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Western Australian Student Law Review |
UNFAIR TERMS IN STANDARD FORM COMMERCIAL LEASES: A CASE STUDY
RUTH KOOY[*]
Unfair Contract Terms—Small Business—Consumer Law—Commercial Lease Agreement—Standard Form Contracts
In 2016, the Australian Consumer Law was amended to introduce protections to small businesses against unfair terms in standard form contracts. This includes commercial lease agreements, where standard form contracts are often used to the advantage of a landlord with stronger bargaining power. Despite the risk of unfair terms now ultimately being declared void, landlords continue to maintain and rely upon such terms in their dealings with tenants. This article contends that this is particularly unfavourable to small businesses that may have limited resources to seek advice regarding the terms of their lease, let alone dispute such terms. The article considers a standard form commercial lease as a case example to explore whether some of its terms may be void under the new legislation. It focuses on terms that arise most commonly in such leases, being terms regarding exclusion of liability, rent reduction and default.
Traditionally, courts have refused to intervene in contracts that are substantively unfair yet otherwise validly formed.[1] This is due to the principle of ‘freedom of contract’, the concept that parties are and should be free to contract on whatever terms they wish. However, the principle wrongly assumes that contracting parties always have equal bargaining power.[2] Lease agreements offered to tenants on a ‘take-it-or-leave-it basis’, with little room for negotiation, are often used to the advantage of landlords with stronger bargaining power.[3] This is evident particularly in relation to standard form commercial leases of spaces within large shopping centres or plazas. The weaker party, in need of premises for conducting their business, is for various reasons[4] more or less subjected to the terms of the landlord and often equipped with only a superficial understanding of the potential consequences of those terms.[5] In recognition of the vulnerability of small businesses in such circumstances, the Treasury Legislation Amendment (Small Business and Unfair Contract Terms) Act 2015 (Cth) (‘UCT Legislation’) introduced certain protections to the Australian Consumer Law[6] on 12 November 2016. Subsequently, the States and Territories agreed to pass mirroring legislation to ensure a nationally consistent consumer protection regime.[7] It is argued, however, that landlords can maintain and rely upon unfair terms in their dealings with tenants, despite the risk of those terms now ultimately being declared void by a court.[8] This is particularly unfavourable to small businesses that may have limited resources to dispute certain terms. The article will illustrate this issue by analysing existing terms in a chosen standard form commercial lease (‘Lease’)[9] that are arguably void under the UCT Legislation. It will focus on terms considered to most commonly arise in such leases, being terms regarding exclusion of liability, rent reduction and default.
To be entitled to the protection of the UCT Legislation, a small business must satisfy a court that their lease is both a ‘small business contract’[10] and a ‘standard form contract’.[11]Any term of that lease will then be void to the extent that it is ‘unfair’.[12]
In the context of a tenant challenging their lease, a term will be ‘unfair’ if: (a) it would cause ‘a significant imbalance’ in the rights and obligations of the tenant and landlord; (b) the term is ‘not reasonably necessary’ to protect the landlord’s legitimate interests; and (c) the term would cause detriment to the tenant if it were relied upon.[13] In determining whether a term is unfair, the court is required to give consideration to the transparency of the term and the contract as a whole.[14]
This case study describes and considers a standard form Lease offered by a landlord who owns and manages multiple shopping complexes and can therefore be reasonably assumed to have considerable market share and experience. The tenant is a small business retail shop occupying premises within one of the landlord’s shopping complexes.
Under the Lease, the tenant is unable to ‘claim any compensation or abatement of rent’ for any inconvenience or damage caused by the exercise of the landlord’s powers.[15] These powers include the power to, among other things:[16] (1) make changes to the building as the landlord decides;[17] (2) create an easement over the tenant’s premises for certain purposes;[18] and (3) close or use the common parts to the exclusion of the tenant ‘from time to time’.[19]
The term appears to create a significant imbalance in the parties’ rights by requiring the tenant to assume all risk in relation to circumstances the tenant does not control, and in which the landlord is in a stronger position to mitigate the risk.[20] The tenant has no corresponding rights by which the tenant may terminate the Lease or request a rent reduction if the landlord causes disruption to the tenant’s premises or the business, regardless of the extent or duration. The only right of the tenant is an abatement of rent when the premises are destroyed and unfit for occupation or use.[21] The significant imbalance is further illustrated by comparing the effect of the term in the Lease with the effect it would have without it.[22] Without the term, the tenant would be entitled to compensation if the landlord acted negligently when using its powers.
