17/06/2010

Landlord and tenants should be aware of Virtual Assignments

What is a Virtual Assignment?

It is a contractual agreement between a tenant and a third party, under which the tenant’s obligations, as well as economic benefits and burdens, are transferred to the third party, without requiring the consent of their landlord.

Under the virtual assignment the assignee is required to pay rents due, and comply with all tenant’s covenants and obligations under the lease.  Usually this is in consideration for a management fee, either equal to or slightly higher than the rent.

The important feature of a virtual assignment is that occupation of the Property is not transferred to, or shared with, the assignee.

Why use a virtual assignment?

The majority of Leases prevent assignment without the Landlord’s written consent.  If a tenant is concerned that the Landlord will refuse consent, or if there is insufficient time to obtain the Landlord’s consent, they may consider a virtual assignment, either as a temporary or permanent measure.

There are a number of reasons for virtually assigning a lease, these differ depending on whether the tenant is currently in occupation or if the property has already been sublet to a third party.

Tenant in occupation:

  • the property will be removed from the tenant’s balance sheet, as they are no longer responsible for rents; and
  • to facilitate group transfers or restructure, when the assignment needs to occur quickly and a request for consent is likely to delay the transaction

Where Property is sublet:

There is the added benefit that the management of the property will be outsourced.  Here the assignee will collect rent from the subtenant and pay it on to the landlord.

Do Virtual Assignments require landlord’s consent?

Under Clarence House v National Westminster Bank, the Court of Appeal held that a virtual assignment did not breach the alienation clause in a lease.  As occupation of the property is not transferred, parted with, or shared, the restrictions on alienation need not be considered and the Landlord’s consent is not required.

The Court of Appeal decided that the assignee was acting as agent for the tenant.

What Tenant’s need to know

Whilst benefits and burdens under the lease may be assigned to the third party, a virtual assignment is a purely contractual relationship and does not terminate the tenant’s liability under the Lease.  The landlord would still pursue the tenant for non payment of rent or breach of covenant.  The tenant can protect against this via an indemnity from the assignee but as with any indemnity it is only good if the assignee can pay.

What Landlords need to know

Landlord’s may wish to consider a prohibition on virtual assignment without their prior written consent.  Before doing so there are a number of factors they should consider:

  • A virtual assignment does not affect the landlord and tenant relationship, it is still the tenant whom the landlord would pursue for any non payment of rent or breach of covenant.
  • The concept of a virtual assignment is very difficult to define in a lease and the landlord may inadvertently prevent a tenant from entering management agreements or rent factoring agreements, and from assigning rents as security for a loan.
  • If restrictions in a lease are onerous it may have a negative impact on rent review.

The advisable course of action for a landlord is to require notification on any virtual assignment and to monitor the situation carefully, reacting to the first sign of the tenant being in financial trouble.

Conclusion

A virtual assignment is a contractual transfer of the benefits and burdens under a lease, without legal assignment of the lease.  They are primarily used where the property has been sublet and the tenant is looking to outsource the management responsibilities under the lease.  They will be equally as effective where a tenant is still in occupation but wishes to transfer the obligations under the lease to a third party, usually a group company or overseas company.

One note of caution is that virtual assignments are still relatively rare, and landlords and tenants are not always aware of them.  The uncertainty surrounding virtual assignments means that there is a chance that landlords may still take action for breach of the lease.