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Landlords win the right to claim rent as an expense of administration

22 July 2020

#Corporate Restructuring and Insolvency, #Dispute Resolution & Litigation, #Property & Real Estate

Published by:

Mitchell Waters

Landlords win the right to claim rent as an expense of administration

A 21 July 2020 decision of Justice O’Callaghan in the Federal Court confirms that rent incurred during the ‘no liability’ period will be payable as a priority expense in the liquidation of an insolvent tenant. This is regardless of whether or not the no liability period has been extended by the Court on application by the administrators.

The key facts

PAS Group and its related entities, an Australian fashion retail group that operated approximately 143 retail stores and outlets in Australia (together, the PAS Companies) appointed administrators on 29 May 2020.

On 9 June 2020, the administrators obtained orders extending the statutory liability period in section 443B(2) of the Corporations Act 2001 (Cth) (Act). The effect of these orders was that the administrators would not be personally liable for rent payable by the PAS Companies for the period 29 May to 22 June 2020 (standstill period).

On 19 June 2020, the administrators made application to the Court for a declaration that rent and other amounts payable by the PAS Companies during the standstill period constitute an unsecured debt to be added to the proofs of debt of landlords. Holding Redlich represented Scentre Management Limited (Scentre), the largest lessor of premises to the PAS Companies. Scentre was invited to argue the counterfactual on behalf of all of the PAS landlords, namely that rent incurred during the standstill period would, in the event of a winding up, 

“…be an expense properly incurred in carrying on the business of the PAS Companies within the meaning of section 556(1) of the Act and is payable in priority in line with the principle in Lundy Granite.”

The competing positions  

The administrators argued as follows (at [19]):

  1. a lessor’s claim for rent under a pre-appointment lease is, without more, an ordinary unsecured claim against the company;
  2. administrators are only personally liable for amounts owing under pre-appointment leases to the extent that ss 443A and 443B make them liable;
  3. because administrators are only personally liable for amounts payable in respect of the period commencing after the standstill period has ended, a lessor’s claim in respect of the standstill period will be an ordinary unsecured claim;
  4. standstill period rent is not a debt “incurred” in the sense required by the relevant provisions of s 556(1), because the administrators did not do anything which caused the companies to incur the standstill period rent and cannot be taken to have “elected” to retain the property for the benefit of the administration until the standstill period has ended; and
  5. the voluntary administration scheme was intended to balance competing equities, and if the rent in this case were treated as an expense in any administration, that would constitute a “super priority” inconsistent with the balance provided for by the scheme.

His Honour dismissed the administrators’ submission that the key question was whether or not the Administrators were personally liable for rent during the standstill period. The key question for determination by the Court, rather, was “…whether that rent is taken to be an expense relevantly incurred” and payable as a priority expense in any winding up.

The principle in Lundy Granite

Sometimes referred to as the ‘salvage’ or ‘liquidation expense’ principle, Lundy Granite stands for the proposition that where an external administrator elects to cause the company to continue in occupation of leased premises for the purpose of the external administration, rent is payable as an expense of the external administration, being an expense incurred by the external administrator in carrying on the company’s business. His Honour held that the application of this principle has (at [23]):

“… nothing relevantly to do with provisions in the Act dealing with the circumstances in which the Administrators may or may not be personally liable for debts incurred.”

His Honour further held that this was a case where there could be no doubt that the leased premises were properly used by the administrators in carrying on the business of the PAS Companies and in preserving, realising or getting in their property.

Conclusion

His Honour declined to make the orders sought by the administrators, namely an order that rent in respect of the ‘standstill period’ is not an expense incurred by the administrators in carrying on the companies’ business within s556(1) of the Act. His Honour concluded (at [43]):

“No justification is given for why the landlords should be deprived of the priority [for rent] they would otherwise have through the operation of the Act… On the contrary… the Lundy Granite principle ‘is framed by reference to the period during which the company uses the landlord’s property to its own advantage’ and ‘[i]t is in those circumstances that common sense and ordinary justice require the court to see that the landlord is paid’.”

Authors: Chris Brodrick, Alana Giles & Mitchell Waters

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The information in this publication is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, we do not guarantee that the information in this newsletter is accurate at the date it is received or that it will continue to be accurate in the future.

Published by:

Mitchell Waters

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