Many tenants underestimate the depth of commercial property leases.
In commercial property, the stakes are higher. If something goes wrong, your cash flow, operations, and long-term viability are on the line.
Read this guide before you sign anything. We’re cutting through legal talk to bring you honest advice surrounding everything that affects your business and bottom line.
Key lease terms tenants should understand
Commercial lease documents are often heavy on jargon and light on clarity. When you understand the fundamentals, you can feel more secure in negotiations.
Definitions to demystify contracts and conversations:
- Lease term/duration: How long you’re locked into a lease. You should know about the length of the initial term, renewal options, and any termination clauses.
- Rent: Your core financial obligation, including amount, payment schedule, and frequency of increases.
- Rent reviews: Periodic adjustments to reflect market conditions. Rent reviews are a standard part of commercial leases in NZ, allowing landlords to adjust the rent to align with the market.
- Outgoings/operating costs: The outgoings you’re responsible for in addition to rent, such as property rates, insurance premiums, building maintenance costs, and management fees.
- Permitted use: The business activities allowed to take place on the property.
- Assignment & sub-letting: Permission from the landlord to sublet the property.
- Make good obligations: Describes how the place should look when you hand back the keys. This can mean undoing renovations or repairing damages that happened during the lease period.
- Personal guarantee (PG): A legal commitment that you (or a director/shareholder) will personally pay the rent and any other lease costs if the business cannot meet its obligations.
- Cash bond: A sum of money paid upfront and held by the landlord as security. If you default, the landlord can use this to cover unpaid rent, damages, or other amounts owing.
- Bank guarantee: A guarantee issued by your bank in favour of the landlord. If you default, the landlord can claim the guaranteed amount directly from the bank.
- No access clause: An implied clause introduced in 2021 that says rent can be reduced or suspended if business operations are interrupted due to an epidemic emergency or natural disaster.
Formalising the terms: Understanding the lease process
Once you’ve identified your preferred property, the next step is usually to formalise the commercial terms. It’s easier when you know what to expect when the signing stage arrives.
Here’s a run-down of the process:
- Most commonly, a tenant submits an offer using the standard Law Society Agreement to Lease. This is a widely used form prepared by members of the New Zealand Law Society, and is generally regarded as balanced between landlord and tenant interests.
- By signing an Agreement to Lease, both parties become legally bound to enter into a formal Deed of Lease on the terms set out in the agreement (read more about negotiating terms in the next section!) The Deed of Lease is often completed as a separate document, although in some cases, the Agreement to Lease itself operates as the lease.
- Importantly, while the Agreement to Lease binds the parties, not all lease rights are fully operative until the Deed of Lease is executed. For example, rights such as assigning the lease or subleasing the premises may not be available until the formal deed is in place.
- In some situations, it may be commercially appropriate to first agree terms via a short Heads of Terms document, and then proceed directly to a Deed of Lease rather than using an Agreement to Lease. The appropriate structure will depend on the property, timing, level of negotiation required, and complexity of the deal.
An experienced commercial agent can guide you on the most suitable approach for your situation.
Negotiation tips: Being practical and prepared
Levelling the playing field can help you get the best outcome from negotiations.
Preparation gives you leverage. Consider:
- Rent-free periods: Take ownership of the premises while delaying rent payments for an agreed period of time. Often most achievable for longer terms, properties that have been vacant for a while, or when fit-outs are required.
- Rent increase caps: Negotiate a cap on annual rent increases (usually based on inflation) to protect yourself against unpredictable increases.
- Rights of first refusal: This gives you priority to purchase (or refuse) when the landlord sells.
- Heads of terms (HoTs): Best drafted early to catch red flags, this is a high-level document outlining the agreements of the commercial lease. Use this to negotiate good terms from the outset before fully committing.
- Shorter or flexible lease terms: Protect your business if it changes over time or underperforms. You won’t want to be locked into a lengthy contract for poor-fit premises.
- Rent reviews: Get clarity on how (and how often) rent reviews can take place. If needed, involve independent valuers, gather your own evidence of comparable rental rates in New Zealand, and challenge anything that seems unreasonable.
- Fair, clear outgoings: Flag wording that’s vague or unclear, and ask for documentation that supports claimed expenses. Negotiate caps where possible to avoid significant price hikes in outgoings.
Avoiding common pitfalls
Be aware of the issues we see most tenants trip on, so you can avoid the same (often expensive) mistakes:
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- Long leases without logical break points: This inhibits the ability to pivot your business if conditions change.
- Unclear or open-ended outgoings: Unexpected expenses reduce control over your business finances.
- Unlimited personal guarantees: While personal guarantees (PGs) mitigate risk for landlords, you should negotiate monetary/scope caps, limit the time scale, and/or add sunset/step-down provisions.
- Repairs, maintenance & hidden costs: Under a standard net lease structure, tenants are typically responsible for repairs and maintenance. This makes the physical condition of the property critical. An older building may offer a lower headline rent, but ongoing repair and maintenace costs can quickly outweigh any rental saving.
- No clear signage rights: Your ability to brand and advertise the business might be unknowingly limited.
- No Premises Condition Report: If a condition report is not completed before you take possession, there may be disputes at lease end about the state of the premises and your make good obligations. A clear, agreed report (with photos) establishes the baseline condition and protects you from being held responsible for pre-existing issues.
Decision-making strategies for tenants
Great commercial properties in NZ are quickly snapped up. Acting fast matters – but so does getting it right.
Think about the following before you sign:
- Are there any restrictions on signage, parking or property access that could hinder your business operations?
- Does the property support current commercial trends, like flexible working and sustainability?
- Do you fully understand all outgoings?
- Is there a clear rent review method and cap?
- Have you inspected the premises thoroughly?
- Can you exit or assign the lease if the business takes a downturn?
- Are you liable for major repairs?
- Have you benchmarked the rent against the market?
- Have you checked reviews about the landlord to make sure their management style is aligned with your needs?
For extra help and peace of mind when navigating decisions, speak to the advisors at James Group. We’ll share our honest advice and recommendations, and help clear up any confusion.
