Landlord’s hypothec

Scottish landlords enjoy a preferential right of security known as “landlord’s hypothec” in respect of any unpaid rent arrears due in the event that their tenants enters administration or liquidation. The landlord's right of hypothec is unique to Scots Law and is not available to landlords in respect of properties south of the border. For reasons we will go on to discuss, the current legal framework on landlord’s hypothec is not particularly well developed and is widely criticised as being unsatisfactory.

We have seen a growing number of enquires (in acting for both insolvency practitioners and landlords) where the matter of landlord hypothec has been raised. In the current economic climate, where repeated lockdowns, social distancing rules and travel restrictions are having a profound impact on business, most notably in the retail and hospitality and leisure sectors, we expect this may be a continuing trend.

This article highlights the key features of the landlord’s hypothec and provides some practical guidance for both landlords and insolvency practitioners.

Key features:

1. Hypothec is not an “obvious right” – it is not a right written into a lease or a separate agreement between landlord and tenant nor is it a registerable form of security giving notice to the world of its existence. Rather it derives from only one section of The Bankruptcy and Diligence etc (Scotland) Act 2007 (the Act).
2. It arises automatically, by operation of law upon the tenant entering into administration or liquidation.
3. It gives landlords a right of security over moveable goods and property owned by a tenant within leased premises up to the value of any unpaid rent.
4. It applies to unpaid rent only. Other sums due under a lease such as unpaid service charge or dilapidations costs are not covered.
5. It extends to moveable goods and property owned by the tenant. Property belonging to third parties, any property subject to a retention of title clause, leased items or goods provided under a hire purchase agreement are not subject to the hypothec. Equally, property which is owned jointly by the tenant and another party will not fall within the ambit of hypothec.
6. A claim for hypothec requires the landlord to be paid out of the proceeds of the sale from the items covered by the hypothec in preference to most other creditors.
7. It is a non-judicial remedy therefore the landlord does not need to go to court to enforce its right.

Practical guidance for insolvency practitioners

Where administrators or liquidators are appointed to a company or a group of companies that are tenants of commercial premises in Scotland, it would be prudent for them to keep a detailed record/inventory of all moveable items in each of the leased premises that belong to the tenant as soon as possible after their appointment. This is particularly important in the case of a company with various let premises becoming insolvent or entering administration. This will allow the insolvency practitioner to account to the landlords for the value of the goods within the particular premises in the event that there is a claim for hypothec.

Under paragraph 71 of Schedule B1 of the Insolvency Act 1986 the court may by order enable an administrator to sell property subject to security (other than a floating charge) as if it were not subject to the security. In practice, however, given the value of the goods involved a court order is rarely sought in respect of the sale of goods subject to a landlord’s hypothec. There is therefore a risk that a landlord may seek to challenge the actions of an administrator as a breach of their statutory duties which could give rise to personal liability. As such, we would recommend that administrators engage with landlords in Scotland at an early opportunity to avoid any dispute and work towards reaching a mutually acceptable way forward to satisfy the landlord’s hypothec claim.

Practical guidance for landlords

While the right arises automatically, it would be prudent for a landlord to write to the appointed insolvency practitioner as soon as possible following their appointment to inform them that there are unpaid rent arrears for which the landlord will be seeking payment by way of hypothec and that goods should not be removed from the premises or disposed of without the landlord’s prior written consent. This may be particularly important where the tenant company in administration or liquidation is part of a UK group of companies and the insolvency practitioner has been appointed in England – they may not be as alert to landlord’s hypothec as Scottish insolvency practitioners.

Of course, it is unlikely that a landlord will know the value of the goods to which the hypothec attaches in the premises. Depending on the provisions in the lease a landlord may wish to exercise its right to attend at the premises to assess and value any moveable goods or property. However, putting the insolvency practitioner on notice of its right, should make recovery more straightforward for both parties.

In the event that items are removed from the premises, the landlord may be able to apply to the court for a “carry back” warrant to have them returned. It should be noted that this action was typically exercised in hand with sequestration of rent proceedings which have been abolished by the Act.

The current legislation and lack of court decisions has resulted in an unsatisfactory degree of uncertainty as to how the law should operate in practice. As such, insolvency practitioners and landlords are well advised to take early advice on their legal rights and duties in order to protect their interest. In reality, it is often the case that insolvency practitioners and landlords work constructively with their solicitors and valuers to reach an agreement on the disposal of any moveable items or goods in satisfaction of the landlord’s hypothec claim.

We would be happy to advise further. Please get in touch if you would like to discuss.