Letting and insolvency: what awaits the landlord?

In this blog I will look at what awaits a landlord where a tenant of commercial premises is at risk of becoming insolvent, or has already been declared insolvent. I hope to make clear what to do and what not to do. In practice three periods can be distinguished: (a) the period before the insolvency, (b) the period immediately after it, and (c) the period during the insolvency and its conclusion.

The period before the insolvency

Before the insolvency there may be rent arrears, and the tenant may want to bring the lease to an end. At that stage the landlord has considerable freedom of action. They can agree to terminate the lease, call on the bank guarantee, set the deposit off against the outstanding rent, or take further legal steps such as bringing proceedings to recover the arrears or petitioning for the tenant’s bankruptcy. The landlord’s freedom is not unlimited, however. A special regime applies on the tenant’s insolvency. The trustee in bankruptcy can set aside, for the benefit of the estate, legal acts performed without any obligation to do so which prejudice creditors (article 42 of the Dutch Bankruptcy Act). A simple example is the sale of the fittings of the commercial premises, a shop unit say, by the tenant to the landlord at too low a price, with the payment set off against part or all of the rent arrears. The trustee will be able to unwind such a sale. Another danger for the landlord is receiving a rent payment while knowing that a bankruptcy petition has been filed and that the payment is intended to favour them as landlord (article 47 of the Bankruptcy Act). Where that is the case, the trustee can reclaim the payment. The conclusion, then, is that a landlord must avoid ending up in a better position than the other creditors, and must act with particular care in making arrangements with the tenant once insolvency is in prospect.

The period after the tenant has been declared insolvent

Once insolvency has been declared, the lease simply continues. For the landlord the insolvency will be reason to want to end the lease. That goes not only for the landlord but for the trustee as well, since the obligation to pay the rent continues for them. The law has made special provision for this situation. Landlord and trustee can each terminate the lease in the interim on notice of no more than three months (article 39 of the Bankruptcy Act). No reason for the termination need be given. One exception is that a court can order a cooling-off period (article 63a of the Bankruptcy Act). That may mean the premises do not have to be vacated for a certain period. The thinking behind that provision is that a trustee needs more time for, say, selling a business or running a closing-down sale. Despite this straightforward regime, landlords and trustees have litigated regularly, and still do. The proceedings mostly concern the amount of rent due and the condition in which the premises are handed back, but also, for instance, termination by the landlord. That last situation arises where the trustee wants to substitute a third party as tenant while the landlord wants to decide for themselves whom to let the space to. In such a situation the trustee will argue that the landlord’s termination has no legal effect because it amounts to an abuse of rights. A separate group worth mentioning is the parties who have given guarantees for payment of the rent, such as banks, holding companies and other third parties. The landlord or the trustee may approach them in respect of the claim under the guarantee, and they will want to dispute that an amount, or part of it, is owed.

The period during the insolvency and its conclusion

Up to the date of the insolvency the rent is an ordinary claim. Once insolvency has been declared, those arrears can be notified to the trustee; formally that is called submitting the claim to the trustee for verification. The rent due from the date of the insolvency until the end of the lease occupies a special position. It ranks as an expense of the estate: a debt the trustee must pay out of the estate ahead of ordinary creditors. In short, this means that where there is not enough money to meet all the debts, the expenses of the estate are in principle met first (though for completeness: there are several categories of estate expense, which may in turn rank ahead of one another). The reason for this special regime is that a trustee must be able to have the premises at their disposal for some time, for a closing-down sale, the sale of a business or a substitution of tenant, and must pay compensation for the time that takes. Should there nevertheless be no money, or not enough, to meet that expense, the landlord receives nothing or only a partial payment. There is therefore always a risk for the landlord.

Leases usually involve a bank guarantee or a deposit. On insolvency the landlord will want to call on it. They will also want, if possible, to claim the rent up to the end of the agreed term, which will be much later than the date on which the lease was terminated because of the insolvency. This is void loss: the loss the landlord suffers because the premises stand empty for the remainder of the term. The landlord recovers that void loss by calling on the bank guarantee. The bank in turn has recourse to the deposit the tenant is required to hold with it (the counter-guarantee). Various proceedings have been brought about this, and the outcome is that the bank cannot pass that loss on to the estate under the counter-guarantee. The starting point, after all, is that the lease came to an end lawfully under the statutory regime. Termination of a lease therefore does not give rise to damages, and so does not give rise to compensation for void loss either. The bank, by contrast, is obliged to honour the landlord’s call on the bank guarantee, including for the void loss. In practice this has led banks to stipulate in bank guarantees that the guarantee does not cover void loss. A landlord ought to try to agree otherwise with the bank, though whether that succeeds is another matter. The same point applies to group guarantees. There too a landlord should press for the guarantee to cover void loss.

Another question is whether and how the trustee must hand the premises back. This too has been litigated often. The starting point is of course that the trustee will have to hand the premises back at the end of the lease. The trustee need not, however, hand them back vacant and cleared. Nor does the trustee have to undo alterations and additions made by the tenant. Nor need the trustee make good any damage to the premises. There are two exceptions to this. Items belonging to the estate must be removed, and damage caused by the trustee in clearing the premises must be repaired. Items belonging to the estate are as a rule those owned by the insolvent tenant, such as fittings and stock; items that might not fall within it are, for instance, items the insolvent tenant had itself hired. Where the trustee fails to remove items belonging to the estate, that gives rise to an expense of the estate, in so far as loss results. Loss suffered by the landlord in other respects, such as damage caused by the tenant, can be submitted to the trustee as an ordinary claim and is therefore not an expense of the estate. For the landlord it is above all important to establish clearly which items belong to the estate and which do not. The landlord may be interested in items belonging to the estate and may wish to take them over. In such cases the landlord is best advised to consult the trustee.

The above is intended as a brief overview of matters that may be relevant to a landlord; it certainly does not answer every problem that can arise.

Do you have questions about landlord and tenant issues arising from a tenant’s insolvency? Please get in touch, without obligation.