(1368) COMM - Article - Benefits & Controls: The Risks of Restrictive Covenants

Leading Title Insurance

BENEFITS AND CONTROLS: THE RISKS OF RESTRICTIVE COVENANTS Restrictive covenants can be very useful or a huge nuisance to developers and other landowners and occupiers, depending on which side of the fence you are on. If a piece of land is subject to a restrictive covenant, the owner risks ignoring it at their peril.

If an issue relating to a restriction arises and the parties cannot reach an agreement to release a land owner from the restrictive covenant (or at least modify it), legal action may be the way forward. Two recent rulings illustrate the court’s approach when such disputes arise.

A matter of control Restrictive covenants in the context of commercial real estate serve an important purpose. They are a vital tool regulating activity that would directly affect the land and adjacent property or land. Restrictive covenants are easily understood - they are controls which are imposed to restrict activity by someone (typically the owner or occupier) in relation to the property.

They also ensure the continued enjoyment of neighbouring land by restricting what cannot be done on the land or to the property. A blanket restriction on a specified commercial activity (for example, types of

commercial use, opening hours or parking) or imposing a temporary restriction on a tenant while it owes a landlord outstanding money, for instance, can have tangible commercial benefits to the beneficiary of the restrictive covenant.

Any developer or other construction-related business will know that restrictive covenants in the title deeds are crucial: they can facilitate the smooth and efficient construction of commercial developments - or they can severely restrict a developer’s most thought out plans and put a serious spanner in the works.

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This means restrictive covenants in commercial property deeds call for strategic navigation; and the party adversely affected should invest in the best legal advice available to allow it to proceed with the proposed development work or other activity. Crucially, the party needs reassurance that it will not risk an expensive breach of any restrictive covenants affecting the land.

Why? Because in the case of a breach, the party in breach could face a substantial damages claim, an injunction preventing it from carrying out (or proceeding with) building work – and even an order to demolish a development.

Is the restrictive covenant effective?

This is the catch: a restrictive covenant in the deeds might be in black and white but it may be ineffective by reason of age, because it is redundant, there is no longer anyone to enforce it, it is contrary to public policy, or it is otherwise of no effect. A restrictive covenant, for example, that dates back a hundred years might be completely ineffective as a control on the land (though in modern day commercial real estate it would be uncommon to come across such relic-like restrictive covenants).

Any party wanting to avoid a restrictive covenant should communicate with the party who has the benefit of the restriction. If necessary, the parties should try to negotiate a mutually agreeable variation of the covenant or even a release from it if possible.

If the parties can agree a formal release from the restriction or a suitable modification to enable a proposed work or activity to proceed, this is always the preferable, most cost-effective option. If this can be done, the parties should ensure the correct documentation is drawn up and executed, then registered with HM Land Registry.

When can a restrictive covenant be challenged?

Where agreement cannot be reached, legal action may be necessary. Under section 84 of the Law of Property Act 1925, the Upper Tribunal (Lands Chamber) (UT) has power to release or vary a restrictive covenant that no longer serves a useful purpose.

The procedure is usually used in relation to covenants that restrict the use of freehold land – but commercial landlords should be under no illusion that this does not extend to leasehold land too. Tenants may also apply

under section 84 for a release or variation, though the lease must have originally been granted for a term exceeding 40 years; and more than 25 years of the term must have expired.

The UT recently allowed1 a lease variation allowing the residential use of premises alongside the office use originally permitted. The local council was the freeholder of the office building. It was entitled to some of the rental income from underlettings of the building which was, in fact, vacant and in disrepair.

“The parties should try to negotiate a release... if possible.’’

The tenant wanted to turn it into a residential apartment block, but although this was allowed under planning laws it would breach restrictions on use in the lease itself, and the council refused to give consent to the change of use.

The tenant successfully applied for a variation on the lease restriction. The UT decided on the evidence that the restriction to office use did not secure the council a practical benefit of substantial value. It is worth noting, however, that the tenant’s application to vary a different restriction in the lease (requiring the council to consent to underlettings) was rejected because it was found that the restriction still conferred a practical benefit on the council.

Insuring the risk The problem for many businesses, however, is that attempting a release or modification of a restrictive covenant can be expensive. Bringing a legal challenge can be cost-prohibitive. The smaller developers and construction companies lack the resources of the big companies to take on such a challenge, and this is where effective title indemnity insurance steps up to the plate.

Consider insuring the potential risks of a breach through adequate title indemnity insurance as early as possible - and crucially before the planning application stage if you want to minimise the risks. Remember, an effective policy can provide sufficient cover for the landowner as well as the tenants and any lenders.

For instance, First Title paid a claim under the terms of an indemnity policy taken out by the insured for the very reason it knew its intended development would breach a restrictive covenant. It was only once the building was almost complete that the insured received a letter on behalf of the beneficiary of the covenant; and legal proceedings were soon threatened. Eventually, the parties settled the dispute and the insurance policy paid out a £200,000 settlement to release the insured from the restrictive covenant.

A separate case2 serves as a salutary reminder why businesses should consider suitable insurance cover early on, instead of ignoring the issue and pressing ahead. A developer was prohibited from using its land for building or anything else apart from parking vehicles.

Ignoring the restrictions, it built nine houses and four bungalows as ‘affordable housing’. A beneficiary of the restrictive covenant was a children’s cancer trust which owned neighbouring land and used it for a children’s hospice. It objected to the works but the developer continued regardless, knowing that its construction work breached the restrictive covenant.

The developer applied to have the restrictive covenants modified under section 84, arguing that the restriction impeded reasonable use of the land as it had secured planning permission. The case went to the Court of Appeal where the judges ruled against the developer and were not prepared to reward parties “who deliberately flout their legal obligations in this way”.

The appeal judges considered that the developer had “deliberately circumvented the proper procedures for testing and respecting the Trust’s rights under the restrictive covenants” and acted unlawfully “with its eyes open and completely at its own risk”. It was therefore in the public interest that the developer should bear the risk of wasting its own resources in building the houses.

The message is clear: you’re unlikely to get a restrictive covenant removed retrospectively. Instead, insure the risk or try to have the restrictive covenant modified or discharged if possible. And get robust legal advice from a specialist lawyer.

Shaviram Normandy Limited v Basingstoke and Deane Borough Council [2019] UKUT 256

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The Alexander Devine Children’s Cancer Trust v Millgate Developments Ltd and others [2018] EWCA Civ 2679

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