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UPDATE: Privity of Contract - the Authorised Guarantee Agreement

Commercial Property

Privity of contract and authorised guarantees with a commercial Lease

Assigning a tenancy or taking on an assigned tenancy is a complex business. This article explains some of the nuances of such a process.

It is an established rule of English law that a person can only enforce a contract if he (or she) is a party to it, or a lawful assignee of the benefit of the contract.

In the context of a business tenancy, the "privity of contract'' doctrine means the first (original) tenant can assign his interest in the tenancy (presupposing the lease permits assignment), but not his relationship with the landlord.

Pre 1995 - The Landlord and Tenant (Covenants) Act

Before 1995, though many commercial tenants did not realise this, by signing a lease a tenant agreed to be responsible for payment of the rent and performance of all the other covenants (eg to keep the premises in good repair) for the whole length of the lease, even if the lease was assigned and a new tenant had taken it over. And this, no matter how many times the lease was assigned to new tenants…

This was before the Landlord and Tenant (Covenants) Act 1995. The first tenant remained liable for the rent, etc throughout the term of the tenancy, regardless of assignment. An assignee default at any time meant the original tenant could suddenly be presented with a demand for rent.

Also, privity of contract did not then include any right for the original tenant to take over the remainder of the tenancy. How far along the line the landlord could pursue an original tenant was demonstrated – before the Act became law - when a friend, a beneficiary of a will, where the deceased had been the original tenant, became liable.

Post 1995 - Authorised Guarantee Agreement

After 1 January 1996, when the 1995 Act came into operation, the change in the law introduced what is known as an Authorised Guarantee Agreement, or 'AGA' for short. As the law now stands, and assuming completion of an AGA, only the first tenant, on assignment, remains liable for the duration of the first assignee's interest in the tenancy. When that first assignee assigns, the first tenant bows out and the first assignee becomes liable for performance of the second assignee's interest, and so on. 

The Act also gives the right for the outgoing tenant to take over the remainder of the tenancy should its incumbent assignee default. It also introduced a formality into what had previously been largely dependent upon case law, whereby a landlord can specify in the lease criteria that a proposed assignee has to satisfy to avoid any claim the landlord is being unreasonable in refusing consent to the assignment.

Without unnecessary delay

Any joy that landlords may have jumped to, quickly dissipated when it was realised that draconian criteria imposed on assignment could have a deprecating effect on a rent review. Consequently, the criteria have been softened and case-law has been added to the tort measures of the Landlord and Tenant Act 1988 by providing an indicative time limit on how long a period may be allowed before it can be claimed that the landlord is unreasonably withholding or delaying consent to an assignment.

Unlike a new letting in the open market, where the landlord may refuse offers without having to give reasons, a tenant wishing to assign is often presenting the landlord with a substitute tenant whose financial standing and investment covenant status the landlord may have little or no choice but to accept. 


Even so, landlords are not obliged to 'rubber stamp' a tenant's application to assign. There is no reason why detailed enquiries – due diligence checks – may not be made, and actually it is prudent of landlords to do so. 

This, not only for the landlord's benefit, but also for the benefit of the outgoing tenant. The added protection of the landlord's carefulness might prevent the outgoing tenant's guarantee being called upon at some future date.

To the landlord, what really matters is not whether the assignee can afford the rent out of its own business, whether or not the existing business at the premises is also being disposed of, but whether the tenant could afford to pay even if its business fails. 

Although few tenants are of independent means, business tenancy law assumes all tenants to be so; generally, rent and compliance with other terms and conditions of the tenancy has nothing to do with how the tenant chooses to use the premises. Amongst larger companies, there is a preference for either underletting or surrender if possible. Assignment is to be avoided because of the risk of privity bounce-back through assignee default. 

Underletting as an alternative to assignment

Underletting enables the tenant to keep tabs on the situation, but this has its own problems: from procuring a reliable tenant to one that does not mind if the tenant or lease requires the underlease to be contracted out of the Landlord and Tenant Act 1954.

The value of an AGA to the landlord depends upon whether the outgoing tenant can be traced and the tenant’s solvency. Where the outgoing tenant is a weak covenant or savvy, it’s debatable whether it is better for the landlord to ask for a deposit in exchange for scrapping the AGA - all depends upon how canny the outgoing tenant may be?

Tenants often unaware of the risk they are taking

Where a premium for the lease is being paid, or the business is being sold as a going concern with the lease, in my experience says Michael Lever, few tenants seem overly concerned as to the long-term risk of assignee default.

With a tenancy term of 10 years for example, even with a tenant break clause at the 5th year, this is a long period of time in which anything could go wrong with a business. On the face of it, outgoing tenants who are individuals or partnerships may not be able to do much about minimising the liability. But outgoing tenants that are limited companies, with no guarantor, would be in a stronger position to dump the liability. 

Not to vary the terms

As for proactive management to capitalise on any opportunity to enhance the value of the reversion, landlords should not unwittingly limit the potential in the AGA cushion by varying the terms of the tenancy for an assignee. This is because that could limit the outgoing tenant's guarantor of the assignee's performance to the date of the variation. 

To be on the safe side, it may be better to vary terms of the tenancy before the AGA is entered into, provided any variation would not fall foul of any unreasonable criteria in the lease, or invoke the wrath of the Landlord and Tenant 1988. Treading carefully at every stage is the name of the game. There are no easy answers, it all depends on the circumstances.

Always seek professional advice whether you are landlord or tenant when contemplating assignments.

This article is supplied by Michael Lever, The Rent Review Specialist - Established 1975


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