It may be within the landlord’s legitimate interests to limit its liability when exercising its powers for the benefit or safety of all premises, despite resulting inconvenience to a tenant. For example, there may be situations in which the landlord wishes to renovate or restore the exterior of the building to enhance its visibility or attractiveness, and thereby benefit the shopping complex as a whole. Making permanent changes to the exterior of a building could no doubt result in inconvenience or damage to a tenant. For example, on one end of the scale, it could result in unwelcome noise, dust or mess that affects the tenant’s business. On the other, the building may be changed in a way that severely limits customer access or visibility of the tenant’s business. Despite this, it is likely to be in the landlord’s long-term interests to renovate or make other changes to the exterior from time to time. Given the large number of premises the landlord is responsible for managing, it may be within the landlord’s interests to restrict their liability to some extent in such situations. A limited liability clause therefore has the benefit of allowing the landlord the freedom to make beneficial or necessary alterations without being subjected to claims from every affected tenant.
However, this term in the Lease is broad in that it is not limited to situations in which the landlord exercises their power for the benefit or safety of all premises. The landlord may cause inconvenience or damage merely for reasons relating to the landlord’s own profit, which are not legitimate interests in this context.[23] Further, the term means that the landlord is absolved of all liability even when the landlord is at fault or is negligent. Nor is there any limit on the extent, duration, or frequency of such inconvenience or damage. A requirement that the landlord take ‘all reasonable steps to minimise disruption’ exists only in relation to one of the landlord’s powers.[24] There is no requirement of notice to the tenant. For these reasons, the clause arguably goes beyond what is reasonably necessary to protect the landlord’s legitimate interests. The term is overly broad, allowing the landlord to cause virtually any level of detriment to a tenant’s business and for any reason without compensating the tenant, and protecting the landlord in circumstances where the landlord is solely at fault or negligent.
The Lease provides that the tenant is ‘not by any act, deed, failure, or omission, to impair, reduce, or diminish, directly or indirectly, the Rent’.[25] Yet a five per cent annual rent increase on each rent review date is also imposed.[26]
The term arguably creates a significant imbalance as it prevents the tenant from requesting a rent reduction regardless of any factor arising from or external to the Lease. While the landlord similarly does not have the right to increase the rent based on such factors, the landlord does otherwise have the right to impose additional costs on the tenant under the Lease. Additional costs may be imposed through a number of clauses such as: (a) in respect of outgoings, where the landlord is entitled to ‘any other expenditure reasonably and properly incurred... in respect of the building’;[27] (b) in relation to insurance, where the landlord may request higher sums from the tenant in respect of any claim arising for any reason and require the tenant to insure against any other risks the landlord ‘may from time to time determine’ (and, arguably, therefore unilaterally vary the Lease);[28] (c) in respect of insurance from outgoings, where the landlord may at any time, exclude insurance premiums from outgoings;[29] and (d) in relation to rates and taxes, where the landlord may at any time exclude rates and taxes from outgoings.[30] Further, again, the tenant is limited in their options if suffering inconvenience or damage caused by the landlord. This term ensures that the tenant has no recourse by way of a rent reduction in these circumstances.[31]
Given the large number of tenants the landlord is dealing with at any one time, it may be that a clause limiting negotiations surrounding rent reduction is within the landlord’s legitimate interests. Such a clause limits the potentially significant costs and time involved in negotiating rent prices with each tenant. Despite this, the clause may go beyond what is reasonably necessary, as it does not allow for a rent reduction in any circumstance. There are a number of factors that may warrant negotiations surrounding rent reduction. These include, as discussed above, additional costs being imposed on the tenant under the Lease or inconvenience or damage being caused by the landlord to the tenant’s premises. Additionally, given the large market share of the landlord in comparison to the tenant, it may be reasonable to expect the landlord has adequate resources to negotiate a rent reduction with tenants in certain limited circumstances such as those discussed. The clause therefore potentially goes beyond what is reasonably necessary to protect the legitimate interests of the landlord.
