If your business leases a retail shop or other commercial premises and it has suffered a reduction in turnover due to the effects of COVID-19, you probably need to reduce your expenses, including the rent that the business pays, in order for the business to survive. If you own a retail shop or other commercial premises that are leased to tenants, your tenants may request a reduction in rent. This article discusses the rules that apply in such circumstances and explains why it is important to record agreement in writing.
The National Mandatory Code of Conduct
On 7 April 2020 the National Cabinet adopted the ‘National Cabinet Mandatory Code of Conduct SME Commercial Leasing Principles During COVID-19’ (‘the National Code’). Of the 14 principles, the following are relevant to this article:
- Landlords must not terminate leases due to non-payment of rent during the COVID-19 pandemic period (or reasonable subsequent recovery period).
- Tenants must remain committed to the terms of their lease, subject to any amendments to their rental agreement negotiated under this Code. Material failure to abide by substantive terms of their lease will forfeit any protections provided to the tenant under this Code.
- Landlords must offer tenants proportionate reductions in rent payable in the form of waivers and deferrals (as outlined under “definitions,” below) of up to 100% of the amount ordinarily payable, on a case-by-case basis, based on the reduction in the tenant’s trade during the COVID-19 pandemic period and a subsequent reasonable recovery period.
- Rental waivers must constitute no less than 50% of the total reduction in rent payable under principle #3 above over the COVID-19 pandemic period and should constitute a greater proportion of the total reduction in rent payable in cases where failure to do so would compromise the tenant’s capacity to fulfil their ongoing obligations under the lease agreement. Regard must also be had to the Landlord’s financial ability to provide such additional waivers. Tenants may waive the requirement for a 50% minimum waiver by agreement.
- Payment of rental deferrals by the tenant must be amortised over the balance of the lease term and for a period of no less than 24 months, whichever is the greater, unless otherwise agreed by the parties.
- A landlord should seek to share any benefit it receives due to deferral of loan payments, provided by a financial institution as part of the Australian Bankers Association’s COVID-19 response, or any other case-by-case deferral of loan repayments offered to other Landlords, with the tenant in a proportionate manner.
- Landlords must not draw on a tenant’s security for the non-payment of rent (be this a cash bond, bank guarantee or personal guarantee) during the period of the COVID-19 pandemic and/or a reasonable subsequent recovery period.
The New South Wales Regulation
Effective from 24 April 2020, the ‘Retail and Other Commercial Leases (COVID-19) Regulation 2020’ (‘the NSW Regulation’) applied the National Code in NSW for 6 months – i.e., until 24 October 2020.
What tenancies are affected?
The NSW Regulation applies to commercial leases, except for leases entered into after 24 April (unless they are extensions or renewals of existing leases on the same terms as the existing lease). Leases under the Agricultural Tenancies Act 1990 are also excluded.
What tenants can apply for rent relief?
A tenant (called an ‘impacted lessee’) is eligible for rental relief under the NSW Regulation if:
- It qualifies for the federal government’s ‘JobKeeper’ scheme; and
- Its turnover in the 2018-19 financial year was less than $50 million.
When is negotiation complete? A cautionary tale.
Recently a tenant of commercial premises that was an impacted lessee requested a 45% rent reduction from its landlord. The landlord sent the tenant a form for completion, setting out a method of calculating a rent reduction based on the principles in the National Code. The tenant completed the form, stating that it had suffered a 35% reduction in its turnover. Consequently, the landlord invoiced the tenant for 65% of the rent payable under the lease. No mention was made of when or over what period the tenant would be required to pay another 20% of the rent, to which the landlord would be entitled under the National Code principles.
The tenant responded to the landlord, proposing payment of 55% of the rent. The landlord interpreted this as a denial of the terms of the lease and threatened termination of the lease if the tenant failed to pay the adjusted rent as invoiced. Since the tenant did not pay the rent, the landlord resumed possession of the premises and locked the tenant out.
Fundamentally, the dispute between the tenant and the landlord arose because, whilst the landlord thought that there was agreement on the amount of the rent reduction, the tenant believed that it was still in a negotiation with the landlord. To make matters worse, if there was no concluded agreement, the landlord would be regarded as having repudiated the lease.
How to avoid a similar dispute
The dispute described above could have been avoided if the landlord and the tenant had taken more care to ensure that they had covered all necessary aspects of variation of the lease terms in their negotiation and had recorded them in a written agreement. Critically, there needed to be agreement about payment of the deferred portion of the rent. The question of what (if any) loan payment deferral the landlord had obtained from its bank was never mentioned. Other matters that may have been relevant include:
- Consent of others involved, such as lease guarantors and the landlord’s mortgagee;
- Evidence of the tenant’s qualification as an ‘impacted lessee’ (which is now required to be provided, as a result of an amendment to the NSW Regulation with effect from 3 July 2020);
- Potential variation of the term of the lease to make up for the reduction in rent;
- A provision requiring the landlord and the tenant to keep their agreement confidential, because of the effect that it might have on others.
If your business is an impacted lessee or if you own commercial premises occupied by an impacted lessee, Atkinson Vinden can guide you through the process of negotiating a rent reduction, taking all necessary factors into account, and comprehensively documenting the agreement so as to minimise the risk of dispute between the parties.
Please contact Special Counsel Michael Tyler on (02) 9411 4466 if you would like assistance in this area.