Don’t buy cheap, still pay twice?

In a recent judgment, the Northern Ireland Court of Appeal considered whether £1.8M worth of improvements to business premises had been carried out under an obligation to the landlord, and could therefore be “rentalised” on renewal.

Introduction

The Business Tenancies (Northern Ireland) Order 1996 (the 1996 Order) is the legislation that governs security for tenure for business tenants in Northern Ireland. Article 18 of the 1996 Order deals with the rent payable under a new tenancy granted by the Lands Tribunal.

In the absence of agreement, the Lands Tribunal determines the new rent by reference to an open market rent, but with certain issues being disregarded. Those include:-

“any effect on rent of any improvement—

(i)carried out by the tenant

…

other than in pursuance of an obligation to the immediate landlord;”

The rationale behind that disregard is reasonable from a tenant’s perspective, in that a tenant should not be entitled to benefit from a disregard for work that it was obliged to do.

However, where a tenant is voluntarily carrying out alterations (and potential improvements) to premises, some landlords may look to impose a covenant in the licence to state that the tenant 'must' carry out the works in question. This prompts a concern as to whether that covenant would be construed as an 'obligation to the landlord' which would disqualify the alterations (to the extent that they qualify as improvements) from being disregarded on a renewal.

Background

The tenant in this case had carried out £1.8M of work—taking premises from a shell and core condition to fitted-out. The landlord at the time could not afford to carry out that work. The premises were subsequently sold to a new landlord.

The work was carried out pursuant to agreements for works, which contained provisions akin to those often found in licences for alterations. For example, they provided that the tenant “shall carry out and complete [the work] in a good and workmanlike manner”.

The landlord argued that the work was therefore carried out under an obligation to the landlord for the purposes of Article 18 of the 1996 Order and that it ought to be rentalised at renewal.

Lands Tribunal Decision

The Tribunal rejected the landlord’s argument, noting:-

• It was unfair to expect the tenant to pay a higher rent by reason of work that it had completed at its own expense;
• The agreements for works permitted the tenant to carry out work which was otherwise prohibited by the leases, and ought to be construed as permissive rather than imposing a positive obligation to carry out work; and
• Considering authorities from England and Wales, the covenants in the agreements for works should be interpreted as meaning only that if the tenant decided to go ahead with the work, then it must do so in a certain way, rather than as imposing an obligation to carry out the work.

Appeal

The landlord appealed.

That appeal was dismissed, with the Court of Appeal finding that the Tribunal had correctly and lawfully construed the leases and agreements for works.

It was stated that the landlord argued for what would have been a “surprising result”, with the landlord receiving a “windfall”. If that had have been the parties’ intention, the panel considered that they would have said so “in clear and unambiguous language”.

The panel considered that there was no clear language within those documents to indicate that the parties intended to disapply the disregard of the impact on rent of tenant’s works on a renewal.

Carson McDowell View

The consequences on renewal of improvements to premises ought to be considered when negotiating any licence for alterations. If it is intended to “rentalise” such improvements, then that intention ought to be recorded in clear and precise terms.

If you would like further information, please contact John Dugdale or another member of the construction team.

*This information is for guidance purposes only and does not constitute, nor should be regarded, as a substitute for taking legal advice that is tailored to your circumstances.