Positive obligations in options and conditional contracts for lease do not transfer on sale of property, says court

Ruling at the Chancery Court, Mrs Justice Proudman said that the usual rule which automatically transfers tenancy-related burdens, or covenants, over a piece of land to a new buyer did not apply to options or conditional contracts. This was because these contracts were unrelated to the running of the existing landlord and tenant relationship, she said in her judgment.

A conditional contract is an agreement or contract which can only be performed if a specific event happens on a date which is uncertain at the time of the agreement. This could be a contract which is conditional on the buyer getting planning permission. An option is the right to require a party to buy or sell a property at a given time in the future.

Property law expert Lynsey McKenzie of Pinsent Masons, the law firm behind Out-Law.com, said that the case "underlined the importance of properly protecting the developer's rights in an option agreement". This was particularly relevant in the renewable energy sector, where these agreements were common, she said.

"The developer should ensure that any purchaser of the landowner's interest is obliged to perform all the obligations in the option," she said. "Failure to do that simply leaves the developer with a claim against the former landowner, which is far from satisfactory."

In this case a company, then Texaco now Valero Energy, had entered into both options and conditional contracts for the grant of building leases over several petrol station sites. The developer, Ridgewood, was to construct flats and offices above and around the petrol stations. Once the buildings were completed, the property freeholds were to be transferred to Ridgewood and Texaco would lease back the forecourts and shops. The options and conditional contracts did not restrict Texaco's ability to dispose of the sites in the meantime if it wished to.

Before any planning permission was obtained, Texaco sold the petrol stations to Somerfield supermarkets and a property management company acting on its behalf. Although part of the contract stated that the buyer would observe and perform all "registered covenants" over the property, Somerfield refused to allow Ridgewood to have access to the sites and to assist it to make and pursue its planning applications. Ridgewood argued that by selling the properties, Texaco was in breach of contract as it had done something that prevented Ridgewood from following through with the agreement.

Under the Landlord and Tenant (Covenants) Act, the "benefit and burden of all landlord and tenant covenants of a tenancy" pass automatically to the future owner of a piece of land. There is an exception to this rule if these covenants "did not bind the assignor" immediately before the land was sold. Texaco argued that the rule should also apply to agreements for a tenancy, such as the option agreements, and that because it had stipulated in the sale contract that the burdens would be passed to Somerfield it had not acted in breach of contract with Ridgewood.

Mrs Justice Proudman disagreed. It was "logical" to say that the Act was "intended only to apply to the running of covenants in relationships of landlord and tenant, including relationships in equity (the agreement for a lease)". "There is no necessary justification for extending the principle to options which ... are not strictly speaking either offers or conditional contracts, although there are ways in which they resemble both," she said.

"In my judgment the 1995 Act does not apply to option agreements in which the option is not exercised ... and therefore the burden of the personal obligations undertaken by Texaco could not have passed automatically to purchasers from Texaco on an assignment," she said.

This left some of the other agreements, which were "conditional agreements in the strict sense" according to the court. "Conditions precedent to the grant of a lease are not in my judgment covenants which are part of the agreement for a tenancy nor are they comprised within landlord and or tenant covenants within the meaning of [the Act]," the judge said.

The court found that Texaco had made it impossible to perform its part of the agreement when it sold the sites. However, as Ridgewood "consciously and deliberately" affirmed the agreements, it was unable to bring the contract to an end. A further hearing would take place to determine whether Ridgewood was owed any damages, the judge said.