National Cabinet mandatory commercial leasing code of conduct

On 7 April 2020 the ‘National Cabinet’ which comprises the premiers of all States and Territories and the Prime Minister issued a mandatory commercial leasing code of conduct (Code).

It is not yet law but regulations are expected to be passed by each State and Territory to give it legal force and provide some clarity of some details.

The Code will come into effect in each state and territory from a date following 3 April 2020 when the relevant enacting legislation or regulation is passed and will continue while the Commonwealth JobKeeper program remains operational.

What leases are affected

The Code:

• applies to all commercial tenancies including retail, office and industrial properties, and
• applies to all tenants that are:
  • suffering financial stress or hardship as a result of the COVID-19 pandemic and are eligible for the Commonwealth Government’s JobKeeper programme, and
  • with an annual turnover of up to $50 million (“SME tenants”)

It is stated that the $50 million threshold will be applied in respect of franchised businesses at the ‘franchisee level’, and in respect of retail corporate groups at the ‘group level’ (rather than at the individual retail outlet level).

We understand that this is intended to mean that it will be the performance of the business itself that is relevant. So where a franchisee occupies the property although the franchisor holds the lease, it is intended that if the franchisee is an eligible ‘SME tenant’ then the Code applies to the head lease.

Where a tenant has several retail brands then it is the overall performance of the group that is relevant not each brand.

Overarching principles

The Code contains some basic principles or objectives which apply to the process of negotiation of appropriate temporary leasing arrangements between parties.

In summary landlords and tenants must:

• seek (in their common interest) to ensure business continuity, and to facilitate the resumption of normal trading activities at the end of the COVID-19 pandemic and a reasonable recovery period.
• discuss relevant issues, and work towards achieving mutually satisfactory outcomes.
• negotiate in good faith,
• act in an open, honest and transparent manner.
• provide sufficient and accurate information.
• ensure any agreed arrangements are proportionate and appropriate based on the impact of the COVID-19 pandemic on the tenant.
• assist each other in their respective dealings with other stakeholders including governments, utility companies, and banks
• recognise that all premises and commercial arrangements are different and it is therefore not possible to form a collective industry position. All parties recognise the intended application, legal constraints and spirit of the Competition and Consumer Act 2010.
• take into account the fact that the risk of default on commercial leases is ultimately (and already) borne by the landlord. The landlord must not seek to permanently mitigate this risk in negotiating temporary arrangements envisaged under this Code.
• deal with each lease on a case-by-case basis and factors such as the balance of term, whether in hold over, the impact of the pandemic on the tenant, whether the tenant is already in administration should all be considered.

The 14 leasing principles

In negotiating and enacting appropriate temporary arrangements under this Code, there are 14 leasing principles should be applied as soon as practicable on a case-by-case basis. A link to the principles is available here. The following is a summary of the principles:

Enforcement of Lease Provisions:

During the COVID-19 pandemic and a reasonable recovery period, landlords must not:

• terminate leases due to non-payment of rent,
• increase rent,
• charge any fees, interest or other charges with respect to any rent waived,
• draw on a tenant’s security for non-payment of rent (be this a cash bond, bank guarantee or personal guarantee), or
• penalise tenants who reduce opening hours or cease to trade.

Rent reductions:

For each lease affected by the Code, the landlord and SME tenant must negotiate a rent reduction in the form of waivers and/or deferrals of rent, proportionate to the reduction in the tenant’s trade during the COVID-19 pandemic period and a subsequent reasonable recovery period.

In negotiating the rent, the following principles apply:

• Rental waivers must constitute at least 50% of the total reduction in rent (unless the tenant agrees).
• Waivers of more than 50% rent should be given where failure to do so would compromise the tenant’s capacity to fulfil their ongoing lease obligations but subject to the Landlord’s financial ability to provide such additional waivers.
• Repayment of any deferred rent must be amortised over the greater of:
  • the balance of the lease term or
  • a minimum period of 24 months

(unless otherwise agreed by the parties).

• Any agreed repayments, should occur over an extended period to avoid placing an undue financial burden on the tenant.
• No repayments should commence until the earlier of:
  • the COVID-19 pandemic ending (as defined by the Australian Government) or
  • the expiration of the existing lease term, and

should take into account a reasonable subsequent recovery period.

• The tenant must be provided with an opportunity to extend its lease for an equivalent period of the rent waiver and/or deferral period.

In addition, the landlord must:

• pass on any reduction in statutory charges (e.g. land tax, council rates) or insurance in the appropriate proportion applicable under the terms of the lease,
• share proportionately with the tenant any benefit it receives due to deferral of loan payments, and
• where appropriate waive recovery of any other expense or outgoing payable by a tenant, during the period the tenant is not able to trade but landlords may reduce services as required in such circumstances.

‘Binding’ mediation

The Code states that the matter may be referred to mediation if the parties cannot agree and  that this is ‘binding’.  We assume that this means that participation in mediation is mandatory and any agreed settlement is binding.  Mediators do not make binding decisions but facilitate parties to reach agreement.  We will need to see if the enacting regulations reflect this.

Initial comments

Until the regulation is passed, there is some uncertainty regarding the Code, in particular:

• how the Code applies to sub-leases and licences, and whether it applies if a sub-landlord is not eligible for the Jobkeeper program but an unrelated sub-tenant is eligible as an SME tenant (although it is reported that if a franchisee is the SME tenant under a licence or sublease then the Code will apply)
• if the Code still applies if other rental arrangements have already been entered into,
• how a “reduction in the tenant’s trade” will be determined beyond initial qualification for JobKeeper, and
• how rent deferrals will be extended if leases have less than 24 months to run.

The Code also appears to be unduly harsh on small landlords where a tenant’s turnover has been reduced and where a minimum 50% rent reduction will stretch a landlord’s financial obligations which may have only been deferred but not reduced. And for tenants for whom trade has stopped completely such as gyms, a 50% waiver of rent while they are closed still means that they will need to pay the deferred balance for this period at a later date. Any agreement should take into account the recovery period after the end of the pandemic crisis as many businesses will be slow to recover their previous trading level.

Nothing has been said about any judicial process to apply where mediation fails to achieve an agreement. It may be that the state administrative tribunals (NCAT, QCAT, VCAT etc) will take a role in applying the Code in these cases.