Negotiating a commercial lease involves more than reaching an agreement on the rent. A Lease is a long term commitment between the Landlord and the Tenant. A well-negotiated and well-drawn Lease helps to build a good relationship between the parties from the beginning, reduces the likelihood of disputes down the track, and can add value to a business.
Commercial Lease Key Terms
The following key terms are commonly the subject of negotiation:
1. Rent and rent review Methods of rent review include:
a. Fixed annual percentage increase
b. CPI review (rental review according to the consumer price index), or
c. Market review (rental review according to the current market, usually by comparing with rent of similar market).
The lease should specify which outgoings are payable by the Tenant and in what proportion (if the Tenant is only leasing part of the property). The premises being leased should also be described accurately to avoid confusion.
3. Lease terms and options
A commercial lease will have a fixed lease term and may provide options for further terms. If further terms are provided, the Tenant will be able to exercise an option before the end of the current term for a further term (if the Tenant decides to continue with the Lease).
4. Fitout contribution
The parties need to agree on whether the Tenant is required to fitout the premises (pursuant to Landlord's requirements). The Landlord may be required to make contributions to the fitout.
5. Security deposit
Usually by way of a bank guarantee taken out by the Tenant in favour of the Landlord for a sum specified.
6. Permitted use
By enquiry of the local council, the tenant should ensure that the permitted use under the Lease is sufficient for its intended activities on the premises. The Landlord should ensure that the Tenant obtains the required permits and licence for the permitted use. The permitted use will also affect whether it is a retail lease.
7. Special Conditions
Other special conditions may be required depending on the parties' individual circumstances, such as specific renovation/refurbishment obligations, rent free period, due diligence period and legal costs.
Is it a Retail Lease?
The Retail Leases Act 2003 ("the Act") prescribes certain rights and obligations on parties to a retail lease. This act, if applicable, usually offers more protection for the Tenant and imposes additional obligations on the Landlord.
While negotiating the terms of the Lease, it is therefore important to find out whether the Lease is in respect to retail premises. In short, retail premises are premises which are leased for use, wholly or predominantly, for the sale or hire of goods by retail or for the retail provision of services. The parties should specifically state in the Lease whether the Act applies and ensure this is consistent with the description in the "permitted use" section of the Lease. If there is any ambiguity as to whether it is a retail lease, it is important to obtain legal advice.
If the Act applies, the Tenant must receive a Disclosure Statement from the Landlord at the outset of negotiations. The Act also has a wide impact on rent, outgoings, term, rent review and other terms of the Lease. The parties (especially the Tenant) should ensure that the Lease is prepared and executed in accordance with the requirements under the Act.
Process for Negotiating and Preparing the Lease Document
Commonly, the parties will start their first round of negotiation by way of a Heads of Agreement ("HOA"). The Landlord (or its Managing Agent) will set out the key terms in a HOA document and propose it to the prospective Tenant. The Tenant will often seek legal advice on the HOA and request amendments if necessary.
The HOA itself is not the lease document (and is usually not binding), but it is a helpful tool to record the parties' preliminary consensus. Upon signing the HOA, the Landlord's lawyers will draft the lease agreement on the basis of the HOA.
The second round of negotiation starts when the Landlord's lawyers send the draft Lease to the Tenant's lawyers for review. Although the key terms are agreed in the HOA, parties may disagree on the way they are written in the Lease and may discover further issues in respect to other terms. Accordingly, it is most likely that the Tenant will request amendments of certain clauses (through its lawyers) after obtaining legal advice on the draft Lease. The Landlord, with their lawyers' advice, may agree or object to the Tenant's requests. This is a more complicated negotiation process and it involves both parties and each of their lawyers.
Once the parties reached an agreement on the final draft, the document will then be executed and the Lease can formally commence.
Lease Variation, Renewal and Transfer
After the Lease commences, parties may require further negotiation in the following circumstances:
1. Deed of Variation of Lease the parties may wish to vary certain terms of the Lease by executing a separate Deed.
2. Deed of Renewal of Lease when the Tenant exercises an option for a further period of tenure. This Deed will also record any variation of existing terms and the parties' agreement on a market review of the rent (if applicable), which will be used as the starting rent for any further period of tenure.
3. Transfer of Lease when the Tenant wishes to transfer the lease to a new Tenant (commonly when the existing Tenant carrying a business on the premises has sold the business to the new Tenant), and is seeking the Landlord's consent.
For assistance on negotiating a Lease, or if you have any queries regarding Commercial Leases generally, please contact us and it would be our pleasure to assist. Call Sharrock Pitman Legal today on 1300 205 506.
The information contained in this article is intended to be of a general nature only and should not be relied upon as legal advice. Any legal matters should be discussed specifically with one of our lawyers.
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For further information contact
Andre is a Principal of Sharrock Pitman Legal.
He heads our Property Law Group and is an Accredited Specialist in Property Law (accredited by the Law Institute of Victoria). He also deals with Commercial Law. For further information, contact Andre Ong on his direct line (03) 8561 3317.