Under the Lease, the landlord may terminate the Lease if rent or outgoings are unpaid for seven days, without notice to the tenant or demand for payment.[32] Additionally, clause 5.43 of the Lease allows for termination or any claim of damages by the landlord without any proof of default, continuance of default or notice.
The clauses give rise to a significant imbalance by providing the landlord with a broad power to terminate the Lease or claim damages without any prior warning to the tenant or providing the tenant with an opportunity to rectify the default, regardless of how trivial or unrelated to the loss suffered by the landlord.[33] Further, the tenant has no corresponding right to terminate or claim damages for breach.[34] In the one instance in which the tenant is able to terminate under the Lease (if the premises is ‘so destroyed ... as to be unfit for occupation and use and as to require rebuilding’),[35] the tenant is required to give notice to the landlord.[36] Further, the power of the landlord to recover damages without proof of any default by the tenant potentially allows the landlord to do so based on mere suspicions regarding a tenant’s default. Adding further to the imbalance is a potential lack of transparency.[37] Clause 5.43 of the Lease, while also relating to default, appears four pages later in the Lease, rather than immediately following the default clause. The clause is somewhat hidden amongst other unrelated provisions, and may therefore make it more difficult for the tenant to fully comprehend the limitation of their rights in relation to default under the Lease. This raises concerns regarding the transparency of the term, and potentially adds to the unfairness of the term.
A clause allowing the landlord to terminate without notice or continuance of default may be argued as being reasonably necessary for a landlord managing such a large number of premises. Such a clause would prevent the landlord from expending resources to send multiple default notices or pursue and monitor every defaulting tenant. Whether this would involve the use of fewer resources than sending termination notices, pursuing tenants for the amounts owing under the Lease and finding a new tenant for the premises may, however, be arguable. A clause allowing for termination or claim of damages without proof of a default may also be reasonably necessary in this context. This would limit the resources the landlord is required to expend in providing adequate proof of a default to every defaulting tenant.
On the other hand, the clause arguably goes beyond what is reasonably necessary to protect the landlord’s legitimate interests. The clause allows the landlord to enforce a termination or receive damages at the first instance of a tenant’s default. This is irrespective of whether the landlord has in fact suffered any resulting loss or expenses from the initial default. This exceeds what is reasonably necessary as the tenant, upon notice or demand, may be able to remedy the default before any significant loss or damage results. This is evident particularly in relation to non-payment, as the landlord also has a right to compensation on demand for unpaid moneys after seven days.[38] For this reason, it may be argued that the sending of a default notice prior to termination is more likely to be in the landlord’s legitimate interests. This may be even more so when considering the argument made above regarding the resources required to terminate a lease. Additionally, a landlord with a large market share is likely to have adequate resources to send default notices prior to termination of a lease. This further reinforces the conclusion that the clause goes beyond what is reasonably necessary.
