OPINION: A WATER tight commercial lease can be the basis for a long and mutually fruitful relationship with your tenant. But in a commercial lease, unlike a residential contract, nearly everything is negotiable.
What “water tight” really means in this context is that there is no ambiguity about mutual obligations or the penalties for breach. This is less likely the product of artful drafting than it is thorough and complete negotiations that are accurately documented in a final document. Although verbal agreements regarding commercial properties may be enforceable in NSW in certain circumstances, a written agreement makes those terms much easier and less expensive to prove.
Here are five tips about the key issues landlords should pay attention to in the negotiation and drafting of water tight commercial leases.
- Term. It is usually in the landlord’s interest to negotiate a longer term. The tenant, on the other hand, will push for a shorter term and more flexibility in termination options. A lease with an initial shorter term and options to renew for longer periods may accommodate both interests. For example, the landlord might want to offer a two year term with an option to renew the lease for a further five years. If the rent is to increase at renewal those terms must be included in the initial agreement. Landlords should also ensure that they complete a Lessor’s Disclosure Statement because failure to do so gives the tenant the right to terminate the lease within the first six months simply by giving written notice.
- Rent. There are a variety of ways to structure the rental obligation. It should certainly always include a factor for the maintenance of common areas, which may be adjustable depending on the fluctuating number of tenants. Commercial leases often also include a factor that takes into account the tenant’s gross receipts, termed percentage rent. This allows a landlord to set a lower rent for a fledgling business that will increase as the tenant’s business becomes established. Another option is to peg rent increases to increases in CPI. Both may save renegotiating the rent if the tenant exercises an option to renew.
- Security. In a commercial lease, the tenant’s obligation to pay may be secured in a variety of ways, including a bond, personal guarantee or a bank guarantee. If the tenant’s rental obligation increases, it is important that the security increase commensurately.
- Maintenance and Repairs. Disputes over who is responsible for repairs and maintenance are common, but may be easily avoided through specific language. Commercial leases commonly include provisions requiring a tenant to take out a public liability policy that insures not just the tenant but also the landlord. These requirements should be very particularly spelled out in the lease. Often these terms specify what the insurance policy is to include, the requirement of at least one month’s notice prior to the lapse of the policy and the right of the landlord to cure a nonpayment problem. The obligation of the tenant to maintain insurance may be coupled with an agreement to indemnify the landlord in the event of harm caused by the lapse of the policy.
- Dispute resolution. One of the best ways to avoid disputes is to anticipate that they will occur. A commercial lease may specify the manner in which disputes will be decided, whether through mediation or arbitration or some other process that avoids the disastrous cost and delay of litigation.
A water tight commercial lease can protect both landlord and tenant, but it can only be achieved through full disclosure and careful, diligent negotiation that balances the interests of both parties.
By Rolf Howard, Managing Partner, Owen Hodge Lawyers.
About Rolf Howard, Managing Partner, Owen Hodge Lawyers
Rolf is managing partner of Owen Hodge Lawyers. He has been in the legal practice since 1986 and a partner of Owen Hodge Lawyers since 1992. Rolf focuses on assisting clients to proactively manage legal responsibilities and opportunities to achieve competitive advantage. Rolf concentrates on business planning and formation, directors’ duties, corporate governance, fund raising and business succession. His major interest is to assist business owners and their financial advisers plan and implement strategies to build and exit from successful businesses. www.owenhodge.com.au
Australian Property Journal
