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Coronavirus Pandemic: Australian Federal Government Announces Mandatory Code of Conduct for SME Commercial Tenancies

In Short

The Situation: The Australian Federal Government announced a mandatory code of conduct ("Code") to regulate the complex arrangements that have arisen between commercial landlords and small to medium-sized enterprise (SMEs) tenants affected by COVID-19.

The Result: The Code provides a measure of rental relief to cash strapped commercial tenants that have an annual turnover of up to $50 million and who are eligible for the Commonwealth Government's JobKeeper programme. The measures include restrictions on terminations of leases, waivers and deferrals of rental payment obligations, extensions of leases and binding mediation processes.

Looking Ahead: Whilst the Code provides welcome relief to SMEs who are most at risk of not being able to withstand hibernation, it does not address how the deferred rental payments will be dealt with in the long term when companies emerge from hibernation, heavily laden in debt and in a world where consumer confidence will continue to affect revenue for some time after hibernation. We consider that further amendments will likely be necessary to Australia's insolvency legislation (in addition to the temporary measures recently introduced under the Coronavirus Omnibus Act), to provide a regime which can best address the difficulties that will be faced by SMEs and larger corporations post-hibernation. Such amendments have recently been announced by New Zealand which we have been summarised in a separate Commentary.

In the recent weeks, in response to the disruption caused by the coronavirus pandemic, and the rapid transition into a state of hibernation for many businesses, the Australian Federal Government has been working on a code to provide relief to commercial tenants. It was widely anticipated that the Code would ban all terminations of commercial tenancies and alleviate rental payment obligations for the near future, although the Australian Government recognised that such action would need to be balanced against the effect this would have on landlords.

On 7 April 2020, the wait was over and the Australian Federal Government's mandatory Code for commercial tenancies of small and medium-sized enterprises (SMEs) affected by the coronavirus was announced. The Code will be given legislative effect by each of the states and territories on a date to be identified by each of them, and will operate for the same period in which the Commonwealth JobKeeper programme remains in place (currently six months from 30 March 2020).

The Key Aspects of the Code

Who does the Code apply to? This Code applies to SME tenancies (that have an annual turnover of up to $50 million) that are suffering financial stress or hardship as a result of the COVID-19 pandemic as defined by their eligibility for the Commonwealth Government's JobKeeper programme.

Restrictions on terminations. The Code restricts the termination of leases due to non-payment of rent during the COVID-19 pandemic period or reasonable subsequent recovery period ("Pandemic Period"). Whilst this is not a blanket restriction on terminations of commercial tenancies during the Pandemic Period, it does address one of the main breaches likely to occur as a consequence of forced hibernation and isolation. Further, as a back stop to protect landlords, tenants will not have the benefit of the Code if they do not abide by the other substantive terms of their lease. This will likely exclude terms with respect to operating hours.

Waiver and deferral of rental payments. The Code requires landlords to offer tenants a reduction in rental payments in the form of waivers and deferrals of up to 100%, and restricts landlords from drawing upon any security (such as a cash bond or guarantee) to make up for the reduction.

The reduction must be proportionate to the reduction in the tenant's trade, assessed at the time that the assessment for eligibility for the Commonwealth's JobKeeper programme is undertaken. It's not yet clear whether the legislation will allow for a reviewed assessment as and when restrictions on trade and social gatherings are lifted. The proportionality requirement is designed with a view to sharing the burden of hibernation between landlords and tenants.

One of the key aspects of the Code is that it mandates that at least 50% of the reduced rent must be in the form of a waiver of rent. Further, additional waivers must be offered if the failure to waive rent would compromise the tenant's capacity to emerge as a going concern and fulfil their obligations under the lease agreement. However, there is some scope for landlords to avoid providing these waivers. The Code requires that regard be given to the landlord's financial ability to offer additional waivers above the 50% requirement, and tenants may agree to waive the 50% requirement. Waived rent cannot be recouped over the term of the lease.

The remainder of the rental reduction is to be deferred for at least 24 months. Rental deferrals are to be amortised over the balance of the lease term or for a period of no less than 24 months, whichever is the greater, unless the landlord and tenant otherwise agree.

The Code also requires landlords to agree to freeze any rent increases, and to pass on any benefits received due to deferrals of loan payments and reductions in statutory charges or insurance.

Extended lease terms. Tenants will have a right to extend their lease for a period equivalent to the rental waiver and/or deferral period provided to the tenant. This aspect seeks to "give back" to tenants the opportunity to trade from existing premises that was lost during the hibernation period.

Binding mediation. In the event that landlords and tenants cannot agree on suitable leasing arrangements during the pandemic period, the matter can be referred by either party to a binding mediation process provided under the applicable state or territory retail or commercial lease resolution processes.

Overarching principles. The Code also provides a series of principles to guide the conduct of landlords and tenants, such as an obligation to negotiate in good faith, to act in an open, honest and transparent manner and to provide sufficient and accurate information within the context of negotiations.

Consequences of failing to comply with the Code. Prime Minister Scott Morrison announced that a failure by landlords to comply with the Code will result in them losing access to concessions such as land tax or council rates relief or loan repayment holidays offered by banks, and in tenants being able to break the lease.

What about residential tenancies? The Code does not apply to residential tenancies. However, in late March 2020, the Australian Government announced that the states and territories have agreed to a six month moratorium on at least some evictions. The Australian Federal Government has indicated that it will leave it up to the individual states and territories to implement relief for residential tenants.

When does it take effect? The Code will be given effect through relevant state and territory legislation at a date to be identified by each of those states and territories. Whether the various states and territories will introduce their own additional measures, including with respect to residential tenancies, remains to be seen.

In the meantime, the Australian Government is encouraging landlords and tenants to negotiate a way forward. "The point here is simple that is they sit down and work it out", says Prime Minister Morrison. The Australian Government has also stated that it hopes banks will join in on the conversation and provide relief to landlords impacted by COVID-19. It is also expected that commercial tenants and landlords of larger corporations that do not have the benefit of the Code will be able to obtain relief and assistance from their financial institutions and investors.

Five Key Takeaways

  1. The Code applies to SMEs with an annual turnover of up to $50 million that are eligible for the Commonwealth Government's JobKeeper programme.
  2. Landlords cannot terminate commercial tenancies or draw on a tenant's security due to non-payment of rent during the COVID-19 pandemic and a reasonable subsequent recovery period.
  3. Landlords must offer affected commercial tenants reduced rental payment obligations in the form of waivers and deferrals. The reduction in rent is to be proportional to the reduction in trade being experienced by the tenant. Waived rent must make up at least 50% of the reductions in rent offered. Waived rent cannot be recouped by landlords during the term of the lease.
  4. Tenants will have a right to extend their lease for a period equivalent to the rental waiver and/or deferral period provided to the tenant.
  5. In the event that landlords and tenants cannot agree on suitable leasing arrangements during the pandemic period, the matter can be referred by either party to a binding mediation process.

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