It has long been recognised that commercial tenants need protection in respect of unfair lease terms and other harsh and opportunistic conduct by landlords, particularly when it comes to leases situated in large shopping centres.[39] While the new UCT Legislation helps to provide greater protection for tenants against unfair lease terms to an extent, its practical utility is clearly limited. Each of the terms discussed goes beyond what is reasonably necessary to protect the interests of the landlord and therefore appear likely to be declared void if they were to be challenged in court. However, achievement of this outcome requires the resources to pursue litigation, which small business tenants are unlikely to have. Arguably, therefore, the unfair terms can be maintained in the lease without any likely consequence for the landlord. Further, even if litigation is pursued by a tenant, the worst potential outcome for the landlord is that the term is declared void (and so cannot be enforced by the landlord in relation to the lease subject to the litigation),[40] with an order made to pay the costs of the litigation for both parties. Yet the landlord cannot be subjected to any additional penalty. The Australian Competition and Consumer Commission (‘ACCC’) also recently identified both these issues—the fact that unfair terms are not prohibited and the lack of availability of pecuniary penalty—as the two biggest limitations to the current UCT regime.[41]
One potential solution is to make unfair terms illegal rather than merely capable of being declared void. This would mean that unfair terms would be prohibited from being included in a standard form contract at all. In the context of commercial leases, penalties and infringement notices could then apply whenever unfair terms are included in the landlord’s standard form contract. Arguably, landlords would then be better dissuaded from including potentially unfair terms. Further, landlords could be held accountable for prior conduct, and therefore would not have the option of simply changing an unfair term in the lease whenever contacted by the ACCC.[42]
Clearly, this puts an additional burden on landlords, who would be required to seek legal advice on the fairness of the terms in their standard form contracts prior to entering into them, or otherwise risk a penalty. For this reason, it is recommended that this solution is accompanied by an effort to further clarify the concept of unfair terms in small business contracts, in general and in the specific context of commercial leases. So far, there has only been one judgment handed down on the UCT Legislation as it applies to small businesses.[43] It is recommended that the ACCC take a more aggressive approach in the area of UCTs in which a greater number of test cases are taken to court to generate a body of common law precedent. This would then aid in providing greater clarity for tenants and landlords regarding their rights and obligations under the UCT Legislation.
This article has considered a standard form commercial Lease as a case example to explore whether some of its terms may be void under the UCT Legislation. It was found that there are strong grounds for arguing that each of the terms, regarding exclusion of liability, rent reduction and default, are ‘unfair’. One issue that becomes evident is that the UCT Legislation does not prevent a landlord from maintaining unfair terms in a lease. Given that small businesses are likely to have either a vague understanding as to which terms in their leases may be deemed unfair, or have limited resources to seek advice in relation to this, it is questionable as to what extent the UCT Legislation does actually provide protection for small businesses in practice. It was recommended that the inclusion of unfair terms in standard form contracts should be prohibited in order to provide a greater incentive for landlords to ensure their lease terms are fair. It was also recommended that the ACCC adopt a more proactive approach in regard to enforcement of the UCT Legislation to provide greater clarity for tenants and landlords on their rights and obligations. Implementing these recommendations will go a long way toward correcting the current imbalance of power between retail landlords and tenants.
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[*] Ruth Kooy is a final year law student at Curtin University.
[1] Jeannie Paterson, ‘The Australian Unfair Contract Terms Law: The Rise of Substantive Unfairness as a Ground for Review of Standard Form Consumer Contracts’ [2009] MelbULawRw 32; (2009) 33(1) Melbourne University Law Review 934, 937.
[2] Alexandra Sims, ‘Unfair Contract Terms: A New Dawn in Australia and New Zealand?’ [2013] MonashULawRw 24; (2013) 39(3) Monash University Law Review 739, 749–51.
[3] Friedrich Kessler, ‘Contracts of Adhesion—Some Thoughts About Freedom of Contract’ (1945) 43(1) Columbia Law Review 629, 632; Brendan Edgeworth et al, Sackville & Neave: Australian Property Law (LexisNexis Butterworths, 9th ed, 2013) 692.
[4] Kessler, above n 3, 632. Prospective retail tenants are unable to ‘shop around’ for different or better contract terms as often the terms used by competitor landlords will be either the same or very similar. Further, particularly in relation to larger, more desirable shopping centres, there are generally multiple prospective tenants competing over limited space. It is therefore the landlord that has the pick of a larger pool of tenants that are in need of a viable space to conduct their business. Adding to this imbalance is the fact that small business owners are likely to forgo obtaining legal advice on the terms of the lease in order to cut costs. See, eg, Eileen Webb, ‘Considering Unfairness in Retail Leases—A Bridge Too Far or Justifiable Extension?’ (2010) 19(1) Australian Property Law Journal 58, 67, 73.
