LEGAL OPINION: Frustration of contract

The following advice has been shared with the Publican’s Post, as provided by David Dadds JP, Barrister and Solicitor.

The COVID-19 outbreak has amounted to a radical and unforeseeable event which has disrupted the business of many licensed premises; public houses, wine bars, restaurants, hotels and members clubs to name but a few.  

To reduce social contact, the government has ordered businesses and venues to close and both landlords and tenants have had to encounter this new and evolving challenge and consider how to meet their leasehold obligations.  Most tenants have been unable to generate income to pay their rents as the doors are closed, and some landlords have been unable to pay their financial commitments as they cannot collect rent.

As such, we have been considering the question – which party should burden the financial liability and risk during this forced period of closure?

This question has caused landlords and tenants to review their leases so as to best determine their next course of action, if any. They are considering what opportunities may be available to reach a compromise that facilitates both the landlord’s and tenant’s ability to work with all their related parties, for example creditors and customers in a rational way whilst protecting future relationships.

We have managed to reach agreements for some of our clients by obtaining a rent free period, and for others have arranged for both the landlord and tenant to share the rent burden. Some landlords are, however, asking the tenant to pay the entire rent during this period of closure, (whilst the premises itself is unusable) as well as expecting the tenant to continue with their obligations under the lease (such as it may be) for example the duty to insure and repair.

We do appreciate however, that this is a finely balanced exercise and that as well as protecting the needs of the tenant, passing the whole burden onto the landlord, on the other hand, depriving them of all the rent, may be disproportionate.

During the closure, the lease and premises is rendered objectively useless and this is through no fault of either party.   Neither the landlord nor tenant could reasonably have contemplated that at the time of signing the lease the government would have ordered the business and premises to close for a sustained period of time. We are also confident if this had been known the tenant would not have been expected to pay the rent in full during this time, i.e. no use, no customer, no rent!

It is our opinion it would be unjust to enforce the original promise or contractual obligations as the premises has become impossible to use and in fact, use itself has become unlawful. In such a case, the law should declare both parties to be discharged from further performance, because the contract and the lease has been frustrated.  

Each case will be considered on its own merits and it will depend upon the period of closure and the length of the term of the lease which remains.

The case of Davis Contractors Ltd v Fareham UDC, set out, in general terms, the test for frustration;  “…frustration occurs whenever the law recognises that without fault of either party a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract. “Non haec in foedera veni.” – It was not this that I promised to do.”

Furthermore, in National Carriers Ltd v. Panalpina (Northern) Ltd it was stated:

“Frustration of a contract takes place where there supervenes an event (without default of either party and for which the contract makes no sufficient provision) which so significantly changes the nature (not merely the expense or onerousness) of the outstanding contractual rights and/or obligations from what the parties could reasonably have contemplated at the time of its execution that it would be unjust to hold them to the literal sense of its stipulations in the new circumstances: in such case, the law declares both parties to be discharged from further performance.”

The reality is that the closure and/or restrictions on use and capacity affect the rental value and ability to pay.  If the landlord insists on full rent, then they risk the argument that the tenant is discharged from the lease by frustration and ultimately lose a tenant.  Surely it is in both parties’ interest to come out the other side of this period of closure by sharing the burden, working together in partnership to preserve relationships and the mutual business interest going forward. The alternatives are bleak and ultimately are the loss of business, goodwill of the premises, the tenant and, of course, no rent.  

We would encourage tenants to approach their landlord and to negotiate rental holidays or rents reductions.  It is our opinion the landlord does not and should not have the monopoly on surviving this pandemic.