Commercial Leases: What to consider before you sign

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Commercial leases in NSW give a tenant the right to exclusive possession of the commercial premises for a specified period of time. 

Whether you’re a landlord or tenant, there are certain elements of the lease you must be particularly aware of and negotiate before signing, to ensure you’re protected and able to achieve what you want from the arrangement.

Due Diligence

Before entering into a commercial lease it’s very important to do your research, and ensure you set yourself up for success.

Landlords

Get to know your potential tenants and their intentions. Of course primarily you want to make sure they’re credible and financially stable, but you also need to approve what they plan to do in your property. For example:

  • Is their business suitable for the area?
  • Does it conflict with any existing businesses nearby?
  • Does the business have the potential to succeed?
  • Will they be able to get council approvals and permits, if required?

Tenants

Taking on a commercial lease is a huge commitment, so it’s critical you go into it with your eyes wide open and fully satisfied that the arrangement will suit your needs and allow you to achieve what you want.

  • Conduct appropriate market research to ensure you have found the right premises in the right location
  • Make sure your business plan is realistic and includes all costs and contingencies
  • If you plan to fit-out the premises, check the landlord will permit you to carry out the work required
  • Check if you need any approvals from council; even ask them to come out to the property so you can understand what you’ll need to do and if it’s viable
  • Understand the terms of your lease

Lease Costs

The Retail Leases Act 1994 (the Act) states that where the lease is a retail lease (as defined under that Act), the landlord pays the full cost of preparing the lease. The lessor is still entitled to charge the lessee the registration costs of the lease and the costs of any amendments to the lease requested by the lessee.

Commercial or retail leases must be registered if they have a period of more than three years, including any option period. This is generally paid by the tenant, along with their own legal costs.

It is of course recommended that both parties engage a lawyer to check over and negotiate the lease, so you can be sure it meets all requirements on both sides and there aren’t any hidden clauses or costs.

The landlord is entitled to ask for payment of rent in advance, and a security bond to protect them against a tenant defaulting on their rent. The amount is generally between one to three months rent and may be payable by:

  • Cash bond
  • Bank guarantee
  • Third party guarantee, known as a guarantor

When a lease is renewed or extended, the landlord is responsible for the full costs of preparing the lease.

Lease Terms

Below are the key aspects of a lease that must be considered, and negotiated, before signing:

Rent amount

This is usually specified without outgoings, so ensure you understand the total amount of costs before making your decision.

Outgoings

These are the additional costs incurred by the landlord and passed on to the tenant, so they must be included in the calculations. Outgoings often include:

  • Council rates
  • Waste and sewerage fees
  • Body corporate fees
  • Security fees
  • Insurance premiums

Rent review

On a commercial lease the landlord does not have to specify the rent or rate of rent increases for the premises, however they must specify the timing and basis of the reviews for each period.

Duration (Term)

Commercial leases are typically long term, and generally a minimum term of 3 years with options to extend. It’s important to be confident that you and your business will be able to stay in the property for the whole term, as it can be difficult and expensive to get out early.

Option

An option clause permits the tenant to renew their lease at the end of the initial lease period for another specified amount of time; for example, 3+3 means an initial 3-year lease with a 3-year option, meaning a potential total of 6 years. This gives the tenant more security and less risk.

Rent-free period

Also known as rental abatement, a rent-free period is a specified amount of time at the start of a lease where the tenant does not have to pay the rent to allow the business to get up and running. The time frame for this is usually between one to three months, and is completely at the discretion of the landlord. It is often easier for the tenant to negotiate a longer rent-free period when the lease term is longer.

Fit-out costs

There are generally three scenarios when it comes to the cost of fitting out the premises:

  1. Tenant covers all costs
  2. Landlord makes contributions to the costs
  3. Landlord carries out the fit-out and covers all costs

In all scenarios it’s important to be clear about the work required, to ensure it is approved and all parties understand what will be carried out and what their responsibilities are.

Coffee Shop

Make good clause

This refers to how the tenant should leave the premises when the lease comes to an end, and the extent to which the property should be returned to its original state before the lease commenced. Some landlords may require the tenant to hand back the premises in a clean and tidy condition, whereas others may request it is left as an empty shell. Each scenario will of course have different cost implications, so it’s important to consider and negotiate this before signing the lease.

Maintenance

A lease should make clear who is obligated to undertake repairs and maintenance on a commercial property. Usually the maintenance clause will differentiate between:

  • General repairs and maintenance – usually the responsibility of the tenant
  • Structural repairs – usually the responsibility of the landlord

Disputes between tenants and landlords regarding who should pay for repairs are common, so to avoid such issues it’s critical to understand and negotiate the terms in the lease before it is signed.

Relocation or demolition clauses

These clauses give the landlord the right to either relocate the tenant to another premise or terminate the lease if they plan to redevelop the site. There are sections within the Retail Leases Act (The Act) that protect tenants from the consequences of relocation and demolition clauses, but it is of course preferable to negotiate terms within the lease that minimise the impact to the business.

Termination

Before signing a lease it’s important to understand what the options are should you need to make an early exit, and negotiate where possible to make it a little easier to get out. You may be able to include an early termination (or break) clause, which will allow you to exit early with specific conditions. It may also be possible to assign the lease including all rights and obligations to a new tenant, or sublet the premises. All of these options will be included within the lease, and open to negotiation before you sign.

Key Takeaways

A commercial lease can be complex and have a lot of moving parts. It’s critical to take the time before you sign to understand all of those parts, and negotiate to ensure you set yourself up for success and have as much protection as possible.

As mentioned, it’s highly recommended to engage a lawyer to review the lease and manage the negotiations for you. We know exactly what to look out for and what the possibilities are, so will be able to ensure you have the best terms possible for your situation and goals. 

The above is general in nature and is not intended as legal advice. You should obtain legal advice in relation to your own specific circumstances.

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