Options to renew are common in both retail and commercial leases, to provide the Landlord and the tenant with the opportunity to extend the term of the lease without the need to renegotiate a majority of the terms.
However, in preparing a formal Lease with an option to renew or in exercising it, there are important factors that must be considered under legislation or commonly found in leases.
- Exercise of Option – the Process
Leases with an option to renew should specify a specific time period within y which a party must exercise their option. This might be the latest date by which the tenant must exercise their option or lose the right to do so completely (e.g. no less than 6 months prior to the expiry of the initial term of Lease) or a range of earliest and later dates within which the tenant must exercise their option (e.g. no earlier than 6 months prior but no later than 3 months prior to the Lease’s expiry).
As with all notices between parties of a Lease, a notice to exercise the option to renew a lease must be made in writing, to the address for the Landlord as provided by the Lease. Failure by the tenant to exercise their option before expiry of the option date will have severe consequences, as the Landlord will have no obligation to accept a renewal request made outside of the exercise date.
Under the Retail Shop Leases Act 1994 (Qld), a Landlord is required to remind its tenant, in writing, at least 2 months prior, but no later than 6 months before the option date, as stated in the lease.
- Exercise of Option – the Pre-Requisites
Once the option is exercised, the terms of the Lease for the extended term will mostly remain the same. However, there may be several key obligations under the Lease to be completed or rental to be assessed including:
- Redecoration: tenants are often required to periodically redecorate or renovate their Premises, usually triggered near the end of each term.
- No defaults: while the Landlord will not be able to decline a validly exercised option to renew, the tenant must ensure that they do not default on the lease, prior to or after their option exercise. This includes payment of all rent and outgoings up to date as well as evidence of insurance renewal certificates;
- Rent Review: leases generally require an annual review of rent under a fixed percentage increase or CPI review. In a new term, a market rent review is favoured, where the landlord will reassess the rent against the market value. Market review clauses will often contain mechanisms to resolve disputes regarding the assessed rent, for the market rent to be assessed by an independent valuer if the tenant does not agree with the initial rent review. Such mechanisms for disputes are required for Retail Shop Leases under the Act, regardless of the Lease’s provisions. It is much better for th etenat to have received notice of the market rental from the landlord as required under a lease, prior to the date for having to decide whether to renew the lease or not.
The timing of the market rent review should also be noted, to ensure that disputes regarding market rent do not delay the renewed term of the Lease.