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COVID-19 Leasing Trilogy – a legal overview for landlords and tenants (Part 1)

Giancarlo Romano
Robert McKay
Article by Giancarlo Romano & Robert McKay

COVID-19 has forced individuals into isolation, businesses into indefinite closure, communities into uncertainty and economies across the globe into turmoil. Whilst State and Federal Governments attempt to address this crisis on multiple fronts, they are yet to focus their attention on changes to tenancy legislation or the consequences these changes will have on retail, commercial and residential leasing across the country. This article discusses some of the legal issues in this environment for landlords and tenants to consider.

Click here for the most up-to-date and concise list of current ‘Stage 3’ restrictions in Victoria.

Remaining open for trade

Most commercial and retail leases require the tenant to remain open and operational during normal hours of business for the duration of the lease. That said, in our view, it would seem unjustifiable (whether legally or morally) for a landlord to attempt to force a tenant to remain open for trade in circumstances where the tenant’s business has been subjected to a Government mandated closure (current examples would include gyms and indoor recreational health clubs) or serious health and safety concerns.

The position becomes less clear for those businesses and tenants who are not presently restricted or mandated to close but are instead choosing to close their doors due to commercial or social distancing considerations. For example, food operators and cafes that are still able to trade as takeaway venues – if these businesses decide to close anyway, they may find themselves falling foul of their lease obligations (though it would be highly unlikely that a landlord would have the temerity to serve a default notice for this type of ‘breach’ in the current climate if rent was still being paid).

Tenants still obliged to pay rent

The obligation imposed on the tenant to pay rent is a contractual obligation under the lease and it continues on regardless of an event such as this causing a substantial reduction in revenue – the ups and downs inherent in business are generally considered to be risks borne by the tenant. For this reason, whether a tenant chooses or is otherwise forced to close down its business in response to COVID-19 (for legal, commercial or social distancing reasons) the rent will likely continue to be payable under the terms of the lease. It is common for lawyers to advise tenants that, even where a dispute arises, it is important to continue paying rent to reduce the risk of eviction.

To provide some level of comfort and certainty to tenants, the Government have recently announced a 6-month moratorium on rental evictions for those suffering financial distress due to COVID-19. While this may help some struggling tenants by giving them breathing space in the near-term, rent continues to accrue unabated during the term of the moratorium. Tenants should note that penalty interest may also continue to accrue on any unpaid rent at agreed rates in line with the terms of their lease. There also remains a number of unanswered questions regarding how this moratorium will work and how it will be implemented by the Government; we will be closely watching this space in the coming days and weeks. The Government has also suggested that this will not forgive tenants for avoiding rent all together.

Whilst rent generally remains payable, there are certain circumstances where a tenant can claim an abatement of rent or compensation for an interference to its tenancy. For example, where a landlord is forced to close down a building in compliance with an order from an authority and the tenant is therefore unable to access all or part of the premises as a result, the general legal position is that rent may then not be payable and would be partially or fully ‘abated’ (depending on the terms of the specific lease).

These abatement or compensation provisions are usually relied upon in circumstances where physical damage is sustained to the rental premises or the landlord undertakes refurbishment works which interfere with the tenant’s occupation, it’s unclear however whether these types of provisions could now be extended to cover interferences and interruptions caused by COVID-19.

There are also protections in the Retail Leases Act 2003 (RLA) (only applicable to retail tenants), which require a landlord to pay compensation to a tenant in circumstances where the landlord (or someone acting on its behalf) substantially inhibits the tenant’s access to the leased premises or takes action that significantly disrupts the tenants trading (see, for example, section 54 of the RLA). However, s. 54 does not apply in circumstances where the landlord takes action as a reasonable response to an emergency (which could be said to be the case here, depending on how things unfold). Landlords of retail premises that fall within the RLA will need to carefully consider whether or not requiring full payment of rent and outgoings from tenants in the coming months might fall foul of other protective mechanisms set out in the RLA such as the requirement that landlords not engage in conduct that is unconscionable.

