Landlord and Tenant – Compliance with conditional break clauses

In these uncertain economic times, it is essential that tenants who have the benefit of a “break option” in a lease ensure that they validly exercise the right to break.  Often, landlords would prefer to have a reluctant tenant rather than no tenant at all and a recent case in the High Court has highlighted the dangers for a tenant who does not validly exercise the right to break.

In the recent case of Avocet Industrial Estates LLP -v- Merol Ltd and another (2011) (‘Avocet‘), the High Court held that a tenant owed default interest on late payments under the terms of a lease, even though the landlord had not issued any demands for default interest. As the tenant had, therefore, not made all payments due under the lease, as required by the break clause, the tenant’s right to determine the lease had not been validly exercised. The tenant, therefore, remained bound for the remainder of the lease term, despite the amount of default interest being negligible.

Modern commercial leases commonly contain wording relating to the payment of default interest and this decision will, therefore, have implications for many landlords and tenants, both when negotiating new leases and also when exercising break clauses in existing leases.

Conditional break clauses

A break clause will be strictly construed and any conditions attached to the right to determine must be strictly performed.  Therefore, an absolute condition that the tenant has paid the rent due under the lease and that they have observed and performed the lease covenants and conditions will prevent the tenant from exercising the break clause if there is a subsisting breach of covenant or condition at the relevant time, no matter how trivial the breach.

Payment of rents

It has been held that payment by cheque is a conditional payment.  If a cheque is accepted by the payee then payment is conditionally made when the cheque is delivered to the payee.  If a cheque is honoured on first presentation then the payment becomes unconditional on the date it was originally made, usually when the cheque was delivered to the payee.

Most modern commercial leases expressly require the tenant to pay the rents due by standing order.  However, in the absence of an express provision, if there has been a regular course of dealing in which the landlord has accepted rent by cheque, then the landlord may be taken to have waived the requirement for payment by cash.

‘Avocet’

In ‘Avocet‘, the Judge did admit that in this case the result was a “harsh one” and that the conditions attached to the break clause represented “something of a trap for a tenant”.

However, it is clear that, provided a landlord has not in any way misled a tenant, a landlord may be able to rely upon a failure to pay default interest on previous arrears to defeat the exercise of a tenant’s conditional break clause.  However, many break clauses do require tenants to be up to date with all payments, not just the main rent.  When confronted with this type of break clause, a tenant should amend it to restrict the payments to those that the landlord has demanded in writing not less than, say, ten working days before the break date.  This will ensure that the tenant is aware of all sums being claimed and has sufficient time to satisfy the condition.

Furthermore, when exercising a right to break, the tenant should check carefully if default interest may be due on past arrears.  The tenant may have difficulty knowing precisely how much default interest is due without having received a demand from the landlord.  In the case of a bank transfer, for example, money may be transferred from the tenant’s bank account but not credited to the landlord’s account until a later day. The tenant may, therefore, need to over-estimate the payment due, just to be on the safe side. However, the cost of doing so is likely to be far less than the cost of remaining bound under the lease.

James Burgess, Commercial Department