Seven lease clauses that cost tenants money, and what the Retail Leases Act does about them

A lease is the only contract I know of where the tenant pays a lawyer to review it, is told it is “a standard lease”, and signs a document that commits them to more money than their house cost.

There is no standard lease. There is a landlord’s lease, drafted by the landlord’s lawyer, with the risk allocated the way the landlord would like. Your job, before signing, is to find the clauses that move money and move them back. Here are the seven that matter most, and the statutory protections a retail tenant already has whether the lease mentions them or not.

First: does the Retail Leases Act apply?

Most tenants assume “retail” means a shop. Under the Retail Leases Act 2003 (Vic) it means premises used wholly or predominantly for the retail provision of goods or services, with annual occupancy costs under $1 million. That catches cafés and shops, and also most medical and dental practices, gyms, consulting rooms, and a surprising number of offices where the public comes in to buy a service.

If the Act applies, it applies regardless of what the lease says, and it gives you protections you cannot sign away. If it does not apply, you have only what you negotiate. Find out which position you are in before you read another clause.

1. Rent review

Every lease increases the rent. The question is how.

• Fixed percentage (3%, 4%): predictable. Over a five-year term, 4% a year is a 22% increase.
• CPI: tracks inflation. Has been kind to landlords lately.
• Market review: rent reset to market value at a date, usually the start of an option term. The lease will say how the valuer is appointed and what they must ignore (your fit-out, your goodwill). Read that paragraph. It is where market reviews are won.
• Ratchet: a clause that says the rent can go up on review but never down. Void under section 35 of the Act for a retail tenant. If it is in your retail lease, it has no effect; if it is in a non-retail lease, it is enforceable and you should negotiate it out.

A lease that has a market review in year three and a ratchet and a fixed 4% in the other years is a lease that has been thought about by the other side.

2. Outgoings

Rent is the number on the page. Outgoings are the number that arrives in an invoice: council rates, water, insurance, management fees, cleaning, security, repairs to common areas.

Under a retail lease, three things protect you. The landlord must give you a disclosure statement at least seven days before the lease is entered into, with an estimate of outgoings for the first year. The landlord must give you an annual estimate and an audited statement of actual outgoings. And land tax cannot be recovered from you at all (section 50).

Under a non-retail commercial lease, none of that applies automatically. Outgoings are whatever the lease defines them to be, and the definition should be read for the words “capital”, “structural” and “land tax”.

3. Repairs and maintenance

A lease will make you responsible for keeping the premises in good repair. The question is what “the premises” includes. A tenant should maintain what the tenant uses: the fit-out, the fixtures, the internal finishes. A tenant should not be paying for the roof, the structure, the air conditioning plant on the roof, or the sewer under the floor.

For a retail tenant, section 52 of the Act makes the landlord responsible for maintaining the structure, the fixtures, plant and equipment, and the appliances and fittings the landlord provided, in the condition they were in when the lease started. That cannot be contracted out of. For a non-retail tenant, the lease decides, and leases routinely try to make the tenant responsible for “all repairs” including air conditioning replacement. Strike it.

4. Make good

The clause nobody reads until the last month of the lease.

A make good clause says what the premises must look like when you hand them back. The strict version: remove all fit-out, reinstate to base building condition, make good any damage, cap off services, repaint. On a 200 square metre café that is a $30,000 to $60,000 bill at the exact moment the business has stopped trading.

Three ways to deal with it, all of which have to be negotiated before signing:

1. A cap: make good obligations limited to a stated amount.
2. A right to leave the fit-out: the landlord often prefers a fitted shop to a shell anyway.
3. A condition report at entry: so “the condition at commencement” is photographs, not the landlord’s recollection.

A landlord who will not discuss make good at the start is telling you something about the end.

5. The option

An option to renew is the most valuable thing in the lease for a tenant with a business worth selling: without it, the business has a fixed expiry date and a purchaser prices accordingly.

Two traps. First, the option must be exercised in writing, in the window the lease specifies, usually between six and three months before expiry. Miss the window and the option is gone. Under the Act, a landlord must give a retail tenant written notice of the last date to exercise the option at least six months and no more than twelve months before that date, and if the landlord does not, the tenant’s time to exercise is extended. That is a protection; it is not a substitute for a diary entry.

Second, an option is usually conditional on the tenant not being in default. A landlord who wants the premises back will look for a default in the month before the option date. Pay the rent on time in that month above all others.

6. The personal guarantee

If the tenant is your company, the landlord will ask you to guarantee it personally. The guarantee is usually unlimited: every dollar of rent, outgoings, make good and damages for the whole term and every option. It is the clause that puts your house in the lease.

Negotiate it like the price. A guarantee capped at six or twelve months’ rent. A guarantee that falls away after the first two years of on-time payment. A bank guarantee or security deposit instead. A landlord with a good tenant will usually accept one of these; a landlord who insists on an unlimited personal guarantee from a director with no negotiation is pricing you as a risk, and you should price the lease accordingly.

7. Relocation and demolition

Shopping centre and mixed-use leases often let the landlord relocate you to other premises in the building, or terminate the lease on notice if the landlord intends to demolish or redevelop. Under the Act a retail tenant must get at least 60 days’ notice of relocation and the new premises must be comparable, and a demolition clause can only be used if the landlord genuinely intends to demolish within a reasonable time. Outside the Act, a demolition clause can be used to end your lease in year two because the landlord found a better tenant. Read it and ask what the landlord’s plans are for the site.

The five-year rule, and the certificate

One more protection worth knowing: under section 21 of the Act, a retail lease must be for a minimum term of five years including options. A landlord who wants a shorter term needs you to obtain a certificate from the Victorian Small Business Commission waiving that minimum, after you have had the position explained to you. If you are being asked to sign a three-year retail lease with no option and nobody has mentioned a certificate, the lease may already be a five-year lease whether the landlord likes it or not.

Before you sign

1. Confirm whether the Retail Leases Act applies. It changes everything that follows.
2. Read the disclosure statement, especially the outgoings estimate. If you did not receive one at least seven days before signing a retail lease, say so; the Act gives you remedies.
3. Price the make good and the guarantee as if they were rent. They are.
4. Diarise the option window the day you sign, and the date six months before it.
5. Get a condition report with photographs at entry. It costs a few hundred dollars and it decides the make good argument five years later.

The lease will be the same document whether you read it or not. The difference is whether the clauses in it were chosen by you or for you.