Are you frustrated? What does COVID-19 mean for your lease?

The Australian Government's closure of non-essential services in response to the worldwide outbreak of COVID-19 will have far-reaching consequences for businesses throughout Australia. While urgent legislation on tenancy rights and responsibilities is being debated in Parliament, with implementation in each jurisdiction to follow, a key issue arising for both landlords and tenants is whether a lease is frustrated if a tenant is unable to use their leased premises for its intended purposes.

Doctrine of frustration

In response to the current pandemic, the Australian Government mandated closure of certain businesses including cinemas, theatres, pubs, galleries, museums, beauty parlours and salons, gyms and other "non-essential" industries. In the absence of an express right under a lease (for example a clause allowing for rent abatement or a force majeure clause), landlords and tenants alike are turning their minds to whether their lease can be frustrated if the tenant is unable to trade or use the property for the purpose intended, and permitted, under the lease.

In general, the common law doctrine of frustration brings a contract to an end where, through no fault of the parties, a post-contract event has either made contractual obligations impossible to perform or it fundamentally transforms an obligation into a radically different obligation.

Can a lease be frustrated?

The history of frustration and its applicability to leases is complicated: frustration has proven difficult to establish and is relatively narrow in scope. Whether a lease can be frustrated depends on the nature of the business, and the purpose of the business' use of the premises.

Case law indicates however that a temporary or transient change generally will not be sufficient to frustrate a lease. Courts have also been reluctant to take hardship into consideration. Although the applicability of frustration to leases remains relatively untested in Australian case law, it is an area which is likely to see significant development should forced closures become protracted.

The onus of proving that the lease has been frustrated clearly rests with the party (landlord or tenant) seeking to excuse themselves from performance under the lease. 

Closure, partial trading and working from home

We are increasingly seeing arguments for frustration where a business has been forced into circumstances of partial trading. A situation where this may arise could be a restaurant which has been mandated to close its doors to patrons, however still offers take-away from the premises.

An argument for frustration in the case of a partial rather than a total shutdown of the provision of goods and services is relatively weaker. In the case of a restaurant for example, the provision of food to customers, whether this is by means of takeaway rather than dine in services, is not a fundamentally different obligation or impossible to perform.

In general, if a business continues or is able to continue to use the premises, and/or is operating from the premises, then a successful argument for frustration is highly improbable.  

We are also seeing many businesses continuing to operate while encouraging their employees to work remotely. The physical workplaces of many private offices, including legal firms for example, are closed as a result of COVID-19, however many of these businesses continue to provide services to their clients with their employees working from home. Despite the physical premises being unable to be used, there is evidently no frustration of the lease as the business continues to operate.

As a tenant seeking to rely on the doctrine of frustration, you should first assess your business's ability to operate from the premises and whether or not you are still able to sell goods or provide your services by alternative means. If you are still operating, or are able to operate, all or part of your business, or if you are still advertising your services, then it is unlikely you will be able to claim frustration of your lease. Tenants in this situation still have an obligation to pay rent as well as any other monies due and payable under the lease (unless an express provision in the lease or Government intervention determines otherwise).

If the tenant can no longer operate its business from the premises, for example a cinema, the tenant would be in a stronger position to claim that the lease is frustrated. This too will depend on the length of the mandatory closure.

As a landlord with a tenant claiming the lease is frustrated, you should consider if the tenant's business relies solely on operating from the premises or if the business can still operate, albeit partially, with employees working remotely or with reduced services.

What are the consequences of frustration?

Where frustration does apply, the lease will be automatically terminated at law upon the occurrence of the frustrating event.

In the ACT, Northern Territory, Queensland, Tasmania and Western Australia where the common law applies, the obligations of all parties under the lease will cease. This includes the payment of rent and outgoings (if any). New South Wales, South Australia and Victoria all have legislation outlining the process.

Lease termination may result in harsh financial impacts on both the tenant and the landlord, and parties should review their financial and economic situations, including in relation to insurance, in case such a situation arises.

Summary

Arguing frustration of your lease should be a last resort for tenants; tenants should first review their lease agreements to ascertain their rights and obligations in circumstances where a tenant can no longer, or only partially, operate from the premises for the purpose permitted under the lease.

If a lease is frustrated greatly depends on the terms of the lease. Parties should consider whether or not the tenant can still operate its business, whether in a reduced or changed form from the premises, or with employees operating from home. Where business premises are permanently closed and without any options for partial closure or to continue business via alternative means, there may be an argument for frustration. Whether these business closures are temporary or will be protracted is yet to be seen – landlords and tenants should keep a close eye on developments over the next couple of weeks. If the Government extends mandated shutdowns, then it is conceivable that courts may grant this unusual relief.

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