Break Clause Conditions – A Legal Minefield

Operating a break clause is not simply a case of submitting a formal notice to terminate the lease in accordance with the break clause conditions. This is far from the case, and the devil is in the detail.

Break clauses will almost always contain specific requirements for performance; Failure to strictly comply with these pre-conditions may well render the validity of the break null and void.

The following are examples of standard provisions in break clauses, and recent cases where the validity of the break has been tested in Court. These cases demonstrate how easy it can be to invalidate a break by failing to appreciate the true meaning, and possible ramifications of the lease requirements;

• Rent and all outstanding payments must be made by the break date.

Quirkco Investments Limited vs. Aspray Transport Limited [2011] EWHC 3060 (CH)

Verdict: No matter how trivial, any amount of monies outstanding is sufficient to invalidate the break. In this case the tenant won on a technicality, as the landlord had not actually expended the money on the insurance premium by the break date. However, valuable lessons can be learnt from this case.

Aspray Transport Limited successfully issued a break notice to terminate their 15 year lease in year ten.  The lease contained a conditional break clause, which required certain conditions precedent to be fulfilled at the date of expiry of the break notice.  These conditions included both a no material breach condition and a no rent arrears or other sums payable condition.  This case hung on whether or not the tenant was liable for outstanding arrears on insurance.  The Court found in the tenants favour on the basis that whilst insurance monies were due before the break date, the landlord failed to pay these until after the break date and therefore, technically, the landlord had not suffered loss for which the tenant would be liable.  On a separate issue the tenant now faces a new court case regarding allegedly failing to comply with the material compliance clause. However, there are a number of lessons that should be learnt from this case in the Judges summing up:

• There is no de minimis rule when complying with break clause requirements in respect of arrears whether it be insurance or rent. However trivial any amount outstanding, it would still be sufficient to invalidate the break.

• Rent payable must be paid in full and cannot be apportioned under common law.

Subsequently, as in this case, if there is a rent demand for a rent period for part of the year, it must be paid in full, by the due date, even if this means overpayment past the break date.  If there is a clause then stating that a tenant can receive back overpayments then the tenant can apply to the landlord after the payment has been made. This is usually only found in modern leases. Watch out for clauses in the lease such as, ‘the tenant must pay proportionately for any part of a year’ or ‘a proportionate part of the rent,’ as these do not apply in this instance. These clauses relate to the commencement and expiry dates and are unlikely to coincide with quarter days and break dates.

In summary, a tenant must ensure all money due is paid in full, even if this means overpayment past the break date. This was again reiterated in the more recent case PCE Investors Limited v Cancer Research UK [2012] EWHC 884.

Unless it is a modern lease, it is unlikely it will provide for payment of a lesser sum or for the pro rata recovery of monies overpaid after the break date.

• Overdue payments must include interest if required in the lease.

Avocet Industrial Estate LLP vs. Merol Limited and Tudor Rose International Limited (2011) EWHC 3422 (CH)

Verdict:  The tenant had failed to add interest onto late payment of rent instalments.  Interest owing amounted to £130.  Judgement was found in favour of the landlord and the break was deemed ineffective.

The lease clauses contained a standard provision that any rent that is not paid on time whether formally demanded or not, would require the tenant to pay for the outstanding period. The tenant had been late in payment on a number of occasions, yet had not added interest. The landlord did not issue a demand for the interest and the courts found that there was no requirement to do so.

The judge recognised it was a harsh verdict but when applying legal principles he was obliged to reach his conclusions despite the small amount of interest owed.

• That the tenant must give up vacant possession of the property by the break date.

NYK Logistics (UK) Limited vs. Ibrend Estates BV (2011) EWCA Civ 683

Verdict: The tenant continued to employ security and contractors after the break date, and subsequently was deemed to have failed to comply with the break requirements to give up the property with vacant possession.

In this case the tenant tried to negotiate with the landlord to undertake dilapidations works in the lead up to the break date.  The landlord was late in serving a dilapidations schedule and whilst verbal consent was obtained for the tenant to carry out the works after the end of the term, it was deemed that such verbal agreement did not constitute a waiver to the absolute requirement to give up vacant possession.  The tenant continued to employ security on site after the break date and its builders carried out the works for a period of one week thereafter.  The judge found that the presence of security constituted occupation and undertaking the dilapidations works did not form part of the requirement for the break. He found that the works were only being undertaken for the tenant’s benefit in order to save money against the costs identified in the Schedule of Dilapidations.

Lessons Learnt

The judge in this case defined the following criteria when contemplating the meaning of vacant possession;

• The property must be empty of people including employees, security and facilities management personnel, and that the landlord or purchaser is able to assume and enjoy immediate and exclusive possession, occupation and control of the premises.

• The property must be empty of chattels where these substantially prevent or interfere with the enjoyment of the right of possession over a substantial part of the property.

Strict compliance with the conditions is essential, and if necessary tenants should err on the side of caution.  Early advice should be sought from legal or dilapidations practitioners.

• Specific performance.

There may be a requirement to comply with some, or all of the covenants within the lease.  This is deemed to be a conditional break.  Some wording may include ‘absolute compliance’, ‘complete compliance’ or ‘material compliance’.  The latter is more usual and appeared in the following case. Whilst this case is not recent, it is a landmark ruling, and the current authority on material compliant breaks:

Fitzroy House Epworth Street (No. 1) Ltd. & Anor v The Financial Times Ltd. [2006] EWCA Civ 329

Verdict: The tenant won the right to break the lease on the basis that the Court of Appeal found that the outstanding works, whilst amounting to £20,000, did not stop the landlord’s ability to re-let or sell the property without delay or additional expenditure.

In this case the tenant undertook £1 million worth of dilapidations works in order to comply with the conditions of the break.  The important point to note here is that the landlord was not forthcoming in guiding the tenant as to their repair, reinstatement and decoration covenants. The tenant therefore played safe and undertook works far in excess of those which would normally be considered necessary under a natural end of lease term scenario. Even with the tenant’s cautionary approach, the landlord took an opposing view. Relying on the materially compliant requirement, they served an extensive Schedule of Dilapidations after the break date costed at £211,000.  The Court of Appeal deemed that the actual cost of dilapidations was £20,000.  The Court stated,

“The purpose of the insertion of the word ‘material’ in the break clause was to mitigate the requirement for absolute compliance with all the covenants at the relevant time, not to modify the rule to the extent that it was reasonably fair to both the landlord and the tenant.”

Lessons Learnt

Break clauses that contain the provisions ‘absolute’ or ‘complete’ compliance would be nigh on impossible to operate successfully, as a landlord would almost always be able to find a minor transgression.  In these circumstances we would strongly urge the tenant to enter early negotiations with the landlord and expect to pay a high premium or to continue with the lease.

The words ‘materially compliant’ still require a tenant to carry out substantial works in order to ensure that the landlord is able to re-let or sell the property.  These must be completed by the break date. Early vacation should be planned and early advice sought from legal or dilapidations practitioners.

In Summary

Lease Break clauses are rarely straightforward. Careful understanding of the specific requirements is essential. Strict compliance is a legal entitlement for the landlord, where courts have found Breaks to be invalid, no matter how minor or unreasonable the breach.

Alex Charlesworth

Alex is head of Cushman & Wakefield Building Consultancy team and is responsible for all commercial building surveying services. He specialises in dilapidations and landlord and tenant related matters, including exit strategy. Alex is an authority on dilapidations and has written a number of articles and given presentations to both Clients and Peers. He is viewed by the industry to be a leading Dilapidations practitioner.