The Six Dos and Don’ts of Rental Reviews for Your Retail Lease
One of the most important issues facing any retail business is your location. Most of you will lease your premises to secure your location and the biggest cost associated with your lease is your rent.
Therefore, being aware of your rights as a retailer when it comes time for your rent to be reviewed is very important. There are a number of things to keep in mind when considering your rental review obligations and the benefits that the NSW Retail Leases Act (“the Act”) affords you, since you are a retailer.
1. What does your lease say?
When looking at your rent review, you need to see what your lease says.
Most leases have specific clauses which say how your rent will be reviewed during the term of the lease and upon renewal.
Generally during the term of your lease, rent will be determined on the basis of either a CPI increase or a fixed percentage. There may be some other method, such as market review. The method is usually a result of a commercial negotiation with your landlord at the time of entering into your lease.
You should be aware that the Act states that a clause in a lease is void if it allows your landlord to have the discretion as to which of two or more methods of rent review are to apply, or, allows for calculating rent on the basis of the highest rent derived from two or more methods. For example, your lease cannot say the greater of CPI or 4%. However, this does not mean that a lease is not allowed to have a combination of two methods, for example, CPI plus 4%.
So do read your lease.
2. Watch out for ratchet clauses
You should make sure your lease does not have a ratchet clause.
Often Landlords will include clauses in leases which state that if a method of rent review results in the rent decreasing, then the tenant isn’t able to get the benefit of that rental decrease and must pay the rent that existed prior to the rental review applying. This is the ratchet.
The Act makes void any provision which prevents rent from decreasing as a result of the method of review.
3. Is your rent calculated on the basis of rate per square metre?
Sometimes, if you are about to lease a new premises that is being built or fitted out for you, it may be the case that your rent cannot be ascertained until building works are complete. As a result, your lease documentation will merely state the your rent is to be determined on the basis of a formula.
If you are working within a certain budget for your premises, do try to protect against surprises which may happen (if for example your premises ends up being bigger than originally estimated, so your rent is higher).
For example, do consider capping the amount by which the rent can increase above an original estimate.
4. Managing against the uncertainty of a market review
Many leases will include a market review upon exercise of an option to renew.
The risk for you is that you exercise your option prior to the market review taking place - for example, if you are required to exercise your option six months before the end of the term but your market review isn’t due to happen until commencement of a further term. In such a scenario you will have locked yourself into a lease for a further term and be subject to a rent that you did not anticipate paying, nor wish to pay.
The Act allows you to manage this risk by having your current market rent determined earlier. You are entitled to request a determination of the current market rent within the period being six months before and ending three months before the last day on which your option may be exercised under the lease.
If you make such a request, the amount of current market rent is then to be determined and the period in which you must then exercise your option is varied so that the last day you can exercise your option is 21 days after the rent has been determined and notified to you in writing.
So do consider carefully the timing of the market review against the date for exercise of option under your lease.
5. Determination of current market rent under the Act
The Act sets out criteria for how current market rent is to be determined.
It is important for you to realise that under the Act, the current market rent does not take into account the value of goodwill created by your occupation or the value of the fixtures and fittings, but is to have regard to rent concessions and other benefits generally offered to lessees.
So do consider carefully the market review criteria in your lease – does it exclude items that the Act says it should not?
6. Does your lease have an option to renew?
If your lease does not contain an option to renew, the Act provides some protection to you.
Between six and twelve months before the expiry of your lease, your landlord must give you written notification as to whether they want to offer you a lease renewal or an extension of your existing lease, on terms specified in that notification. Alternatively they must inform you that they do not propose to offer you a lease renewal or extension of the lease.
The landlord cannot revoke that offer for one month after it is made.
If the landlord fails to give you this written notification, the term of your lease is extended until the end of six months after you have received that notification, but only if you request that extension. You may terminate the lease by giving not less than one month’s notice in writing to the lessor during any such extension period.
Sometimes you may occupy the premises after the lease term expires. This is referred to as a “holding over period”.
You should read your lease carefully to see how it deals with this period. Usually, the holding over provision will state that you occupy the premises on the same terms and conditions as during the lease term but for the determination of rent.
The holding over provision may say that the rent is exactly the same as it is immediately prior to the expiry of the lease or have some other method of rental determination, for example, a fixed increase.
If there is a fixed increase, it has been my experience that landlords will try and have a higher percentage increase than that required during the term of the lease. You should try to reduce that rent percentage increase to what it is during the term or have the same method of rental increase as during the term and then only once in any 12 month period. This will be a commercial negotiation with your landlord.
So do consider whether your landlord has followed the correct procedure if you do not have an option to renew and your rental determination provisions during a hold over.
As a retailer, your premises is one of the most significant aspects of your business and one of the most costly.
The big cost is your rent and therefore, it is important that you do make yourself aware of your obligations and rights, and the protection you are given under relevant legislation.
For further advice on retail leases please contact our experienced property lawyer:
Andrew Grima, Principal
Phone: +61 2 9895 9271