Case Studies

Commercial Tenancies – COVID-19 – Prepare for your lease negotiations

After the National Cabinet on Tuesday 7 April 2020 agreed that States and Territories would implement a mandatory Code of Conduct (the Code), what should you as a landlord or tenant do now?

Landlords and tenants should look to the principles of the Code to negotiate amendments in good faith to existing lease arrangements to aid the management of cashflow for SME tenants and landlords.

Should tenancies not fall within the Code, then landlords and tenants will be free to make their own commercial arrangements for appropriate levels of rent abatement if agreed by both parties, however they can still look to the Code for guidance on what may be appropriate measures to put in place.

The Code is intended to impose a set of good faith leasing principles to apply to commercial tenancies (including retail, office and industrial) between landlords and tenants, in circumstances where the tenant is a small-medium sized business (annual turnover of up to $50 million) and is an eligible business for the purpose of the Commonwealth Government’s JobKeeper Programme.

The Jobkeeper Programme provides, that eligible employers are those whose business has a turnover of less than $1 billion and their turnover has fallen by more than 30 per cent (of at least a month), but note the requirement under the Code limits the turnover to $50 million.

To establish that a business has faced a 30 per cent fall in their turnover, most businesses would be expected to establish that their turnover has fallen in the relevant month or three months (depending on the natural activity statement reporting period of that business) relative to their turnover a year earlier. See further details here about the Jobkeeper Programme.

In order for a tenant to obtain a rent waiver or deferral under the Code, tenants will need to provide information to landlords to demonstrate a reduction in business turnover.

Landlords should ask for such information which allows the tenant to demonstrate how their circumstances have changed as a result of COVID-19, with comparable data before and after 1 March 2020.

Information may, although not limited to, include some of the following:

  • Eligibility for the Jobkeeper Programme – evidence that they have a turnover of less than $50 million in which case the Code will apply.
  • Statement of financial position by Chartered Accountant – or perhaps a financial advisor with evidence that the business has experienced a substantial reduction in its ability to pay rent due to the impact of the COVID-19.
  • Summary of liabilities – major debt obligations and whether any loan repayment holidays or deferrals have been offered by the financiers.
  • Evidence of decline in sales and anticipated turnover – evidence of decline in sales or loss of clients or projects and the consequential anticipated turnover for the current month or quarter depending on your BAS requirements, which shows income has changed as a result of COVID-19 since 1 March 2020.
  • Operation of the business – information as to new arrangement for the operation of the business such as staff working from home, hours reduced or staff have been laid off or stood down.
  • Insurances – copies of insurance policies to determine if the tenant holds business interruption insurance that cover the payment of rent and outgoings during such events as the COVID-19, and evidence if a claim has already been lodged.
  • Extent of hardship – tenants should advise of any exceptional or extenuating circumstances, which will assist the landlord to understand the tenant’s current situation.

Tenants should provide clear evidence substantiating the above to assist negotiations with landlords to come to an agreement which is fair and reasonable between the parties.

What rent relief is available?

Rent relief will be a matter of negotiation between the landlord and tenant under the guide of the Code.

The Prime Minister said on Tuesday that:

“How that is done inside the lease is up to the landlord and the tenant. There are many different ways you can achieve this. If, for example, there was a three or six-month rental waiver because a lessee, a tenant would have had to closed their doors and there is simply no money coming in, one way to achieve that is to extend the overall lease by six months on the other side if they’re going to give a rental waiver. Similarly, they could agree to a different amount of the lease for the period of time. These are things we do not wish to be prescriptive about.”

Options for landlords and tenants to consider in their negotiations may include the following:

  • Rent free period – will there be a rent free period or rent reduction? See Rent Waivers explanation from the Code in our previous article. Regard must also be had to the Landlord’s financial ability to provide such additional waivers.
  • Abatement – will the abatement apply to other costs such as outgoings, or only to rent?
  • Outgoings – note under the Code any reduction in charges such as land tax, council rates or insurance must be passed on to the tenant in the appropriate proportion applicable under the terms of the lease.
  • Expenses – landlords should waive recovery of any other expense or outgoing payable by a tenant, during the period the tenant is not able to trade. Landlords may reduce services as required.
  • Recovery of unpaid rent – will there be circumstances in which unpaid rent will be recouped, for example, will there be later repayment plan, or what happens if the tenant is subsequently in default? See our explanation on rent deferrals in our earlier article where payment of rent deferrals by the tenant must be amortised over the balance of the lease term and for a period no less than 24 months, whichever is greater.
  • Loan payments deferred – if the Landlord has received any reduction in their mortgage repayments, they should pass on any benefit it receives due to a deferral of loan payments in a proportionate manner. Regard needs to be had to the particular loan in that interest may still run during the deferred repayments period, and repayments will still be payable after the deferral period.
  • Incentives – will there any changes to any exiting incentives?
  • Market rent determinations -care should be taken to ensure that if a concession is given it does not affect any later market rent determination. Landlords should also review their market rent clauses. It is standard for leases to contain clauses requiring a determination based on what would reasonably be expected to be paid if the premises were unoccupied and offered for rent for the same or a substantially similar use. Particularly in industries such as hospitality and travel, comparable rental returns may have been materially reduced in response to coronavirus related shutdowns.
  • Permanent changes – will there be any permanent changes to the lease as follows:
    • An extension of the term
    • Increase in the bank guarantee or security deposit
    • Additional corporate or personal guarantees
    • A change to the rent review mechanism
    • Where rent payments are deferred not waived, will the unpaid rent by subject to interest? If the lease falls within the Code then this will not be possible to claim this
    • Changes to trading hours
    • Changes to any other obligations under the lease
    • A condition they apply for the Jobkeeper Programme if they qualify
    • A condition if insurance claims are paid, then this is passed on to the landlord;
    • Length of time any of the new arrangements are in place for
    • Mechanism to review any of the above changes and in what circumstances i.e. should lockdown restrictions be lifted earlier than expected

Once landlords and tenants have concluded negotiations, the amendments to the lease need to be formalised by a variation of lease, which can be registered on title if the lease is registered or required to be registered.

Surry Partners Lawyers can help you through the process.

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This paper is a summary providing general information and is not specific legal advice.

 

For more details, please contact:

Anne Parnell, Senior Associate

(02) 9318 6428

anne.parnell@surrypartners.com.au

 

Tony Brooks, Director

(02) 9318 6410

tony.brooks@surrypartners.com.au

© Surry Partners Lawyers 2020

9 April 2020