UK government publishes working draft guidance for arbitrators under the COVID-19 arrears arbitration scheme

The Commercial Rent (Coronavirus) Bill is currently making its way through the House of Lords. It is expected to reach the final stages imminently and come into force around 25 March 2022. Once the Bill is passed, it launches an unprecedented arbitration scheme to deal with COVID-19 commercial rent arrears which remain unpaid and in dispute. For a period of six months, unless extended, a party to a business tenancy may refer to arbitration any protected rent debt and the arbitrator has power to grant relief from that debt, including writing it off in whole or in part or deferring payment for up to 24 months.

The Bill was published on 9 November 2021 and was accompanied by a new "Code of Practice for commercial property relationships following the COVID-19 pandemic". Now, the government has published a working draft of guidance specifically aimed at the arbitrators who are going to administer this new scheme. Much of the guidance explains how the scheme works and it is drafted on the assumption that the Bill has already been passed.

Not only is the scheme unprecedented in that it grants powers to arbitrators to effectively overwrite lease obligations and court judgments made in proceedings issued after 10 November 2021, it will also look and feel quite different to the usual form of arbitral proceedings involving statements of claim and witness/ expert evidence. Instead, the arbitrator will rely on the parties' formal proposals and supporting evidence to make their award. To the extent there is any inconsistency between the scheme and the Arbitration Act 1996, with which arbitrators will be very familiar, the guidance confirms that the scheme will take precedence.   

The guidance splits the scheme into 3 stages:

Stage 1 (the pre-arbitration stage)

The parties have to comply with requirements such as notifying the other party of their intention to make a reference, waiting for the prescribed period of time to elapse and then making a reference to an arbitration body from an approved list (which will be published on the gov.uk website in due course).

The Bill makes it clear that the scheme is not open to a tenant who has compromised a protected rent debt via a CVA, IVA or scheme of arrangement, but the guidance does not prohibit a tenant from making a reference to an arbitration body for such debts whilst a CVA, IVA or scheme of arrangement is pending. Instead, it states that an arbitrator may not be appointed, and no formal proposal may be submitted whilst a decision is pending. This allows tenants to make a reference to protect their right to access the scheme whilst a decision is pending, but it does add an administrative burden for arbitration bodies to check whether any CVA, IVA or scheme of arrangement has been proposed.

The parties can agree on the number of arbitrators to form the tribunal with no limit on number. Generally, and in the absence of agreement between the parties, a sole arbitrator will be appointed.

Stage 2 (the eligibility stage)

The guidance makes clear that the arbitrator is to determine whether the dispute is eligible for the scheme and this requires a familiarity with the definitions of the key terms in the Bill. These include:

• “business tenancies” - if the tenancy in question is not a business tenancy, the arbitrator must make an award dismissing the reference. The guidance states that "A business tenancy is a tenancy to which Part 2 of the Landlord and Tenant Act [1954] applies. That is, a tenancy comprised of property which is or includes premises that are occupied by the tenant for business purposes, or business and other purposes". Anyone familiar with 1954 Act lease renewals will appreciate that this can be a complex area and there is substantial case law on the concepts of occupation and business purposes.

• The scheme applies to a "protected rent debt", which is a debt for unpaid "rent" under a business tenancy which was "adversely affected by coronavirus", and where that rent is attributable to occupation during a "protected period". Each of these terms have prescribed meanings under the scheme and a reference to arbitration will only be eligible if it meets all of them and has not already been agreed between the parties.

• "viability of the tenant's business" the arbitrator must assess the tenant's business as viable or would be viable with relief from payment of the protected rent debt, to be eligible for the scheme. This concept is a particularly tricky one, yet it underpins the entire scheme. The guidance acknowledges that "Viability is deliberately not specifically defined, in order to take into account the vast array of different business models both within and between sectors… Viable business models will differ from party to party and across sectors. For example, the arbitrator may wish to be mindful that profit margins can vary significantly between industries and sectors. The Act and this guidance therefore do not provide a set definition of viability. However, guidance is provided on a range of tools and processes that will be useful for arbitrators to consider in assessing viability at the appropriate time." That guidance includes:

o Bank account information, the gross profit margin and/or net profit margin may be the most useful indicators as to whether the tenant’s business is viable;

o A consideration of the net profit margin or gross profit margin before March 2020 compared to the end of the protected period may be helpful to provide a clearer picture of viability;

o Some businesses may not return to the same level of pre-COVID profitability quickly;

o Smaller businesses may find it more challenging to provide predictions on their future profitability or may not have detailed financial records as compared to a larger business.

o Where profit forecasting is provided, the arbitrator should consider the extent to which the future profit forecast is reliable, taking into account the context in which the business operates and whether current or expected market factors might make it difficult to predict future profitability. As an example, the inflation rate may be a factor to consider.

o The balance sheet may appear to show that a business is able to meet their obligations, but it may not necessarily show that the business is profitable. Therefore, the gross profit margin and net profit margin are likely to be more informative as a measure of profitability in determining viability.

It is highly likely that the arbitrator won't have specific experience of the tenant's business or sector, yet they will have to use the information provided by the tenant (and request any further information they consider would be helpful) to make a judgment on viability.

Stage 3 (Resolving the matter of relief from payment)

Having already assessed the tenant's viability at stage 2, the arbitrator is required to consider the tenant’s viability again at this stage but the focus is on the extent to which the tenant can pay a protected rent debt considering, on the one hand, the viability of the tenant’s business, and on the other hand, the solvency of the landlord. A landlord does not have to provide any evidence of its solvency unless a relief from payment of the protected rent debt would threaten that solvency.

At this stage, the arbitrator is bound to decide which of the parties' final proposals is most consistent with the principle that:

(a) the award should be aimed at preserving or restoring and preserving the viability of the tenant’s business so far as that is consistent with preserving the landlord’s solvency; and

(b) the tenant should, so far as consistent with (a), be required to meet its obligations to pay the protected rent debt in full and without delay.

It seems clear that this is intended to dissuade parties from adopting extreme positions. It is only if neither party has submitted a proposal consistent with that principle that the arbitrator may make an award they consider appropriate to meet the principle.

The arbitration award is open to the public, but confidential information must be excluded unless the party consents to its inclusion. "Confidential information" includes information relating to a party or any other person which, if disclosed, would or might significantly harm the legitimate business interests of that person. This is designed to protect both parties but may create tension for an arbitrator who must justify any finding of non-viability of the tenant's business and set out their reasoning in their award.

The guidance states that an award for relief from payment of a judgment debt ordered after 10 November 2021 alters that judgment debt. It is unclear how this alteration would happen in practice. For example, is there an automatic update to, or a power to apply for amendment of the Register of Judgments, Orders and Fines?

The draft guidance comes with a clear warning that it is considered an incomplete draft and is being published now to enable engagement with stakeholders to further develop it ahead of the scheme coming into force. The final guidance will be published after the Bill receives royal assent, but it provides valuable insight at this stage as to how the scheme is intended to operate in practice and the challenges arbitrators will face.

Authored by Shanna Davison.