Following weeks of speculation and uncertainty for commercial lessees and lessors alike, the long-anticipated Retail Shop Leases and Other Commercial Leases (COVID-19 Emergency Response) Regulation 2020 (Qld) (Commercial Regulation) was made on 28 May 2020. The Commercial Regulation gives effect to the National Cabinet’s Mandatory Code of Conduct (Code) (announced 7 April, which we discussed here) for commercial tenancies. The Commercial Regulation is accessible online here.
In this alert, Don Battams, Aaron Alcock, Jon Erbacher and Chris Cullen discuss the Commercial Regulation and its impact on commercial tenancies in Queensland.
Retail Shop Leases and Other Commercial Leases (COVID-19 Emergency Response) Regulation 2020 (Qld)
The Commercial Regulation is the second tenancy regulation made under the COVID-19 Emergency Response Act 2020 (Qld) (Act) (discussed here), following Queensland’s introduction of the Residential Tenancies and Rooming Accommodation (COVID-19 Emergency Response) Regulation 2020 (Residential Regulation) on 24 April 2020 (discussed here).
Like the Residential Regulation, the purpose of the Commercial Regulation is to mitigate the effects of the COVID-19 emergency on lessees and lessors and to establish a process for resolving tenancy disputes, for example, by prescribing circumstances in which parties to a dispute attend mediation or other dispute resolution processes (discussed further below).
The Commercial Regulation has effect from the date of notification on 28 May 2020 and will expire on 31 December 2020 – being the expiry date of regulations made under section 23 of the Act.
To whom does the Commercial Regulation apply?
The Commercial Regulation applies to lessees and lessors who are parties to an ‘affected lease’, which is a lease:
- of a retail shop or premises other than a retail shop used wholly or predominantly to carry on a business;
- that is binding on the lessee, whether or not the lease has commenced;
- under which the lessee is an SME entity - being an entity where annual turnover is, or is likely to be, less than $50 million.1 For the purposes of calculating turnover:
- where the entity is connected with2 or an affiliate3 of another entity, the annual turnover is taken to be the aggregate turnover of the entities; or
- otherwise, the annual turnover is the turnover of the business carried on by the lessee at the leased premises; and
- where the lessee, or an entity connected or affiliated with the lessee responsible for or involved in employing staff for the business carried on at the premises, is eligible for the Job Keeper Payment program.
It is important to note that the term ‘lease’ as used in the Commercial Regulation (and this alert) also includes a sub-lease, licence or other agreement to occupy premises (other than a residence) and as such, the Commercial Regulation applies to these forms of occupancy.
If a franchisor has granted a right to occupy the premises (i.e. a ‘lease’ as defined) to a franchisee and that lease is an affected lease, the lease from the lessor to the franchisor will also be an affected lease.
However, certain types of leases will not constitute an affected lease under the Commercial Regulation, namely:
- a lease of premises used for a farming business under the Farm Business Debt Mediation Act 2017 (schedule 1); or
- a lease, permit, licence or sublease under the Land Act 1994 (Qld), except where it is a sublease with a rental category 13 to 16 and the sublessor is not a government leasing entity.
There is likely to be debate as to whether certain lessees which are part of a larger group structure, or which operate from more than one leased premises, will fall within the definition of an ‘affected lease’ so as to become entitled to the relief measures provided under the Commercial Regulation. This can be a complex issue, which is dependent on the facts of each case. We will address this issue in a separate alert to be released shortly.
What is the effect of the Commercial Regulation on lessees?
The relief measures enunciated in the Code have, in large part, been replicated in the Commercial Regulation. We summarise below the key relief measures and modifications to lease arrangements for lessees (and highlight the key departures from the Code):
- Parties required to cooperate: The Commercial Regulation imports a general obligation on both the lessor and lessee to cooperate and act reasonably and in good faith in all discussions relating to mitigating the effects of COVID-19. Compliance with this obligation underpins the effective operation of the Commercial Regulation, and any conduct or failure to comply by a party may be considered by a court or mediator in subsequent proceedings.
- Parties must re-negotiate rent under an affected lease: Either party to an affected lease is entitled to request in writing that the rent payable or other conditions of the lease be re-negotiated. After a request is made, both parties are required to disclose and exchange to the other as soon as practicable all information necessary to enable fair and transparent negotiations (e.g. financial information as to the lessee’s turnover or its eligibility for the JobKeeper scheme and information demonstrating the lessee is an SME entity). Within 30 days of receiving sufficient information, the lessor must offer the lessee a rent reduction and other proposed changes to lease conditions. As was indicated in the Code, the rent reduction:
- must provide at least 50% of the reduction by way of a rent waiver (with the balance to be provided as a rent deferral);
- must remain in effect for the period 29 March 2020 to 30 September 2020 (Response Period); and
- is able to be re-negotiated for a further reduction if a ground on which the agreement was based changes in a material way - the Commercial Regulation gives examples, where the lessee’s income decreases substantially or has not increased as anticipated.
