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Commercial Leases – Rent & OPEX during COVID alert levels

April 2020

As a result of the alert level 4 lockdown, businesses that are not considered essential services are effectively "locked out" of their premises and are now either working remotely or have suspended operations altogether. As we go into alert level 3, questions regarding the liability of commercial tenants to pay rent are still relevant.

Every lease situation is unique (and requires specific legal advice). Further, whatever the legal position of your lease is, the commercial realities of your lease situation may require a tailored approach. For example, a smart landlord may allow for a greater rent reduction than what they might be otherwise legally entitled to in order to help keep their tenant afloat (and to ensure future rent payments).

As such, we encourage anyone with questions about the rent under their commercial lease to seek legal advice specific to their lease situation. However, we can provide the following general observations that may be of assistance to both commercial landlords and tenants alike.

Rent Abatement - Clause 27.5

The most recent Auckland District Law SocietyDeed of Lease template includes a clause 27.5, which provides that a "fair proportion" of rent and outgoings shall cease to be payable if there is an emergency and the Tenant is unable to gain access to fully conduct their business from the premises. If you have this clause 27.5 in your lease and you are fully locked out of your business, then it is highly likely that this clause applies.

With leases that contain clause 27.5, the main issue is going to be determining what a "fair proportion" of rent and outgoings to be withheld by the tenant is. Although it is not certain, it is likely that what a "fair proportion" is may depend on several factors, such as:

  • The length of the lease;
  • The type of lease (i.e. commercial, industrial); and
  • The extent the tenant is able to use the premises despite being locked out (i.e. for storage, or to run computer servers for working remotely).

One factor that does not appear at this stage to be relevant is the financial situation of either the landlord or the tenant during COVID-19.

As such, we would encourage parties to a commercial lease agreement to first check their lease to see if it includes clause 27.5. If you do have this clause 27.5, seek legal advice as to whether it applies to your lease situation and, if it does, how to best negotiate the rent abatement.

What if my lease doesn't have clause 27.5?

If clause 27.5 or a similar clause is not included in the lease (usually called a "force majeure" clause); in other words, if the lease is silent on rent abatement in circumstances that we have the at the moment - then for a tenant to get a rent abatement may be more difficult. However, just because a lease does not contain clauses 27.5 or an equivalent does not necessarily mean that it would be reasonable for a landlord to demand the full amount of the rent and outgoings in the current circumstances. We note the following quote from the New Zealand Property Council chief executive Leonie Freeman:

"If people do crazy things - tenants stopping paying rent with no communication with their landlord, or landlords demanding 100% of the rent [with leases that don't contain clause 27.5 or a force majeure clause], the only people that gain are lawyers...We are all in this together. We might have to share a bit of pain, but we have to find the right way through."

To this end, we encourage our commercial landlord and tenant clients to negotiate in good faith to determine a fair abatement of rent and outgoings. As per Leonie Freeman's statement above, at the moment landlords and tenants alike are expected to "share the pain".

What about alert level 3?

Presently there is still a degree of uncertainty as to what alert level 3 will look like for businesses. However, there is a fair argument to be made that clause 27.5/force majeure applies even where some restricted access to the premises is available – meaning that a tenant is unable to conduct their business "fully"- for example, by limited contactless sales to customers only.

We can support our clients depending on their position as we now move into alert level 3 advising landlords on dealing with tenant's requests for rent abatement under their leases; and advising tenants on the rights they have to seek rent reductions.

What about the "doctrine of frustration"?

Frustration requires that the performance of the contract (lease in this instance) becomes impossible or "radically different" from what the parties initially agreed on due to factors outside the parties' control. There is a very high threshold for establishing this. Frustration brings the contract to an end in its entirety – it cannot be the basis for merely refusing to perform another contractual obligation such as paying (or reducing) rent. Whether or not a lease can be said to be frustrated will depend heavily on the individual lease agreement and the type of business being operated.

We strongly advise taking legal advice for any party to a lease wishing to claim that their lease has been frustrated, as refusing to perform contractual obligations carries an inherent risk that the other party might seek to claim damages for loss (amongst other options available).

Further government measures for landlord/tenants

Please see the following link which sets out increased noticed periods for tenants or borrowers/landlords:https://www.justice.govt.nz/about/news-and-media/covid-19-news/guidance-for-commercial-property-settlements/

In conclusion

Ultimately, what amount of rent and outgoings is still payable during this crisis will be specific to each lease and its circumstances. We encourage any tenant or landlord who is unsure of the rent and outgoings payable under their lease agreement to seek our legal advice.

Written by Julia Holden (Litigation Junior) and Blair Franklin(Property Partner) with input from James McLennan (Litigation Partner)