Premium content Legal

Application of lease terms after assignment

We don’t usually think of the legal profession in terms of being ‘poetic’, esoteric or emotional! But, on lease assignment, both parties must consider whether the burdens or benefits  of clauses are transferred to the assignee. If they ‘touch and concern’ the land, they are!

When a lease is assigned, the parties must give consideration to the question of whether the benefit or the burden of some or all of the lease covenants is transferred to the assignee. This is as much an issue for the landlord as it is for the tenant.

A lease creates contractual obligations between the parties to the lease. The problem associated with the enforcement of lease provisions, after assignment,  of the interests of either a tenant or a landlord under a lease, arises out of the application of the doctrine of privity of contract.

The question of whether a particular clause in a lease is enforceable arises on a regular basis. It arises in the context of whether certain covenants in a lease, entered into between a tenant and landlord, will bind a purchaser of the landlord’s reversionary interest in the land.

The position at common law

The position at common law (Re Hunter’s Lease [1942] 1 Ch 124 at 128] is that an assignee of the reversion is not bound by the covenants contained in a lease granted by the previous owner of the acquired land.

Interaction of statute law

The common-law position has been modified by statute. The relevant legislation alters the common law so that the assignee of the reversion is bound by those lease covenants that ‘touch and concern’ the land.
This modification of the common law is set out in sections 117 and 118 of the Conveyancing Act 1919 (NSW) (NSW Act), and there are similar provisions contained in the property legislation in other States:

  • ss 117; 118 Property Law Act 1974 (Qld)
  • ss 141; 142 Property Law Act 1958 (Vic)
  • ss 10; 11 Conveyancing and  Property Law Act 1884 (Tas)
  • ss 77; 78 Property Law Act 1969 (WA)

Section 117 of the NSW Act, and its equivalent provision in the other States, provide that the benefit of every covenant ‘with reference to the subject matter’ of the lease forms part of the reversionary interest in the land. In Showa Shoji Australia Pty Ltd v Oceanic Life Pty Ltd (1994) 34 NSWLR 548, at 558 the Court held that this phrase means the lease covenant in question must touch and concern the land. This interpretation has since been approved by the High Court, in their decision Gumland Property Holdings Ltd v Duffy Brothers Fruit Market (Campbelltown) Pty Ltd (2008) 234 CLR 237 (Gumland).

Touches and concerns the land

The obligations of a landlord under a lease will only bind an assignee of the reversion where the particular obligation in the lease touches and concerns the land. To touch and concern the land,  the right or obligation must refer to the subject matter of the lease (being the land or premises), rather than be merely collateral to the land.

The distinction is that a covenant which touches and concerns the land will run with the land and bind an assignee, while a covenant that is merely collateral (purely personal in character) will only bind the parties  who first entered into the obligation.

Like many legal concepts, the distinction is not always easy to determine. The broad underlying principle is that, for a lease covenant to touch and concern the land, it must affect the landlord in the capacity of landlord or the tenant in the capacity of tenant.

The test: ‘touches and concerns’

In P & A Swift Investments v Combined English Stores Group PLC [1989] 1 AC 632, at 642 (Swift) the House of Lords formulated a working test to determine whether a lease covenant ‘touches and concerns’ the land.
While not intended to be an exhaustive guide, the following provides a working test to determine whether a particular covenant by the tenant touches and concerns the land to which the lease relates:

  1.  the covenant benefits the reversioner [landlord]for the time being, and, if separated from the reversion, ceased to be of benefit to the tenant;
  2. the covenant affects the nature, quality, mode or user or value of the land of the reversioner;
  3. the covenant is not expressed to be personal (neither given to a specific reversioner or in respect of the obligations of a specific tenant);
  4. the fact that a covenant is to pay  a sum of money will not prevent it from touching and concerning the land, so long as the three foregoing conditions are satisfied and the covenant is connected with something to be done on, to or in relation to the land.

The application of the working test in Swift was approved by the High Court in Gumland, and has been accepted into Australian law.

Having regard to the third limb of the working test, it follows that a covenant in a lease that is expressed to only apply while ‘X’ is the tenant, is personal to the named tenant. The personal covenant cannot run with the land on an assignment and, therefore, cannot bind the assignee of the reversionary interest of the landlord.

