Biggart Baillie Solicitors

Property Healthcheck – Keeping the Wolf from the Door

Friday, March 13, 2009

by Geoff Stansfield and Gregor Duthie

Given the current economic climate, no one can have failed to notice that the number of new deals being completed has taken a downturn. With fewer new transactions on the horizon, lenders and landlords alike are inevitably turning their attentions towards the terms of their existing documentation to ensure that their income stream is safe: never have they been more alert to the possibility of default.

Anyone who has granted security to their lender, or any Tenant under a lease, does not have carte blanche to manage their property as they wish and will be subject to a wide variety of third party constraints. With creditors on the prowl, it is worth taking the time to pause and ensure that they will have no cause for alarm. Listed below are just a few examples of often-overlooked circumstances where third party consents ought to have been obtained.

The “Standard Conditions” – Lenders’ requirements
The only form of fixed security over land and buildings in Scotland is the Standard Security, which was set out in statute in 1970. More importantly, the statute also lays down a number of conditions which will automatically apply. These are deemed incorporated into the security deed unless explicitly varied. A property owner who has granted security to their lender may well have signed up to these conditions without ever knowing the detail of what they contain. The default conditions may be varied and it is important to check any variations within the body of the standard security. However, in absence of express agreement, the default position can be summarised briefly as follows:-

Condition One – Maintenance and Repair
The owner is required to maintain the property in “good and sufficient repair” to the lender’s satisfaction. The lender also has the right to enter the property, on seven days’ written notice, to inspect the state of repair.

• Is the property in a fit state of repair? A vacant property may well fall into disrepair, particularly at a time when cash could usefully be diverted elsewhere. However, the lender wants to know that the property is fit for re-sale if he has to realise the security. Breach of any of these Standard Conditions may give rise to an event of default, and so it is worth ensuring the property is in a sufficient state of repair.

Condition Two – Completion of Buildings/Alterations
There is an obligation on the owner to complete any unfinished buildings or works. There is also a prohibition on carrying out any demolitions, alterations or additions to the property without (i) the necessary statutory consents; and (ii) the prior written consent of the lender.

• In general, the lender’s consent is required before works are carried out. However, many lenders will have their own additional requirements here and you should check the terms of the documentation. It may be that you need to obtain the Bank’s consent before making any application for planning permission affecting the property. Even if this is not specified in the documentation, it is always worth taking the lender with you from the outset to smooth the development process. Bringing the funder in at the eleventh hour will only cause delays, which can easily be avoided by communicating throughout the whole process.

Condition Three – Compliance with title conditions & statute
The property owner is obliged to comply with the terms of the title deeds (including any obligation to make monetary payments), as well as with any statutory requirements.

• Check that there are no breaches of title conditions. Your solicitor should have provided you with a Report on Title at the time you acquired the property setting out any restrictions in the title deeds. It is worth bearing in mind that, even if there has been no objection to an existing breach (e.g. neighbours have not objected to construction of an extension which is prohibited in the titles), this may yet give rise to an event of default in terms of the Standard Conditions.

Condition Four – Compliance with planning notices
As with the state of repair, and permission for alterations, the lender wishes to know that he can realise his security if he needs to, and so the lender is to be informed if any statutory notices (e.g. compulsory repairs, compulsory purchase etc.) are served in respect of the property. The lender may require the owner to make representations and/or object to the terms of the notice and, in terms of the security, the owner is bound to object (either individually or jointly with the lender).

• NB – there is no requirement that the lender’s requirements be “reasonable”. If the lender requires you to object to the terms of a statutory notice, you must do it.

Condition Five – Insurance
The owner is obliged to insure the property in the full market value; to deposit the policy with the lender; to inform the lender of any potential claims; and to refrain from invalidating the policy.

• Almost all lenders will have their own further requirements which should be checked carefully. It is usual to require that the property be insured in the full reinstatement value, and most lenders will require that their interest be noted on the policy itself.

Condition Six – Restriction on letting
The owner is prohibited from letting or sub-letting any part of the property without the prior consent of the lender.

• Most landlords are alert to letting restrictions, and creditor’s consent should always be sought prior to granting any new lease. However, many lenders will have strict requirements. Is their consent required to renewal of an existing lease? Do they require to consent to variations of an existing lease? If an existing lease provides for regular rent review, does the creditor require to consent to the reviewed rent?  In many cases, the answers to all of these questions will be yes, and the lender’s particular requirements should be carefully checked.

Condition Seven to Twelve – Enforcement provision
The remaining conditions provide that breach of any of the requirements of the security (including the Standard Conditions) will be an event of default, and will allow the lender to call up their security. If the owner has failed to fulfil any requirement of the Standard Conditions, the lender may enter the property on seven days prior notice in order to remedy the breach. This power is separate from the lender’s power to call up the security. It is therefore important to ensure that all conditions are being complied with, to ensure that the lender has no cause for concern.

