Join Australia's most dynamic and respected property investment community

Getting the right balance – Exclusivity and permitted use clauses in your lease agreement

Discussion in 'Legal Issues' started by Ian Macleod, 18th Jan, 2016.

  1. Ian Macleod

    Ian Macleod Active Member Premium Member

    Joined:
    17th Dec, 2015
    Posts:
    27
    Location:
    NSW
    When you’re negotiating a retail lease or commercial lease, striking the right balance between your needs and those of your tenant can be challenging.

    A well worded permitted use clause balances your desire to maintain effective control over the premises and how they’ll be used against thetenant’s need for the opportunity to grow and expand their business.

    Here are some of the things to consider when negotiating yours.

    Why include a permitted use clause?
    One of the most straightforward clauses in your retail lease, a permitted lease clause sets out how the tenant is able to use the property – i.e. what activities they’re allowed to carry out at the premises during the term of the lease.

    Permitted use clauses define how a tenant may use a commercial or retail property.
    The tenant is obliged to abide by this clause. If they don’t, they risk breaching the lease and being issued with a default notice.

    Permitted use clauses are often used to avoid nuisance to neighbours, or inappropriate or harmful use of the premises. They may also be necessary because of the nature of the premises and/or they are required for compliance with regulatory restrictions like planning or zoning laws.

    As a landlord, it’s your right to make this clause as broad or specific as you wish.However, draft too broad a clause and you may find your premises being used in a manner you’re not comfortable with. Make it too narrow, and your tenant may find it difficult to expand and grow their business, making them reluctant to sign or continue the lease.

    A well drafted clause balances both parties’ needs, creating boundaries you need to protect your property, while allowing your tenant to adapt and expand their business as the financial and economic climate evolves.

    At the outset, you need to consider whether the clause:

    • Is broad enough to cover your tenant’s existing core business and ancillary activities
    • Allows for changes to the tenant’s core business or ancillary activities in the future.
    Mix of tenants
    If you’re the landlord of multi-tenanted premises, you need to consider your mix of tenants. Your permitted use clause must be broad enough to support your tenants’ existing and possible future activities, while ensuring the mix of tenant activities remains appropriate.

    For example, you may wish to draft a broad clause like ‘retail shop’. This would allow tenants to use the premises for any purpose, as long as that encompasses selling goods.

    However, such a broad clause may leave you with inadequate control if and when you’re confronted with a tenant operating in a manner incongruent to that of your other tenants – eg. an adults only store operating in the same premises as a children’s toys or clothing store.

    To avoid conflict both between you and your tenants - and between your tenants themselves - clearly defining the kinds of retail activities tenants are permitted to engage in is essential. This will encourage the right mix of tenants and lessen the chances of conflict in the future.

    Future assignment
    Given the uncertain nature of the retail industry, most retail tenants will require the right to assign their lease in the future. But if your permitted use clause is too restrictive, this may impact their ability to do so.

    Although not a big issue in commercial premises, it’s highly relevant in a retail context, particularly if you want to maintain a certain retail mix or exclude certain businesses from operating. That’s because any assignee of the lease is bound to the permitted use clause as outlined in the original lease. You may agree to changes to the clause, but you’re not obliged to do so.

    This may all sound like it’s firmly in your favour as a landlord, but it’s not necessarily so. If your permitted use clause is too narrow, your tenants will struggle to find assignees for the lease, leaving you both in an uncomfortable position.

    Although you have the right to refuse to consent to an assignment if the proposed tenant is unsuitable, it’s in your best interests to be reasonable from the outset. A clearly defined but not overly restrictive permitted use clause should avoid these kinds of problems.

    Exclusive use
    Closely connected to your permitted use clause is an exclusive use clause. Allowing a tenant the exclusive right to sell a particular type of goods, you must ensure the permitted uses described in subsequent leases don’t infringe upon that exclusive use.

    Avoiding infringement of an exclusive use clause can be particularly complicated in a retail context, particularly if your exclusive or permitted uses have not been clearly defined and described.

    Define your exclusive use clause too narrowly, and you risk restricting your ability to offer leases to successive tenants selling similar, but not identical goods.

    For example, you may grant a tenant the exclusive right to sell women’s clothing and fashion items. Would another prospective tenant wanting to sell shoes or hats be infringing on that exclusive use?

    Striking the right balance is particularly important when considered in light of the court’s tendency to take a restrictive view when interpreting permitted usage clauses. So it’s in both yours and your tenants’ best interests to ensure your exclusive and permitted use clauses are clearly defined and not restrictively narrow from the outset.

    Striking the right balance
    As with any negotiation, properly defining your permitted use clause is a balancing act. As a landlord, it’s important to ensure your desire to control the activities carried out on the premises don’t negatively impact your tenants’ need to organically grow and expand their businesses.

    As you draft your permitted use clause, ask yourself:

    • Is it descriptive enough or too general?
    • Should it be closely defined and described in narrow terms (and is doing so beneficial to both parties)?
    • Does it encourage the right mix of tenants?
    • Could it be interpreted widely and potentially infringe an exclusive use?
    • Will it allow for easy future assignment of the lease?
    Take these issues into account, and striking the right balance between your needs and that of your tenant isn’t as onerous as you might think.

    This article originally appeared here
     
    Terry_w and D.T. like this.
  2. JDM

    JDM Well-Known Member

    Joined:
    19th Jan, 2016
    Posts:
    145
    Location:
    London (ex Brisbane)
    Another consideration for permitted use clauses is their interaction with market rent reviews. By limiting the permitted use, you are also limiting the hypotehtical market when conducting a market rent review. This may result in a lower rent review than you may have achieved with a broader permitted use clause (ie use as a 'specialty formalwear shop' as opposed to 'retail use').
     
    Ian Macleod likes this.
  3. Ian Macleod

    Ian Macleod Active Member Premium Member

    Joined:
    17th Dec, 2015
    Posts:
    27
    Location:
    NSW
    Good point and one worth considering.