In Specialist Diagnostic Services Pty Ltd v Healthscope Ltd [2012] VSCA 175 the Court of Appeal was called upon to consider a restraint of trade clause set out in the lease and the question of whether the particular clause touched and concerned the land, and therefore was binding on the assignee of the reversion. The Court of Appeal referred to Gumland, and noted the working test was not restricted to a tenant’s covenant. The working test can be applied to a covenant by the landlord and, when applied in this context, the covenant  will touch and concern the land if:

  1. the covenant benefits only the tenant for the time being, and, if separated from the term, ceases to  be of benefit to the tenant;
  2. the covenant affects the nature, quality, mode of user or value of the premises demised under the lease;
  3. the covenant is not expressed to be personal (neither given to a specific tenant or in respect of the obligations  of a specific landlord).

Application of the working test

In Hurlfite Pty Ltd v Coles Myer Ltd (1990) NSW ConvR 55-505, the Supreme Court of NSW was required  to consider a lease of land upon which was erected a shopping centre and car park. The lease to Coles was granted by the predecessor in title to Hurlfite. The lease contained covenants restricting the landlord’s ability to make changes to the car park.

Hurlfite sought a declaration that it was not bound by the covenants imposing restrictions on the car park,  on the basis that the covenants did not touch and concern the land.

The Court referred to ss117 of the NSW Act, and noted the car park provisions may not be ‘with reference to’ the leased premises if those provisions were merely of benefit to a business which a tenant happens, for the time being, to be carrying on in the leased premises. But, as the leased premises formed part of a shopping centre and the use of the car parking  is highly beneficial to the tenant, it is bound up with the very physical nature of the building itself.

For this reason, the Court found that the provision of car parking is ‘with reference to’ the leased premises and not something either personal to the lessee or collateral to the lease. As  the covenant was found to touch and concern the land, it was binding Hurlfite.

Covenants that touch and concern

Whilst this is not intended to be an exhaustive list and, having regard to the fact that each lease will turn on the subject matter of the particular lease, the following covenants have been held to touch and concern the land:

By the landlord:

  • Option to renew
  • Consent to Assignment of Lease
  • To carry on a particular Permitted Use
  • Supply of water to premises
  • Restriction on building on adjoining land
  • Replacement of existing building with new building

By the tenant:

  • Payment of rent
  • Obligation to repair
  • Not to alter the premises
  • To replace fixtures
  • Prohibition on assignment or sublease
  • Obligation to insure By way of example, the following covenants by a landlord have been held to not touch and concern the land:
  • Provision of signage
  • Purchase of a building or improvements erected by a tenant
  • To repay a security deposit to a tenant
  • First right to take up a lease of other premises
  • An option for the tenant to purchase the landlord’s interest in the land

How to avoid the uncertainty

It is not difficult to avoid the uncertainty created by the question of whether a particular covenant in the lease touches and concerns the land or is purely personal in character. It comes down to the drafting of the particular covenant and the interaction of that covenant with other covenants in the lease.

Waiting to resolve the uncertainty, once the covenant needs to be enforced, is too late. You cannot perfect inadequate drafting to overcome the question of whether the parties intended the covenant to be binding on a subsequent landlord or tenant.

Where the lease contains covenants that are purely personal in character, and the parties intend for a particular covenant to also bind an assignee, a well-drafted lease will impose an obligation on the landlord to cause the assignee of the reversion to enter into  a Deed with the tenant. Under the terms of this Deed, the assignee of the reversion agrees to be bound by and perform all of the terms of the lease, including the covenant, that may not otherwise be enforceable against the new party.

The entering into of a Deed will remove any doubt as to what is agreed between the tenant and the landlord. The absence of the Deed will mean the parties are left to argue the intention of the clause, and deal with the uncertainty of seeking a declaration from the Court that the particular covenant is enforceable. SCN

Disclaimer: This article is not intended to be a substitute for obtaining legal or other expert advice and no responsibility is accepted for any action taken as a result of any material in this article. Information and advice relating to your specific commercial dealings  can be obtained by contacting HWL Ebsworth Lawyers.

 

About the author

John Morrison

John Morrison is a Special Counsel in the NSW office of the national HWL Ebsworth Real Estate and Projects Group. John has extensive experience in the area of shopping centre retail leasing throughout Australia and New Zealand. He has advised a number of well known national landlords and tenants. John has acted for REITs in high volume retail leasing and the disposal and acquisition of shopping centres.

Add Comment

Click here to post a comment

Advertisement

Advertisement