Is your retail lease no longer a retail lease?

Can a lease which is subject to the Retail Leases Act 2003 (Vic) at the time it is entered into cease to be subject to the Act as a result of a change in circumstances? This possibility was raised by the recent decision of the Victorian Civil & Administrative Tribunal ("VCAT") in William Buck (Vic) Pty Ltd v Motta Holdings Pty Ltd (Building and Property) [2018] VCAT 15.

If it can, the consequences for both landlords and tenants in Victoria could be significant, affecting important matters including recovery of costs, the landlord's maintenance obligations and rent review processes.

VCAT's decision in the William Buck case         

Under the Act, "retail premises" do not include "premises in respect of which the occupany costs …under the lease concerned is more than the amount prescribed by the regulations". Broadly speaking, "occupancy costs" are rent and outgoings.

The question in the William Buck case was whether the occupancy costs payable under the relevant lease were more than $1 million.

VCAT determined that at the time the lease was entered into, the aggregate occupancy costs exceeded $1 million and that therefore the Act did not apply to the lease.

The Tribunal determined that if premises are not retail premises at the time the lease is entered into (because the occupancy costs exceed $1 million), then the premises cannot become retail premises later (if the occupancy costs fall below $1 million).

However, the Tribunal member indicated that the Act did not prevent a lease which was subject to the Act at the time the lease was entered into subsequently ceasing to be subject to the Act.

Specifically, if occupancy costs for premises were under $1 million at the time the lease was entered into, the premises would be retail premises under the Act. If, however, the occupancy costs subsequently increased to over $1 million during the term of the lease, then the premises would no longer fall within the definition of retail premises, and would fall outside the Act.

The comments by the Tribunal member were not required to reach the determination made on the points in issue, so are of limited weight, but they raise an important issue.

The consequences of this view of the Retail Leases Act 2003

Premises fall out of the Act

If the Tribunal's views represent the correct interpretation of the Act, then premises which are subject to the Act at the time the lease is entered into may cease to be subject to the Act if circumstances change.

This would mean, for example, that the landlord would be able to recover from the tenant amounts previously not recoverable including for land tax, amounts for capital costs, depreciation, contributions to a sinking fund and rent payable under a head lease. A number of other consequences could follow.

A change in occupancy costs may have this effect.

However many other changes in circumstances could have this effect. Any of the disqualifying characteristics in section 4(2) of the Act might not have applied when the lease was entered into, but may apply subsequently.

For example, the tenant might become a listed corporation (eg. though an initial public offering in Australia) or a subsidiary of a listed corporation (eg. by being acquired by a listed corporation), or a listed corporation on a relevant overseas stock exchange or a subsidiary of such a corporation. That event might be reasonably easy to identify and determine.

Other disqualifying characteristics in section 4(2) might not be as easy to identify and determine, such as changes in use and in the nature of the tenant or the premises.

Section 4(1) describes when the Act applies, subject to the disqualifying characteristics in section 4(2).

If the Act applies at the outset based on an assessment of the use of the premises at the outset, and no disqualifying characteristics in section 4(2) apply at that time, but that use changes (even without any change to the disqualifying characteristics in section 4(2))  it would appear that the Act could cease to apply.

Premises fall out of the Act then back into the Act

If a change in circumstances may result in a lease falling out of the Act, there does not seem to be anything in the Act that would preclude a change back to the original circumstances resulting in the lease falling back into the Act.

Falling in and out of the Act

If a lease can fall in and out of the Act, it may be very unclear whether, at any particular point in time, the lease is in or out of the Act. This may depend on a number of factors including the amount of occupancy costs and the particular use being made of the premises at the relevant point in time. 

In addition, even if it can be determined whether the Act does or does not apply at any point in time, the consequences may be unclear, including in relation to recovery of costs, the landlord's maintenance obligations and the effect of ratchet clauses in rent review processes undertaken when the Act did not apply, but referable to periods when the Act did apply.

What should landlords do?

The Act is intended to provide protection to tenants and has a cost impact for landlords. A landlord should do what it can to preclude the Act from applying to the relevant lease at the outset, so that it never applies. If the Act applies at the outset, then ceases to apply, a landlord should ensure that in administering the lease, the burdens of the Act do not continue to apply.

Permitted use

Where possible, a lease should include a provision prohibiting the tenant from using the premises in a manner which would result in the premises being "retail premises" under the Act.

Negotiation of leases

In negotiating leases, where commercially possible, landlords should always include a treatment of relevant issues which assumes the Act will not apply (eg. tenant required to pay land tax, ratchets in rent review clauses etc.). To the extent the Act applies, any such clauses could not be enforced.

However, if the Act applies at the outset, but subsequently does not apply, then clauses which could not be enforced initially will become enforceable.

Pursuing enforcement

There may be circumstances where landlords have not enforced rights against tenants in the mistaken belief that the Act precluded them from doing so, just because the Act applied at the outset. 

The most obvious example is requiring tenants to pay amounts for land tax which, particularly in larger leases, could be very significant. Other amounts might include capital costs, depreciation, contributions to a sinking fund and rent payable under a head lease.

There may be some adverse consequences for landlords, including in relation to capital works, where a lease falls out of the Act for a period, then back into the Act. A landlord may suddenly have an obligation to maintain parts of the premises to their condition at the outset, when it had not done so for a long period.

The precise consequences will depend on a number of issues including the terms of the lease in each instance, the conduct of the parties and statutory limitations on instituting enforcement proceedings. However, the consequences could be very significant.