Update: Federal Government Confirms Commercial Lease Code of Conduct

On 7 April 2020 prime minister Scott Morrison confirmed that a Commercial Lease Code of Conduct (‘Commercial Lease Code‘) will be incorporated into state and territory legislation. The Commercial Lease Code will be mandatory, binding Landlords and innumerable Tenants.

Will all Tenants benefit from the Commercial Lease Code?

The Commercial Lease Code has a direct nexus to the JobKeeper stimulus package. You will fall under the code if:

  • you have a retail, office or industrial lease;
  • you qualify for the JobKeeper stimulus package; and
  • your business revenue is less than $50 million per annum.

Not only is the eligibility criteria tied to JobKeeper but so is the duration. Namely, Tenants will be protected by the Commercial Lease Code for the length of the JobKeeper programme. At this stage, this is a period of 6 months.

If you have not registered your intention for the JobKeeper stimulus, make that a priority.

What are the principles of the Commercial Lease Code?

  1. Termination: Landlords must not terminate leases due to non-payment of rent during the COVID-19 pandemic period or a reasonable subsequent recovery period.
  2. If you breach an essential term of your lease, you forfeit the benefit: Tenants must remain committed to the terms of their lease, subject to any amendments to their rent negotiated under the Commercial Lease Code. Material failure to abide by substantive terms of their lease will forfeit any protections provided to Tenants under the Commercial Lease Code.
  3. Reductions proportionate to lost revenue: Landlords must offer Tenants proportionate reductions in rent payable in the form of waivers and deferrals of up to 100% of the amount ordinarily payable, on a case-by-case basis. However, generally using the principle of ‘proportionality’ to reduce the rent proportionately to the reduction of a Tenant’s trade during the COVID-19 pandemic period and a subsequent reasonable recovery period.
  4. Partial rent wavier: Rent waivers must constitute at least 50% of the total rent reduction granted by Landlords during the COVID-19 pandemic period. Rent waivers should constitute a greater proportion of the total reduction in rent payable in cases where failure to do so would compromise a Tenant’s capacity to fulfil their ongoing obligations under the lease agreement. Regard must also be had to a Landlord’s financial ability to provide such additional waivers. Tenants may elect to waive the 50% requirement by agreement.
  5. Repayment period for rent deferred: Repayment of any rent deferred 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. The Prime Minister referred to a minimum repayment period of 12 months on 7 April 2020, however updated drafting has not been released.
  6. When do repayment obligations commence? No repayment should commence until the earlier of the COVID-19 pandemic ending (as defined by the Australia Government) or the existing lease expiring, and taking into account a reasonable subsequent recovery period.
  7. Will my Outgoings be reduced? Any reduction in statutory charges (e.g. land tax, council rates) or insurance must be passed on to the Tenants in the appropriate proportion applicable under the terms of the lease.
  8. Do I still have to pay my Outgoings? Landlords should (where appropriate) seek to waive recovery of any other expense (or outgoing payable) by Tenants under their leases, during the period the Tenant is not able to trade. Landlords may elect to reduce services as required in such circumstances.
  9. Sharing benefits proportionally: 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 Landlords, with Tenants in a proportionate manner.
  10. Landlords can’t charge interest: No fees, interest or other charges should be applied with respect to rent and no fees, charges nor may punitive interest be charged on rent deferred.
  11. Your bank guarantee is safe and guarantors aren’t liable: Landlords must not draw on Tenant’s security (be this a cash bond, bank guarantee or personal guarantee) for the non-payment of rent during the period of the COVID-19 pandemic or a reasonable subsequent recovery period.
  12. Lease extensions: Tenants should be provided with an opportunity to extend their lease for an equivalent period of the rent waiver and/or deferral period. This is intended to provide Tenants additional time to trade, on existing lease terms, during the recovery period after the COVID-19 pandemic concludes.
  13. No rent increases: Landlords are freeze on rent increases (except for retail leases based on turnover rent) for the duration of the COVID-19 pandemic and a reasonable subsequent recovery period, despite any arrangements between the Landlord and the Tenant.
  14. Core trading hours don’t apply: Landlords may not apply any prohibition or levy any penalties if Tenants reduce opening hours or cease to trade due to the COVID-19 pandemic.