[5] Ibid.
[6] The Australian Consumer Law (‘ACL’) is contained in Sch 2 of the Competition and Consumer Act 2010 (Cth).
[7] Council of Australian Governments, Intergovernmental Agreement for the Australian Consumer Law (2009) cl 3.2.
[8] ACL s 23(1).
[9] The lease the subject of this article cannot be identified with further specificity for confidentiality reasons.
[10] ACL s 23(4). A contract is a small business contract if one party to the contract, at the time it was entered into, is a business that employs less than 20 people and the upfront price payable is under $300,000, or, alternatively, under $1,000,000 if the contract is longer than 12 months.
[11] Ibid s 27. A contract is presumed to be a standard form contract if so alleged, unless it is proved otherwise. In determining whether a contract is standard form, the court must consider the factors set out in s 27(2): the difference in bargaining power between the parties; whether one party prepared the contract before discussing the transaction; whether one party was required to either accept or reject the terms of the contract; whether an opportunity to negotiate the terms was given to the other party; and whether any terms within the contract take into account particular characteristics of the other party or transaction.
[12] Ibid s 23(1)–(2).
[13] Ibid s 24(1).
[14] Ibid s 24(2).
[15] Lease [3.44].
[16] Ibid [1.1], defining the ‘Lessor’s powers’ as ‘all rights and powers in favour’ of the Landlord contained or implied in the Lease.
[17] Ibid [5.34].
[18] Ibid [5.25].
[19] Ibid [5.26].
[20] Australian Competition and Consumer Commission v JJ Richards & Sons Pty Ltd [2017] FCA 1224, [56].
[21] Lease [5.6].
[22] Australian Competition and Consumer Commission v CLA Trading Pty Ltd [2016] FCA 377, [66].
[23] Australian Competition and Consumer Commission v JJ Richards & Sons Pty Ltd [2017] FCA 1224, [58].
[24] Lease [5.34].
[25] Ibid [3.50].
[26] Ibid [5.48].
[27] Ibid [1.1].
[28] Ibid [3.40(a)(ii)], [3.40(v)].
[29] Ibid [5.14].
[30] Ibid [5.13].
[31] Australian Competition and Consumer Commission v JJ Richards & Sons Pty Ltd [2017] FCA 1224 [56(b)].
[32] Lease [5.2(a)].
[33] Australian Competition and Consumer Commission v CLA Trading Pty Ltd [2016] FCA 377 [70].
[34] Ibid [73].
[35] Lease [5.9].
[36] Ibid, providing that the tenant is required to give notice within six months of the premises being destroyed.
[37] Australian Competition and Consumer Commission v Chrisco Hampers Australia Limited [2015] FCA 1204, [72]–[73].
[38] Lease [3.4].
[39] See The House of Representatives Standing Committee on Industry, Science and Technology, Parliament of Australia, Finding a Balance—Towards Fair Trading In Australia (1997) (‘Reid Report’) ch 2 [1.4]. See also Elisabeth Ahlinder, ‘Business Tenant Protection—For Whom? For What? How? Security of Tenure within UK, Swedish and Australian Law’ (2017) 26(1) Australian Property Law Journal 159, 159; Neil Crosby, Sandi Murdoch and Eileen Webb, ‘Landlords and Tenants Behaving Badly? The Application of Unconscionable and Unfair Conduct to Commercial Leases in Australia and the United Kingdom’ (2007) 33(1) University of Western Australia Law Review 207, 208.
[40] Brooks v Burns Philp Trustee Co Ltd [1969] HCA 4; (1969) 121 CLR 432.
[41] Rod Sims, ‘Major Changes Needed to Get Rid of Unfair Contract Terms’ (Speech delivered at COSBOA National Small Business Summit, Sydney, 31 August 2018) <http://www.accc.gov.au/speech/major-changes-needed-to-get-rid-of-unfair-contract-terms> .
[42] Ibid.
[43] Australian Competition and Consumer Commission v JJ Richards & Sons Pty Ltd [2017] FCA 1224.
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