Whilst the Government has mandated the closure of certain businesses, there does not appear to have been any directive forcing landlords to take action to require the tenant to cease occupation (the directives are directed to the tenants operating the businesses). It is therefore likely that these mandated closures will not impact upon the requirement to pay rent.

Termination of leases

The ‘common law’ doctrine of frustration may give rise to a right to end a lease.

Frustration is a principle that can be invoked by either party when extraordinary and unexpected circumstances or events outside of a contracting party’s control arise that prevent that party from performing its obligations. Performance must generally be made impossible or otherwise fundamentally different from that which was initially contemplated by the contracting parties. A change in circumstance that makes performance more costly or inconvenient likely won’t be enough to frustrate a contract.

Whilst the doctrine of frustration has been well established by hundreds of years of case law it has rarely been found to apply to leases. It is difficult to establish the frustration of a lease: even though a tenant may not be able to run their intended business for a period of time due to COVID-19, they still have the benefit of the leasehold estate under their lease agreement which they could utilise for any other permitted purpose (and, when this is all over, they will still have the benefit of the lease).

That being said, we are now entering fertile terrain for test cases to be run for the avoidance of leases on the grounds of frustration due to forced closures, interruption to physical occupation of leased premises, and the generally unprecedented challenges raised by COVID-19 (and no doubt we will see cases run on this point in the coming months).

Force Majeure clauses are contractual provisions in leases that allow for the avoidance of a lease upon the happening of certain extraordinary intervening events. It is yet to be tested whether this pandemic would be considered a force majeure event. This would need to be considered on a case-by-case basis with specific reference to wording of the force majeure clause in the relevant lease.

Ordinarily, a temporary ‘frustration’ event like a strike or riot will not give rise to a total right to terminate the contract; it may amount to a right to damages or compensation, however this too needs to be assessed on a case-by-case basis. If, for example, this COVID-19 pandemic is expected to force closure of a tenant’s business for 6-months and that tenant only has 5-months remaining on their lease term, the argument for the immediate termination of the lease based on frustration would necessarily be stronger. Alternatively, if we were dealing with a 10-year lease and the outbreak is only expected to be shorter-term requiring a 4-week lockdown and closure, then the disruption would be more transient and any claim under these doctrines would be more likely to fail.

It is therefore no surprise that lawmakers are not making quick knee-jerk decisions on these issues and the legislative responses, given the current uncertainty around duration of the crisis. The Government has however announced that there will be a moratorium on evictions which will impact the rights of landlords and tenants in this area. This is discussed further in Part 2 here.

Conclusions

The landscape is shifting daily as this crisis continues to unfold. The individual circumstances of each landlord and tenant will differ depending on the terms of the relevant lease. The opinions raised in this article are informative opinions but in no way constitute legal advice. As all leases are different it is important to review your lease terms and seek legal advice specific to your circumstances before taking any action that may prejudice your position.

Part 2 of the trilogy takes a look at the Government assistance and stimulus packages available for tenants and landlord.

Part 3 offers some practical solutions for landlords and tenants to consider in light of the legal positions discussed in this article.

For legal advice regarding any of the issues raised above, we recommend that you contact a member of the team at Best Hooper.

About Best Hooper – Victoria’s Property, Planning and Land Development Advisory Law Firm

Best Hooper are the oldest and most prominent developer focused law firm in Victoria who have served our community since 1886; through wars, recessions, depressions and pandemics. We are actively advising clients in relation to the COVID-19 outbreak on all property related matters including leasing, disputes, property transactions and planning advices and applications. We are continuously recognised as industry leaders in a variety of publications, including Doyles Guide and Best Lawyers.

If you require more information, please contact Giancarlo Romano, (03) 9691 0220 or gromano@besthooper.com.au or Robert McKay, (03) 9691 0244 or rmckay@besthooper.com.au.
Giancarlo Romano is a Senior Associate in the Best Hooper Property Team who represents private and corporate landlords and tenants across commercial, retail and residential leasing and all facets of property transactions.

Robert McKay is the Principal of the Best Hooper Disputes Team and he deals with a range of retail and commercial tenancy disputes in his daily practise.

Giancarlo Romano

Principal Lawyer
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Robert McKay

Principal Lawyer
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