Unanswered Questions and Further Comments

  1. It still remains unclear how Landlords are to treat revenue loss where Tenants have elected to close, rather than being required to close due to Government restrictions.
  2. The Commercial Lease Code provides no guidance on the evidence required to substantial the reduction on gross sales or revenue. For many retailers, they would already be providing monthly gross sales statements under their lease. For commercial Tenants, it’s unclear whether Landlords are to accept an internal statement or will require independently audited statements. In an endeavour to avoid immediate ancillary costs, we expect that the threshold will fall on the lower side with a potential wash up mechanism.
  3. The lost revenue suffered in June could be greater than the loss suffered in March. We expect that some parties will make monthly rent adjustments. However, this has the potential to be extraordinarily burdensome for some Landlords and Tenants. To overcome that burden, we suggest arrangements where a percentage is agreed at the time of the negotiation, but the parties reserve rights should the gross sales / revenue fluctuate more than 5%.
  4. The Commercial Lease Code provides a sensible blueprint but in parts lacks proper drafting. We are anxious to see how the Commercial Lease Code will be legislated across jurisdictions. Particularly whether there will be drafting changes at the state and territory level or if they will merely make the necessary amendments to have the Commercial Lease Code read into the relevant legislation.
  5. Both Landlords and Tenants could incur significant costs documenting the arrangements mandated by the Commercial Lease Code. In some instances, parties may simply rely on letters of agreements. However in certain circumstances a standalone deed may be required, such as to document:
    • repayment obligations where the remaining term of the lease is less than 24/12 months; and
    • rent waivers/deferrals calculated on moving turnover.

A Practical Example

The following are examples only and any relief structure will be unique to the parties. The underlying principle is that parties need to negotiate in good faith and come to an agreement which will facilitate business continuity beyond COVID19.

Example A

A retail Tenant’s gross sales have decreased 80% in comparison to the same time in 2019. It has a 5 year lease, with 3 years remaining at a rent of $10,000 per month. 

Possible Relief Structure under the Commercial Lease Code

    1. 40% (being half of the 80% loss) of the rent is waived for a period of (estimated) 6 months. This is an amount equal to $4,000.
    2. The remaining 40% of the rent is deferred for a period of 6 months. This is an amount equal to $4,000.
    3. For an estimated 6 month period, the rent payable by the Tenant is $2,000 per month.
    4. At the expiry of a reasonable recovery period, the Tenant will need to repay $24,000 ($4,000 x 6) to the Landlord in equal monthly instalments for a period of 36 months, being the remainder of the term on the lease. Hence, for that 36 month period the Tenants monthly rent will be increased to $10,667.

      Example B

      A retail Tenant’s gross sales have decreased by 90% in comparison to the same time in 2019. It has ceased trading and the remaining revenue is being received from online sales. It has a 3 year lease, with 6 months remaining at a rent of $5,800 per month.

Possible Outcome under the Commercial Lease Code

    1. 45% (being half of the 90% loss) of the rent is waived for a period of 6 months. This is an amount equal to $2,610.

    2. The remaining 45% of the rent is deferred for a period of 6 months. This is an amount equal to $2,610.

    3. The Tenant pays percentage rent under the lease, arguably the nexus between the physical store and online sales has significantly decreased and the Landlord has agreed that the provision will not apply.

    4. For the estimated 6 month period, the rent payable by the Tenant is $580 per month.

    5. The Landlord has offered the Tenant a lease extension, however the Tenant declines.

    6. The Landlord and Tenant enter into a deed for the repayment amount of $15,660 ($2,610 x 6), which is to be paid by equal monthly instalments of $1,305.00 over 12 months (see notes above regarding timeframes).

    7. The Landlord requests security over the repayment amount and the Tenant agrees to provide a personal guarantee consistent with its lease.

The above examples are somewhat elementary. Complexities will arise when we try to qualify abilities to meet lease obligations in the future, what is ‘a reasonable subsequent recovery period’ will be different depending on the industry, upcoming lease expiry dates and security arrangements where the repayment period extends beyond the expiry date. What is incontrovertible is that both parties are going to have to flex their lateral thinking skills to ensure that they execute a relief structure which meets the aim of the code – survival.

If you have questions regarding finding the right rent relief structure for your business, you can make an online appointment with a Liberty Leasing consultant here or call us on (07) 3359 8273.

*Note*:  The Commercial Lease Code sets some minimum standards, but parties are free to make an alternative commercial arrangements.

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