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Enforcement of commercial rent if parties have not agreed on a fair reduction during lockdown

04 September 2020

By now, everyone is aware of clause 27.5 of the Auckland District Law Society’s commercial lease. The lease is widely used. Clause 27.5, modified after the Canterbury earthquakes, has been put to good use as a result of Covid-19. Broadly, it states that only a fair rental and outgoings is payable when the lessee has not been able to access the premises fully. It’s widely accepted that the clause applies to the Covid-19 lockdown.

Most lessors and lessees have come to an agreement and it’s fair to say that a 50/50 approach has been taken by many. Whether that was legally correct is yet to be seen. Reaching agreement early, and documenting that agreement, on any reasonable basis makes commercial sense. The cost of arguing it will probably only be worth it for leases with significant rent and outgoings. Some tenants could be entitled to a higher abatement than 50% (eg. cafes, gyms, restaurants) and some could be entitled to less (eg. leases for storage space). At some point, a case or two might reach the courts and some precedent will be set. However, most disputes will be resolved privately because the lease contains an arbitration clause. Practically, parties usually want that confidentiality.

For those parties that have not come to an agreement, or even an interim agreement, we wanted to outline what enforcement looks like in the meantime. What enforcement methods are available before arbitration or court? Some believe that a Property Law Act notice can be issued for non-payment of rent as an enforcement method. While all circumstances are different, in general such an approach is rather bullish. Once the notice has expired (now 30 working days later due to the Government's recent law change), the lessor will need to decide whether to apply to the court for cancellation of the lease, to re-enter, or to back down and do nothing.

The danger to issuing the notice is that it sends a clear message to the lessee that the lessor considers it will have the right to cancel the lease. That could be by re-entry. ie. entering peacefully and changing the locks. A lessee receiving one of these notices may well go straight to their lawyer to deal with it. That lawyer may then assist the lessee to file an application with the High Court for relief against cancellation, including seeking an interim order for relief too. That application will be costly but a lessee facing a re-entry by a lessor will have little option but to apply or face that risk (including the likelihood of the entire loss of their business). The court will ultimately make a decision on which party will have to pay the legal costs of the other. Generally, the loser usually pays much of the winner's costs.

The test for relief against cancellation is not a high bar to reach for success. If the rent has been paid then they are often successful. In our view, if the lessee has a good argument that it has actually paid fair rental and outgoings or if it hasn't, that it can recommence payments and repay the debt, then the lessee is likely to succeed. If, for example, a cafe, gym or restaurant has paid even some of its rent then the chances of relief against cancellation are good. If the lessee and the lessor have not even agreed on what the fair proportion of rental and outgoings actually are, but the lessee has paid its genuine estimate of the fair figure, then the lessee has a good argument for relief. Simply put, how can the lease be cancelled for a failure to pay rent when the actual rent payable during the lockdown is still not determined? In our view, in most cases it can't. The entire purpose of clause 27.5 is to allow the lessee to pay less, immediately. Once the lease has been re-entered, the lessee could then apply to the courts for relief. That relief could be imposed even if the lessor has found a new lessee. The difficulties lessors face with enforcement is not a loophole for lessees. It is just the clause operating as intended.

All of that said, lessors are not without any remedy. They can have the rental and outgoings determined by arbitration or the courts. Obviously, negotiating directly with the lessee is the far better course of action. Sometimes a mediation could also be useful as, in most cases, rental and outgoings payable are not high enough to warrant an arbitration or court. As a result of all of these factors, some leases have reached a stalemate.

The Government's announced subsidy for some of the cost of arbitration for some leases is a welcome relief to some leases. For the remainder, either arbitration, court or some other method is required. Now is the ideal time for some creative dispute resolution and for arbitrators to ensure the process matches the overall value of the dispute. A little time spent negotiating how to have a fight should reduce the scope and cost of that fight.

Some lessors have made the decision to live with the stalemate and continue issuing statements for what they consider is the true rental and outgoings outstanding and then eventually refuse to renew the lease due to the supposedly unpaid balance. For the same reasons as above, a lessee could seek relief against the refusal to renew the lease. At that point, the lessee will probably be in a better financial position to make that application. Overall, lessees and lessors need to be sensible and work together to reach an agreement. If agreement cannot be reached, the parties should take steps to have it resolved by a third party in some form.

This article is not a substitute for legal advice on your particular situation. Please let us know if you need assistance from our team.

 

Tim Burtenshaw is an Associate in the Commercial Dispute & Employment Team at Norris Ward McKinnon. You can contact Tim here.