An option to renew a lease for a further term is a common feature in commercial and retail leases.
But if you are a landlord and you have not had to manage an option to renew process in a while, here are some key considerations.
What is an option to renew?
An option to renew is the tenant’s right to require the landlord to grant the tenant a new lease when the existing lease expires. The lease will usually provide that the new lease will be on the same terms as the existing lease, except that the rent will be reviewed in accordance with the rent review mechanism in the lease.
What should a landlord do when a tenant gives notice exercising an option?
Firstly, carefully review the option clause in the lease to see what the tenant is required to do to validly exercise the option. Secondly, consider whether you want to grant a new lease for the further term and whether you have rights to refuse the option.
Options can fail on a technicality. If a landlord would prefer not to grant a new lease for a further term, the landlord must ensure that it does not, by its conduct or other dealings with the tenant, end up accepting what would otherwise be an invalid exercise of the option to renew. The following should be considered by the landlord before any reply is given to the tenant:
- Has the tenant missed its option exercise window?
The lease will stipulate a period within which the option may be exercised. Strictly speaking, if the tenant does not exercise the option within the specified period, the option lapses. However, the requirement for the tenant to exercise the option on time may be inadvertently waived if the landlord has indicated by words or conduct that the option can be exercised out of time. If the tenant’s notice is out of time and the landlord does not want to grant a new lease, the landlord should seek advice before responding to the tenant.
- Is the notice unconditional?
The tenant’s notice must be clear and unconditional. If the tenant’s notice is conditional (for example, the tenant advises that it is exercising the option but only if the landlord agrees to do certain refurbishment works), the tenant’s notice may not be a valid exercise of the option.
- Has the notice been properly served?
Leases usually contain technical requirements about who can sign notices on behalf of the tenant, where notices need to be served, and how notices need to be served (by post, by fax, by email etc). If the tenant has not complied with the technical requirements in the lease, a landlord may be able to argue that the notice of exercise of option was invalid. Advice should be sought by a landlord before it relies on this to refuse the further term.
- Is the tenant in breach of the lease?
It is common for leases to say that if at the time the tenant’s notice of exercise of option is served the tenant is in breach of the lease, the landlord may refuse the further term.
Landlords should however check the relevant legislation in the state the premises are located, to see if there are any legislative requirements before refusing the further term due to the tenant’s breach. For example in Queensland, under section 128 of the Property Law Act 1974 (Qld) the landlord must serve a prescribed notice on the tenant within 14 days of the date of receiving the tenant’s notice of exercise of option. The landlord’s prescribed notice must specify the tenant’s breach and confirm that the landlord intends to rely on that breach as the basis for precluding the tenant’s option. The tenant then has one month to seek an order from a court to allow the option, despite the tenant’s breach. A landlord’s failure to comply with section 128 of the Property Law Act 1974 (Qld) could result in the landlord having to grant a new lease for the further term despite the tenant’s breach.
- Are there extra obligations on landlords if the lease is covered by the retail shop leases legislation?
If the lease is subject to the retail shop leases legislation in the State where the premises are located, there may be additional obligations that landlords need to comply with in relation to options to renew.
For example, in Queensland under the Retail Shop Leases Act 1994 (Qld) (RSLA):
- landlords must notify the tenant in advance of the last date to exercise the option
- within seven days of receiving the tenant’s notice of exercise of the option, the landlord must issue a lessor disclosure statement. The tenant then has a period to decide whether to withdraw the tenant’s exercise of option
- if the lease includes a market rent review for the first year of the option term, the tenant has the ability to ask for the market rent to be determined early and may get additional time to exercise the option.
Options to renew can be a tricky area for both landlords and tenants. If you are unsure of your rights, seek advice before taking steps in the option to renew process.
Recent cases relating to option clauses in leases:
Tripple A Pty Limited v WIN Television Pty Ltd –  QCA 246
Kegran Pty Ltd v Warrik Pty Ltd  NSWSC 1357
Authors: Katie Miller & Sandra Hollingsworth
Katie Miller, Partner
T: +61 7 3135 0606
Lisa Cody, Partner
T: +61 3 9321 9872
Lindsay McGregor, Partner
T: +61 2 8083 0459
The information in this publication is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, we do not guarantee that the information in this newsletter is accurate at the date it is received or that it will continue to be accurate in the future.