Landlords and tenants need to watch out in dealing with lease incentives following the recent Supreme Court of Queensland decision of GWC Property Group Pty Ltd v Higginson & Ors [2014] QSC 264.

Incentives

The granting of incentives by landlords to attract tenants is common in the leasing market. Incentives can be structured in various ways including:

  • contributions to the tenant’s fit out (often with the fit out to be owned by the landlord);
  • rent free periods; and
  • rent abatement over part or all of the lease term.

From a landlord’s perspective, incentives are often granted on the commercial basis that the tenant will comply with the terms of the lease and be in occupation for the whole of the lease term. Arising from that approach it is common for landlords to require a claw back provision which provides a formula for repayment of part of the incentive if the lease is terminated by the landlord prior to the expiry date.

The tenant’s perspective can differ from the landlord’s, as the tenant may see the incentives as more of a threshold payment to attract it to initially enter into the lease.

Often the incentive and claw back provisions are in an incentive deed separate from the lease.

What were the facts?

The key facts of the case were:

  • there was a separate lease and incentive deed;
  • the incentive deed contained claw back provisions relating to incentives;
  • the obligations of the tenant to make payments under the claw back provisions were guaranteed by guarantors (with a related indemnity in favour of the landlord);
  • the incentives were a fit out contribution, a rent abatement over the first 3 years of the lease and a signage fee abatement over the same 3 year period; and
  • the lease was terminated by the landlord and it sued the guarantors for payment under the claw back provisions.

What did the Court decide?

The Court decided that:

  • the claw back provisions were a penalty and were not enforceable;
  • those provisions provided for significant sums to be paid over and above damages payable at common law; and
  • the landlord’s remedy was for common law damages under the lease and guarantees under the lease (and that these rights were preserved by the claw back provisions).

The case did involve some particular facts, that may affect the application of the case, including:

  • the landlord that brought the proceedings was not the original landlord. The fit out contribution had been paid and the allowances for the rent and signage fee abatement had already been made by the original landlord. If the landlord had been successful in the case it might have been seen as receiving a free kick payment given it did not initially make the incentive payments; and
  • the claw back provisions for the rent and signage fee abatement provided for the total of the abatement amounts to be paid by the tenant to the landlord (not just a proportional amount based on a formula taking into account the period that the lease was terminated prior to the expiry date).

What now?

Landlords and tenants will need to consider:

  • how leasing documents deal with the payment of incentives and deal with what is to occur in relation to incentives already paid to the tenant if the lease does not run for its full term; and
  • if the usual lease provisions dealing with the landlord’s right to damages on termination of the lease and indemnities in favour of the landlord adequately protect a landlord if claw back provisions are not included in incentive deeds.

The Court’s decision in striking down claw back provisions as penalties supports a position for tenants to argue that those provisions, although usually sought by landlords, are also not commercially appropriate as upfront fit out contributions and rent free periods are often simply what a landlord needs to offer to attract a tenant to enter into a lease.