COVID-19 Clarity for commercial leases – or is there?

Well done to the Government for jumping on this major economic pressure point, and at least attempting to alleviate the high levels of anxiety experienced by both Landlords and Tenants amidst the Covid-19 pandemic. The Government has attempted to achieve this by a mixture of specific requirements and general guidelines.

But while some tenants will no doubt feel that the Government has come to their rescue by imposing financial parameters for renegotiation, the weighting of the Code will still have landlords on their toes, the expressed objective being ”to mitigate the impact of the pandemic on the tenant”, whilst seeking to appropriately balance the interests of both sides, whatever that means.

Can impact really be determined in percentages?

For the Tenant , the Government says it’s about revenue, expenses and profitability. But impact on a Landlord is so much more difficult to determine. And it’s clouded by the requirement on Landlords to pass on benefits. Is that intended to be in addition to or as part of codified rent concessions?

Whilst negotiations are directed to be in good faith and proportionate there are two key elements Landlords and Tenants should keep front of mind.
Landlords must be able to demonstrate compliance with the Code. Because proposed concessions (we don’t know what these will be) won’t be there for Landlords if they don’t comply.
And Tenants must remain committed to the terms of their lease, in order to receive their protections.

Some questions pondered by the industry appear to have been answered

1. The Code (details of which are below) applies expressly to tenants who qualify for the JobKeeper programme, and seeks to apply renegotiation principles based on the impact of government responses and commercial disruption by reason of the pandemic. And ‘the principles …should apply in spirit to all leasing arrangements for affected businesses.’. So negotiations for Tenants who don’t qualify will be trickier. No doubt relationships and transparency will be key.
2. Agreed concessions should be a mix of waiver and deferment, with 50% minimum waiver.
3. Measures are designed to deal with the impact of the pandemic and allowing for a reasonable recovery period.
4. Regard should be had to a Landlords financial ability to provide waivers. Banks will be key!
5. Binding Mediation is available if agreement is not reached.

One big question is ‘what happens now?’, given that the impact of this pandemic will not be known for some time.

In the interim, the Code says temporary arrangements are to be tailored, bespoke and appropriate.

So let the negotiations begin.

Key Features of the Code

• The Code applies to all tenancies that are suffering financial distress or hardship as a result of Covid-19 pandemic as defined by their eligibility for the Commonwealth Government’s JobKeeper programme, with an annual turnover of up to $50 million.
• The purpose of the Code is to impose a set of good faith leasing principles for application to commercial tenancies (including retail, office and industrial) between owners/operators/other landlords and tenants, where the tenant is an eligible business for the Commonwealth Government’s JobKeeper programme.
• These principles will apply to negotiating amendments in good faith to existing leasing arrangements.  This is to assist the management of cash flow for tenants and landlords on a proportionate basis as a result of the impact of Covid-19.
• The objective of the Code is to share in a proportionate and measured manner the financial risk and cash flow impact as well as balancing the interests of landlords and tenants.  The aim is that landlords will agree with tenants on temporary arrangements which are tailored to the particular circumstances on a case by case basis.
• The Code contains a number of overarching principles which will apply to guide arrangements such as:
  • Landlord and tenants will negotiate in good faith;
  • Landlords and tenants will discuss relevant issues, negotiate appropriate temporary leasing arrangements and work towards achieving mutually satisfactory outcomes;
  • Landlords and tenants will act in an open, honest and transparent manner and will each provide sufficient and accurate information within the context of negotiations to achieve outcomes consistent with the Code.
  • All leases are to be dealt with on a case by case basis, considering factors such as whether the tenant has suffered financial hardship due to Covid-19; whether the tenant’s lease has expired or is due to expire soon; whether the tenant is administration or receivership.
• As part of negotiating these temporary arrangements, the Code refers to a number of leasing principles which should be applied as soon as practicable on a case by case basis such as:
• • 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 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 or waivers and deferrals 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 period and a subsequent recovery period.
  • Rental waivers must constitute no less than 50% of the total reduction in rent payable over the Covid-19 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. Regard must also be had to the landlord’s 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 greater, unless otherwise agreed by the parties.
  • If negotiated arrangements under the Code necessitate repayment, then this should occur over an extended period in order to avoid placing an undue financial burden on the tenant. No repayment should commence until the earlier of the Covid-19 pandemic ending or the existing lease expiring, and taking into account a reasonable subsequent recovery period.
  • Any reduction in statutory charges (e.g. land tax, council rates) or insurance will be passed on to the tenant in the appropriate proportion applicable under the terms of the lease;
  • 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 the tenant in a proportionate manner;
  • Landlord must not draw on a tenant’s security for non-payment of rent (i.e. cash bond, bank guarantee or personal guarantee) during the Covid-19 pandemic and/or a reasonable subsequent recovery period;
  • The tenant should be provided with an opportunity to extend its lease for an equivalent period of the rent waiver and/or deferral period.  This is intended to provide the tenant with additional time to trade on existing lease terms, during the recovery period after Covid-19 ends.
  • Landlords agree to a freeze on rent increases (except for retail leases based on turnover rent) for the duration of Covid-19 and a reasonable subsequent recovery period, notwithstanding any arrangements between the landlord and tenant.
• To assist in applying the Code, definitions have been provided for the following terms:
  • Financial Stress or Hardship;
  • Sufficient and accurate information;
  • Waiver and deferral; and
  • Proportionate.
• The Code provides that where landlords and tenants cannot agree on leasing arrangements as a direct result of Covid-19, the matter should be referred by either party to the applicable retail/commercial leasing dispute resolution for mediation (e.g. In Victoria, this suggests that the Small Business Commission could deal with mediations).
• To date, no legislation has been passed in Victoria to give effect to the Code. Until then it remains to be seen how the Code will complement the proposed legislation.