Disclaimer – what happens to the lease when one of the tenants is made bankrupt?

Overview

More than one person can be the tenant under a lease. For example, you may have ABC Limited as the landlord and then both X and Y both named as “the tenant”.

At law leases are held by the two people who form the tenant as ‘joint tenants’. Confusingly, this is not related to the lease itself. ‘Joint tenancy’ is a form of legal ownership which automatically occurs when more than one party owns a property, including a lease. A joint tenancy automatically creates a trust for both joint tenants. In our example therefore, X and Y would hold the legal interest in the lease as joint tenants on a trust for each other.

When an individual is made bankrupt all of their property passes to the Trustee in Bankruptcy (“TiB”), subject to certain exceptions. One of those exceptions is where property is held on trust for another. If X is made bankrupt therefore, its legal interest in the lease would not pass to the TiB, but would remain with X because X holds the property on trust for Y.

A TiB has the power to ‘disclaim’ (bring to an end) any onerous property obligation but this only applies to property which is held by the TiB. As the legal interest in a lease where there are two tenants cannot pass to the TiB because it is trust property, the power to disclaim the bankrupt’s legal interest in the lease does not apply.

In the recent case of Abdulla v Whelan (2017)the court was asked to decide whether a bankrupt joint tenant under a lease was liable for rent payments for the entire lease term, notwithstanding the bankruptcy.

If the bankrupt (B) was, then the landlord could claim in the bankrupt’s estate for all of the rent which accrued for the entire duration of the term rather than just the rent that was due up to the date B was made bankrupt.

Facts

In the Abdulla case, a creditor of B argued that the spirit of the bankruptcy regime envisaged a situation where a bankrupt joint tenant would be released from all of its obligations under a lease, including the obligation to pay rent. Accordingly, it was argued b the creditor, the TiB did have the power to bring B’s obligation to pay rent under the lease to an end before the end of the lease term.

As a side point, the reason that a creditor of B would argue this point is because, if the landlord was entitled to claim in the bankruptcy for the entire rent for the duration of the lease, rather than just that had accrued up until the date of B being made bankrupt, this would significantly reduce the pay-out which the other creditors received from B’s bankrupt estate.

Decision

The Court decided in favour of the landlord and said that, because the obligation to pay rent is a legal obligation, flowing from the legal estate, a TiB does not have the power to bring it to an end and it continues notwithstanding the fact that B has been made bankrupt.

Accordingly, B was liable for the rent for the entire duration of the lease term, notwithstanding the bankruptcy order against B.

Conclusion

This provides valuable clarification on how a lease held by two individuals as tenant is treated when one of those individuals is made bankrupt.

It is good news for landlords who have legal support when they wish to claim for the entire rent in the bankrupt’s estate, rather than just the rent which has fallen due and is unpaid as at the date of the bankruptcy.

It is important to note that the beneficial interest of the bankrupt in the lease, even when held jointly, can be disclaimed but that is not the subject of this note.

Moreover where there is only one individual comprising the tenant, the legal interest will be able to be disclaimed. Accordingly, a landlord will not be able to claim in the bankrupt’s estate for all of the rent due under the lease up until the end of the contractual term.

For further information on the relationship of property law and insolvency law, please contact Alexandra Withers, an Associate in our insolvency department atajw@srflegal.co.ukor Chris Morgan, a Solicitor in our commercial property department atchris.morgan@srflegal.co.uk.