In departure from the Code, the Commercial Regulation does not require that the rent reduction be in the same proportion as the lessee’s reduction in turnover. Instead, the lessee’s reduction in turnover of the business carried on at the premises is one of several factors the lessor must take into account in making its offer.
There are confidentiality protections in the Commercial Regulation preventing parties disclosing or using protected information obtained through lease re-negotiation or dispute resolution, except as set out in or authorised under the Commercial Regulation.
- Deferral of rent: Parties may agree to defer rent by way of re-negotiation of an affected lease. However, any agreement to defer rent cannot stipulate that repayments commence before the end of the Response Period, nor that any interest or other charges are payable on the deferred rent. Rather, the repayment of deferred rent must be amortised over a period of between two and three years commencing after the Response Period, during which the lessor may continue to hold any security deposit until all deferred rent has been repaid.
- Extension of lease: If rent is waived or deferred for a period of time, the lessor must offer the lessee an extension of the lease on the same terms and conditions (except the rent payable during the extension must be adjusted for the waiver or deferral) for an equivalent period for which rent is waived or deferred. However, that obligation:
- applies only to the extent the lessor is not subject to an existing legal obligation that is inconsistent with the obligation to extend the lease;
- does not apply if the lessor demonstrates that the lease cannot be extended because the lessor intends to use the premises for a commercial purpose of the lessor.
What is the effect of the Commercial Regulation on lessors?
The Commercial Regulation modifies the application of the Retail Shop Leases Act 1994 (Qld) (RSL Act) and alters the rights and obligations of lessors in commercial premises. We briefly summarise the key changes from a lessor’s perspective below:
- Lessor is prohibited from taking ‘prescribed action’: Lessors are prohibited from taking ‘prescribed action’ because of a lessee’s failure to pay rent or outgoings or because the lessee’s business was not open for business during hours required by the lease, and where this failure occurs in the Response Period. ‘Prescribed action’ includes, but is not limited to, recovering possession or re-entering the premises, terminating a lease, evicting a lessee, seizing property as security for repayment or imposing interest or some other charge on unpaid rent or outgoings. However, the prohibition on taking prescribed action doesn’t apply where:
- the lessor acts in accordance with a variation to the lease agreed through re-negotiation under the Commercial Regulation, settlement or other agreement between the parties or an order of a court or tribunal;
- despite a genuine attempt by the lessor to negotiate rent or other lease terms, the lessee substantially fails to comply with its obligations in relation to the negotiations; or
- the basis for the action is not related to the COVID-19 emergency.
- Lessor must not increase rent: Lessors are prohibited from increasing rent during the Response Period despite any provision for the increase or review of rent contained in a lease, except where the rent increase is determined by reference to the lessee’s turnover. Additionally, lessors will be prohibited from taking prescribed action against a lessee for failing to pay during the Response Period any increased or reviewed amount of rent.
- Lessor may reduce services for leased premises: Lessors are entitled to reasonably cease or reduce services provided to a leased premises where the lessee is unable to operate its business due to the COVID-19 emergency, subject to a reasonable request by the lessee.
- The Commercial Regulation provides for parties (potentially including both the franchisor and franchisee where applicable) to undertake dispute resolution in relation to an affected lease, whether or not there is any provision to this effect in the lease itself. However, the parties are not limited to undertake the forms of dispute resolution prescribed in the Commercial Regulation (such as mediation or by application to QCAT) and may agree on an alternative process, for example, arbitration or other process prescribed under the lease or by the small business commissioner.
- Importantly, the Commercial Regulation applies (for the currency of the regulation) in substitution of Part 8 of the RSL Act (which provides for, and details the process of, mediation). Under the Commercial Regulation, parties to a dispute must attempt to genuinely resolve the dispute in good faith themselves prior to commencing mediation, failing which:
- either party may provide written notice to the small business commissioner of the dispute;
- the small business commissioner will assess and either accept or dismiss the dispute notice, and where it is accepted, will arrange mediation as soon as practicable (i.e. by nominating a mediator and a time and date for the mediation); and
- an appointed mediator will mediate the dispute impartially between the parties. The mediator’s functions do not extend to advising on relevant law or acting as adjudicator or arbitrator.
