The first quarter of the year can often be a pinch point for tenants as they assess Christmas trading and scrutinise financial results. Where profits have failed to meet expectations then a tenant may require to consider formal insolvency proceedings but how does this affect the landlord? Here we consider some of the key questions for a landlord in Scotland facing tenant insolvency.

What is the status of the tenant?

A tenant which is known to be experiencing financial difficulty can quite often be referred to as being "insolvent" but the implications for the landlord will largely depend on whether the tenant has put forward a company voluntary arrangement (CVA) or has been placed into a formal insolvency process such as administration or liquidation.

A CVA is a restructuring, rather than insolvency, procedure which is intended to avoid the company entering into formal insolvency proceedings by coming to a binding agreement or compromise with the company's unsecured creditors (e.g. landlords). This differs from administration where the aim is to rescue the business as a going concern or liquidation which realises assets and winds up the company. The fundamental difference between a CVA and administration/liquidation is the role of the directors. When an administrator or liquidator is appointed the directors cease to have control of the company. However, the CVA is implemented under the supervision of an insolvency practitioner but the directors remain in control of the company on a day to day basis. So the first step for a landlord is to establish the current status of the tenant and which regime is to apply as this will determine next steps.

Is the lease still continuing if the tenant is insolvent?

In Scotland, neither an administrator nor liquidator has the power to disclaim a lease so the tenant entering into a formal insolvency process does not automatically terminate the lease but the insolvency practitioner can refuse to perform the tenant's obligations under the lease if it is in the best interest of the creditors to do so. If the tenant has gone into administration then the tenant company will have the benefit of protection via the moratorium which means that the landlord will be prevented from irritating (terminating) the lease without either the consent of the administrator or the permission of the court. However, if the landlord does want the property back then it might be useful to speak directly with the insolvency practitioner in the first instance to establish if surrender terms can be agreed, especially if the property is unoccupied.

Does an insolvent tenant still need to pay rent?

Whether or not the landlord is able to recover the rent due under the lease will depend on the period to which the rent relates to and whether or not the property has actually been occupied during this period. There is an important distinction between rent arrears which accrued before and those which accrued after the date of appointment.

For any rent arrears which relate to the period prior to the tenant entering into insolvency, the landlord will rank as an ordinary unsecured creditor which means that payment will only be received if there are any funds remaining once higher priority creditors have been paid. However, if actual physical occupation of the property by the tenant continues after they have become insolvent, then the payments due for this period are recoverable from the insolvency practitioner as an expense of the insolvency but this only applies whilst the premises remain occupied.

If there are arrears then the landlord should check if there are any rent deposits held which can be offset against the sums owed but it is important to take advice as to whether there are any restrictions on the landlord applying the rent deposit in an insolvency scenario.

Can the landlord exercise any rights of hypothec?

A unique aspect of Scots law is the landlord's right of hypothec which is a common right of security enjoyed by landlords over goods owned by the tenant within the leased premises to the value of the unpaid rent. Previously, hypothec was enforceable via the process of sequestration for rent but the Bankruptcy and Diligence Etc (Scotland) Act 2007 restricted landlord's hypothec to a preference on insolvency and the extent of the security to moveables owned by the tenant. Whilst the goods or equipment must be fully owned by the tenant for landlord's hypothec to apply, it is always worth a landlord considering if there is any value in a potential claim given that this is a remedy which is only available in Scotland and in certain circumstances can significantly improve the landlord's position.

A landlord faced with tenant insolvency may feel that they have limited control but it is possible that there may be more options available than originally anticipated. Taking advice as early as possible will always be beneficial in establishing any remedies which may be available and assist in protecting the landlord's position.

Contributors

Jemma Deeney

Senior Solicitor