COVID-19: Mandatory Code of Conduct for Commercial Leases

The Federal Cabinet has recently announced the implementation of a mandatory Code of Conduct for Commercial Leases. Each State and Territory is currently in the process of passing legislation to give legal effect to the Code.

The Code’s purpose is to impose a set of leasing principles on landlords and tenants for the COVID-19 crisis. These will set out how parties negotiate rent reductions and deferrals, how benefits received by landlords (eg concessions on mortgage repayments by their bank) are to be shared with tenants, and requirements around disclosure in negotiations.

Because the Code needs to be legislated by State and Territory governments, there may be variations in its operation between jurisdictions. It will be important that you obtain legal advice before negotiating your lease, to ensure your negotiation abides by the Code as enacted in your jurisdiction.

Who is bound by the Code of Conduct for Commercial Leases?

The Code does not automatically apply to all tenancies. The Code will apply to any lease where the tenant:

has an annual turnover of less than $50,000,000.00.; and
Is ‘suffering financial stress or hardship as a result of COVID-19’.

Annual Turnover

For most businesses, this will simply mean confirming that the business’ turnover does not exceed the threshold. However, there are two special cases to consider.

For franchisee operators, this turnover threshold will apply to individual franchisees, not to the overarching franchised business.

For example, Sonny’s Hotdogs franchises its business throughout Australia. Bob is a franchisee operating a Sonny’s Hotdogs outlet in Canberra. The $50m threshold applies to Bob’s outlet, not to the overarching Sonny’s Hotdogs group.

For corporate retailers, this turnover threshold will apply to the entire corporate group, not to individual retail outlets.

For example, Sonny’s Footwear Ltd has retail shops throughout Australia. Bart is the manager of one such shop in Queanbeyan. The $50m threshold applies to Sonny’s Footwear Ltd as one corporate entity, not per each individual shop like Bart’s.

Hardship

The Code defines ‘financial stress or hardship’ as occurring when an individual, business or company is unable to generate sufficient revenue as a direct result of the COVID-19 pandemic, causing the tenant to be unable to meet its financial, contractual or leasing commitments.

However, any Tenant who is eligible for the JobKeeper programme is automatically deemed to be in financial distress, and does not need to demonstrate that they fall within the above definition.

Beyond these requirements, the National Cabinet encourages all affected businesses to abide by the Code, even if they are not suffering financial stress or hardship or exceed the annual turnover threshold.

What are the leasing principles?

The Code of Conduct sets out overarching principles with which parties must follow when negotiating their leases. These principles include:-

Landlords and tenants will act in an open, honest and transparent manner, and will each provide sufficient and accurate information within the context of negotiations to achieve outcomes consistent with the Code;
Landlords and tenants will assist each other in their dealings with other stakeholders including governments, utility companies, banks and other financial institutions in order to achieve outcomes consistent with the Code;
All leases must be dealt with on a case-by-case basis, considering factors such as whether the tenant has suffered financial hardship due to COVID-19, whether the tenant’s lease has already expired or is soon to expire, and whether the tenant is in administration or hardship.

The Code also imposes a set of principles which must be applied during negotiations, on a case-by-case basis. These include areas such as:-

Preventing landlords from terminating leases due to non-payment of rent during the COVID-19 pandemic;
Requiring tenants to confirmtheir lease terms, for which a failure to do so forfeits protections offered by the Code;
Setting out how rent waiver and deferrals can be granted, and setting limits on the use of rental deferrals over waivers (ie a maximum of 50% of any rent reduction);
Stipulating the period tenants must be given to pay back deferred rent;
Prohibiting landlords from drawing on tenant’s security (eg cash bond, bank guarantee or personal guarantee) for non-payment of rent during the COVID-19 pandemic or a reasonable subsequent recovery period;
Imposing a freeze on rent increases for most leases;
Prohibiting landlords from penalising tenants who reduce opening hours or cease to trade due to the COVID-19 pandemic.

How will the Code affect negotiations and leases?

It is clear the Code will have a major impact both on negotiations of leases, and on landlord’s businesses and financial situation more broadly.

The Code sets the boundaries between which parties can negotiate their leases during the COVID-19 pandemic and a ‘reasonable recovery period’. Landlords must be aware of the Code principles to ensure they do not unknowingly act in breach of it – for example, offering rent concessions solely in the form of rent deferrals rather than a waiver, without the tenant’s agreement.

The code also requires parties to be open with one another as to their economic situation. This to ensure that rent concessions and other discussions can occur in good faith.

For landlords, the Code may impact their cashflow, especially when mortgage repayments are factored in. At present, the Australian Banking Association has announced that several banks are offering deferrals on mortgage repayments. Landlords will need to consider how the limit on rent deferrals (as opposed to waivers) will be reconciled with the banks’ unlimited ability to defer rather than waive mortgage repayments.

How long will the Code remain in place?

The Code will operate for the same period as the Commonwealth’s JobKeeper programme. Parts of the Code will extend beyond JobKeeper, noting that they also apply to a ‘reasonable subsequent recovery period’. This does not appear to be defined in the Code in its present form, although it will likely be given a definition when legislated by the States and Territories.

What happens if I my landlord/tenant and I can’t reach an agreement?

Suffice to say, the Code is going to complicate leasing arrangements during the COVID-19 pandemic. It may be necessary for landlords (and potentially tenants) to consider engaging lawyers for these negotiations, notwithstanding rent discussions would usually be left with agents.

Importantly, landlords will need to give serious thought to how the Code, and any arrangements, will impact their cashflow. Landlords should consider contacting their accountants to explore ways to reduce costs or access government concessions, if available.

Elringtons Lawyers’ property and commercial law team are able to assist you in negotiating with your tenants or landlords under the Code during this difficult period.

Are you a Landlord or a Tenant who is negotiating lease concessions under the Code? You may be interested in our article Negotiating with your Landlord or Tenant, by Mitch Evelyn.