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Landlords Need to Think Carefully About Lease Incentives Clawbacks

The issue of penalty provision or liquidated damages provisions in contracts has been topical since the High Court decision of Andrews v Australian and New Zealand Banking Group Limited 2012.

The Supreme Court of Queensland in GWC Property Group Pty Ltd v Higginson highlighted the potential risk for landlords in offering lease incentives and including a contractual provision whereby the incentive can be clawed back on the happening of specified events.

These events commonly include where the tenant does not complete the entire term of the lease.

In GWC Property Group Pty Ltd v Higginson, solicitors entered into a lease of commercial premises at the same time as entering into a separate Incentive Deed with the landlord, in which they were given a significant fit out allowance and rent abatement. The tenant’s obligations were guaranteed by the Incentive Deed which included a clawback provision on a pro rata basis for the fit-out incentive, and the rent abatement, if the lease was terminated for any reason other than the default of the lessor.

The tenant abandoned the premises during the term of the lease and the landlord accepted its repudiation, terminated the lease and commenced proceedings to clawback the incentive.

The Supreme Court found that the clawback provisions were penalties and unenforceable as not being a genuine pre-estimate of damage.

The Court focused on the fact that had the tenant not breached the lease, the clawback amounts would not have been payable to the landlord.

Allowing the landlord’s claim would therefore confer on the landlord an advantage it would not otherwise have been entitled to if the lease was fully performed by the tenant. Taking this view, the Court considered the clawbacks to operate as a security for the tenant’s completion of the lease and continued payment of the rent, rather than a genuine pre-estimate of damage the landlord would suffer on breach of the lease.

The Court found that the clawback amounts imposed liability on the tenant for payments that the landlord was not entitled to in addition to damages it was entitled to under the lease terms. The landlord is entitled to claim common law damages under the lease, but is not entitled to any additional amounts.

The message for landlords from this creates some certainty around what has always been an unclear issue. The Court’s position highlights to landlords that incentive clawbacks are unlikely to be enforced, and that landlords should reconsider the extent of the incentives offered and the form in which they are offered at the outset of lease and negations.

The case also makes it clear that the penalties doctrine which is set out in Andrews v ANZ cannot be avoided through separating out repayment obligations into an Incentive Deed. The Court viewed both the lease and the Incentive Deed as a combined agreement, notwithstanding that the terms were contain in separate documents. Any payment arising under the Incentive Deed for failure under a lease is open to interpretation as a penalty.

This case was not appealed, and did not consider questions of specific incentive obligations (as the tenant abandoned the premises and the landlord accepted the repudiation) so only time will tell how the court will view these other scenarios. In the meantime, landlords should take note of the warning signs and consider how they offer incentives to tenants.

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