934 per Jonathan Parker LJ at para 73 of his judgment; Ratford v Northavon DC [1987] QB 357 per Slade LJ; Brown v City of London Corporation (Re Solomon) [1996] 1 WLR 1070