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Commerical Leases
In Scotland, a commercial lease is governed almost exclusively by contract and there is very little provision set out in statute. Essentially, everything is “up for grabs” and the content of the lease will be decided according to the respective bargaining powers of landlord and Tenant. Inevitably the key focus is on the headline terms. However, a commercial lease is usually a fairly lengthy document, and there may be a number of further conditions tucked away which are often swiftly forgotten once the lease is signed and registered.  Subject to having offered the Tenant the chance to remedy the breach, a landlord may terminate a lease upon breach of any of the lease conditions, not merely for non-payment of rent (albeit, in the case of non-monetary obligations, only where a fair and reasonable landlord would do so). It is therefore always worth ensuring the terms of the lease are complied with.

There is no such thing as a “standardised lease”. The following list of examples is not exhaustive, but includes a number of areas which are commonly covered in a lease document. A well-advised Tenant would do well to dust off his lease and check there are no unfulfilled obligations in respect of:-

Alienation
There will almost always be a prohibition on assignation or sub-letting without the landlord’s consent, and you should check that this has been obtained. Often, it will not be possible to assign or sub-let the premises in part (even with landlord’s consent) and the Tenant must deal with the property as a whole. In the case of sub-letting there may be a number of conditions requiring the terms of the sub-lease to match the head lease e.g. as to payment of rent and timing of rent review.

Related companies
It is not uncommon for the Tenant’s subsidiary or holding companies to be exempt from an occupation restriction, but there may be a number of further conditions attached such as no rights of tenancy to be created; or notification to be given to the Landlord. If all or part of the premises are used by a related company, you should check whether the landlord requires to be notified and whether this has in fact been done.

Alterations
The Tenant will usually be prohibited from carrying out alterations without Landlord’s consent. Even where this has been obtained, you should ensure that any further conditions have been complied with. It may well be the case that, once the works have been carried out, the Tenant requires to provide the Landlord with an updated Health & Safety file or Certificate of Completion. There may be a further obligation to provide additional information in relation to updating the Landlord’s insurance valuation.

Repairs
Unless there has been a Schedule of Condition prepared at the outset of the lease, the Tenant will usually be required to maintain the premises in good and substantial repair. The repairing obligation runs for the whole duration and does not simply mean that the premises must be handed back in good condition at expiry. The Landlord will usually be entitled to inspect the premises at any time during the duration and may serve an interim Schedule of Dilapidations requiring the Tenant to make good the premises. As this can often be a costly process, it is well worth ensuring that any wants of repair are swiftly remedied before the Landlord demands action be taken.

Decoration
The Tenant is often required to redecorate the interior and/or exterior of the Premises on a three or five yearly basis.

Advertisements & aerials
There may well be a prohibition on erecting any signs or antennae which can be seen from outside the premises without landlord’s consent.  A retail lease will often have an exclusion for normal trade signage, but the Tenant should always check the lease requirements before displaying any posters or other items in the windows of the premises.

Use
The lease may state a specific permitted use for the premises, or may permit any use within a specific planning use class. If there is to be any change in the use of the premises (e.g. addition of office or storage space; introduction of sales from a warehouse unit) the Tenant should check that this is permitted by the Lease. If the use is permitted by the relevant use class, you should always check that the relevant use class does indeed apply to the premises. The Landlord will usually not warrant that planning consent exists for the permitted use specified in the Lease.

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Guarantee
Once a guarantee has been granted for a secured loan, or for a new Tenant, the granter often puts the guarantee to the back of his mind. But he does so at his peril. The essence of the guarantee is that the guarantor can be called upon where the Borrower or Tenant is in default of their obligations. To avoid any unexpected calls from the lender or landlord, the guarantor may be advised to check with the borrower/Tenant and make sure that the relevant provisions have been complied with.

It is also important to check the terms of the guarantee itself. A well-advised landlord/lender may seek to include provision that they can seek to enforce against the guarantor straight away without first calling upon the Tenant/borrower. A guarantor should therefore always have one eye on the borrower/Tenant to make sure the guarantee does not need to be called upon.

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Conclusion
When cashflow is strained, complying with the ancillary obligations will not always help with the loan or rental payments. But if “cash is king”, then communication must be queen. A landlord or a lender will be liable to look more favourably on a debtor who has complied with all of their non-monetary obligations to the letter and who has kept them up to date of any material developments with the property. Keeping the landlord and the lender informed is crucial in a downturn: maintaining a good working relationship is a strong bargaining tool, the power of which can never be underestimated.

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If you have any queries in relation to the above, please contact Geoff Stansfield (gstansfield@biggartbaillie.co.uk or 0141 228 8331 ) or Gregor Duthie (gduthie@biggartbaillie.co.uk or 0141 228 8093).  

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