- Following a successful mediation, the parties may enter a settlement agreement or give effect to the agreement by way of lease variation. Alternatively, failing a resolution at mediation, the mediator will notify the small business commissioner of the outcome and any party to the dispute may then apply to QCAT to resolve the dispute.
Answers to some previous queries
In our recent alert on 8 April 2020 (here), which discussed the introduction of the Code, we set out several queries and concerns we had in respect of how the Code would operate when eventually legislated in Queensland. As the Commercial Regulation has now been made and there is more certainty as to its operation, we revisit these queries below (insofar as they have not already been addressed above):
- Rent relief agreements entered into by parties in respect of an affected lease which pre-date the commencement of (and which may be inconsistent with) the Commercial Regulation are permitted. However, parties remain entitled to renegotiate conditions of the lease in accordance with the Commercial Regulation, notwithstanding any previous agreements.
- The Commercial Regulation does not adopt the concept of a ‘reasonable recovery period’ following the end of the COVD-19 emergency, as referred to in the Code. Rather, the operative period for relief provided by the Commercial Regulation, during which certain provisions have effect (i.e. prohibition on taking prescribed action), is the Response Period which only extends until the end of September 2020.
- Where a lessor is required to offer to the lessee a rent reduction or variation to other conditions of the lease, the circumstances which must be taken into account include the financial position of the lessor (such as any financial relief provided to the lessor, for example, mortgage, outgoings or land tax relief). As the parties to a lease are required to negotiate the forms and amounts of relief the subject of a variation request, the weight attributable to the lessor’s financial circumstances will be subject to, and determined by, good faith negotiation between the parties.
- The position of the Australian Banking Association remains that banks will offer loan repayment holidays, with interest being deferred and capitalised over the balance of the loan. Given lessors are prohibited under the Commercial Regulation from increasing rent and imposing interest or charges on deferred rent (except where rent is unpaid by the lessee), the practical effect is that lessors may end up bearing a large portion of the financial burden of the COVID-19 emergency.
- In order to secure repayment of monies under a lease, the Commercial Regulation permits lessors to hold any security until all deferred rent is repaid. There is no express prohibition in the Commercial Regulation on the lessor requesting further security from the lessee to secure performance of, and payment under, the lease – rather, the lessor is only prohibited from claiming against the security during the Response Period. In practice, where a bank guarantee expires before the time allowed for repayment of the deferred rent, we consider it would be prudent for the lessor to seek a replacement bank guarantee with an extended expiry date as part of negotiations.
- Notwithstanding any requirement in the terms of a lease, a lessee cannot be required to trade during the Response Period. The lessor is expressly prohibited from taking prescribed action against a lessee of an affected lease that ceases trading during the Response Period. However, the lessee is required to act reasonably and in good faith in all actions associated with mitigating the effect of the COVID-19 emergency on the parties to the lease. In our view, a lessee who unreasonably ceases to trade may be acting in breach of this obligation.
- Lessees are generally required to continue performing their obligations (i.e. payment of outgoings) under a lease in respect of a leased premises, except where obligations are discharged or varied by agreement with the lessor. Where the lessee does not pay outgoings during the Response Period, the lessor is prohibited from taking prescribed action against the lessee. However, the lessor may reduce or cease any services for leased premises (and outgoing expenses) where the lessee is unable to carry on its business (subject to any reasonable request by the lessee).
- Principle 2 under the Code – which provides that lessees forfeit the protections under the Code if they fail to substantially abide by the terms of the lease – has not been directly replicated in the Commercial Regulation. However, the Commercial Regulation does provide that lessees will forfeit the protection afforded by the Commercial Regulation against a lessor taking a prescribed action if, despite a genuine attempt by the lessor to negotiate rent payable and other conditions of the lease under Division 3, Part 2 (obligations for negotiating outcomes), the lessee has substantially failed to comply with its obligations in relation to the negotiations. As such the key requirement is that the lessee complies with its obligations under the Commercial Regulations to negotiate the rent relief with the landlord, as opposed to complying with the lease generally.
If you would like further information or assistance with negotiating or documenting relief arrangements in accordance with the Commercial Regulation, please contact our Property or Dispute Resolution team.
1 Guarantee of Lending to Small and Medium Enterprises (Coronavirus Economic Response Package) Rules 2020 (Cth), s 5 (accessible here)
2 Income Tax Assessment Act 1997 (Cth), section 328-125
3 Income Tax Assessment Act 1997 (Cth), section 328-130.