Red flags in a commercial lease

The red flags in a commercial lease are the clauses that shift cost and risk to the tenant without a clear limit. The most common are rent reviews that can only go up, outgoings with no cap or definition, unlimited personal guarantees, wide make good clauses and termination rights that favour the landlord. Many can be negotiated before you sign, if the landlord agrees to change the wording.

Rent and rent reviews

• Ratchet clauses. A clause saying the rent can’t go down at a market review means you can end up paying above market. Ratchets are void in retail leases in most states, but not in general commercial leases.
• Two methods at once. A clause that applies whichever is higher of CPI or a fixed percentage increases the rent faster than either alone.
• Market reviews on an option. If the rent resets to market when you exercise an option, you may not know the rent until after you are committed.

See rent review clause explained for how each method works.

Outgoings

• No definition. If “outgoings” isn’t defined, or includes “any other costs the landlord incurs”, you can’t predict what you will pay.
• Capital costs. Watch for repairs to the structure, replacing plant such as air conditioning and lifts, or building upgrades passed on as outgoings.
• Land tax on the full land value. In a general commercial lease, land tax is often recoverable, and can be charged as if the property were the landlord’s only land. That can be much higher than the landlord’s actual bill.
• No estimate or statement. Retail leases Acts usually require an estimate each year and an annual statement of the actual costs. A general commercial lease may not, so it is worth asking for them.

Security and guarantees

• Unlimited personal guarantee. A guarantee from the directors that covers everything, for the whole term and any option, with no cap.
• Guarantee that continues after assignment. If you sell the business and assign the lease, you may still be liable for the new tenant.
• Large bank guarantee. Security of several months’ rent, with no right to have it reduced or returned promptly at the end.

Use, fitout and make good

• Narrow permitted use. If the permitted use is too narrow, you can’t change your products or services, and assigning the lease to a buyer gets harder.
• Make good to base building. A clause requiring you to strip the premises back to a bare shell, even if they were fitted out when you moved in. See the make good clause guide.
• Landlord approval with no limits. Fitout, signage and changes that need the landlord’s consent, with no obligation for the landlord to act reasonably or promptly.

Found one of these in your lease? We check the lease as part of our lease review and tell you what to ask the landlord to change. Have your lease reviewed.

Term, options and ending the lease

Costs and incentives

• Landlord’s legal costs. A clause making you pay the landlord’s costs of preparing the lease. In most states this is not allowed for retail leases.
• Incentive clawback. A rent-free period or fitout contribution that you must repay if you assign the lease or the lease ends early.
• Interest and fees. High default interest, or fees for each consent you ask for.

What to do if you find red flags

Write down the clauses that worry you and what you would like instead. Raise them with the landlord or agent before you sign anything, including a heads of agreement, as some terms are hard to change later.

You won’t get every change you ask for. Focus on the clauses that could cost you the most, usually the rent review, outgoings, guarantee and make good.