Removing Barriers To Commercial Leasehold Transactions – Small Changes, Big Impact?

The Law Commission is consulting on targeted reforms to remove barriers that can delay, complicate or prevent commercial leasehold transactions.

Background

The impediments identified by the consultation (Opens in a new tab)are often unintended consequences of legislation. They can impede commercially desirable transactions, leading to uncertainty, additional cost and, in some cases, litigation. The Commission is taking a pragmatic approach to considering whether these barriers can be removed without undermining the protections that the legislation was intended to provide.

Issues and proposals

The consultation addresses the following areas:

1995 Act

A key principle of the Landlord and Tenant (Covenants) Act 1995 is that an outgoing tenant is released from the tenant covenants on assignment and its guarantor is released to the same extent. The principal exception is an authorised guarantee agreement, under which the outgoing tenant may guarantee the performance of its immediate assignee.

The Act contains a widely drafted anti-avoidance provision which has had unexpected consequences and has led to several significant court decisions over the years. 
Difficulties include:

Repeat guarantees – under the current law, an existing guarantor cannot generally give a fresh direct guarantee of the immediate assignee’s tenant obligations. This causes particular difficulties on assignments between companies in the same group: where one subsidiary company assigns a lease to another, their parent company cannot directly guarantee the obligations of both subsidiaries. Any such guarantee would be void.

Consultation proposal – repeat direct guarantees (and agreements to enter into these) should be permissible between members of the same corporate group.

Assignments to guarantors – an assignment by a tenant to the guarantor of its lease obligations is not currently possible.

Consultation proposal – assignments to guarantors should be facilitated, whether or not the tenant and guarantor are members of the same corporate group. However, the proposal would not permit the parties to agree in advance that the guarantor must take an assignment.

Together, these proposals would allow the holding of leasehold interests within a group structure to change more freely. They would also allow, for example, a director who has guaranteed a company’s lease obligations to take an assignment of that lease.

Partnership structures – similar difficulties arise in partnership structures when an assignment is needed to reflect a change in the membership of the partnership. As noted above, the Act currently prevents repeat guarantees, and a lease cannot be assigned to a guarantor.

Consultation proposal – within a partnership situation, repeat guarantees should be permissible, alongside the proposed general ability to assign to guarantors. The proposals would ensure that it is more straightforward to deal with departing and incoming partners when a partnership holds leasehold property.

In both the corporate and the partnership situations outlined above, these arrangements are likely to be acceptable to landlords and may preserve, rather than weaken, covenant strength. In a corporate group, for example, the parent company may be the only entity capable of providing a meaningful guarantee.

1987 Act

The Landlord and Tenant Act 1987 gives residential leaseholders of blocks of flats the right of first refusal when a landlord proposes to dispose of certain interests.

If the right of first refusal is triggered, the landlord must serve notices and comply with various procedural steps. There are serious consequences for non-compliance, including criminal liability.

Generally, there is an exception from the right of first refusal for mixed-use developments where more than 50% of the premises is occupied otherwise than for residential purposes (disregarding the common parts):

Grant of commercial leases – the 1987 Act can impact the grant of a commercial lease in certain circumstances where the "50% rule" does not apply.

Consultation proposal – the grant of commercial leases should not trigger the right of first refusal. However, the Commission proposes that the right would still be triggered if the landlord grants a lease of common parts which are shared with residential tenants. 
The proposal to exclude the grant of commercial leases from the remit of the 1987 Act is likely to be welcomed by all both landlords and tenants. The Law Commission notes that it is not aware of residential leaseholders being keen to exercise the right in relation to purely commercial premises.

Stakeholders (such as the City of London Law Society) contend that the proposal does not go far enough and that common areas should not be subject to the right of first refusal. It is argued that common areas are commercial in nature and that the exception could significantly limit the practical application of the proposed change.

Conclusion and next steps

The proposals have the potential to remove some of the limitations and delays affecting commercial transactions. After the consultation closes on 16 September 2026, the Law Commission will publish its final recommendations. It will then be for the Government to decide whether, and when, the proposals enter the statute books.