Commercial Leasing Series: Why options to renew are critical in a commercial lease

Fox and Thomas

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 ends. Options are a common feature in commercial and retail leases as they provide a Tenant security for their business premises, without locking the Tenant in for a lengthy term if they outgrow their premises or need to shut down their business.

Options make premises more attractive to a Tenant and a future purchaser of the Tenant’s business.

The Option clause 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 a rent review mechanism that is set out in the lease.

Leases often contain several consecutive Options after the initial term.

How does a Tenant exercise the Option?

An Option must be exercised in the way and in the time frame set out in the lease. If it is not, the Option will not be enforceable.

Leases typically require Options to be exercised within 3 – 6 months before the end of the lease.

Therefore, a Tenant must be organised, preferably with the option dates diarised, if they wish to exercise the Option.

If the Tenant exercises the Option to renew, the terms of the new lease, including the rent, will be determined according to the terms in the existing lease. It is important that a Tenant understands that if they exercise the Option, they will be locked in to pay the newly calculated rent.

What happens if there is no option to renew the lease?

If a lease does not contain an Option to renew the Landlord can require the Tenant to vacate the premises on the expiry date set out in the Lease.

If the parties wish to continue the lease, most leases allow for a short ‘holding over’ period, where the Tenant becomes a month to month Tenant on the same terms as the expired lease, while the parties negotiate the terms of the new lease.  It is important that a new lease be prepared and signed if it is the intention of the parties that the Tenant have the right to lease the premises for a new term.

Retail Shop lease

The Retail Shop Leases Act imposes obligations and gives rights to Landlords and Tenants in relation to Options in Retail Shop leases.  A lease of premises for retail purposes or premises in a centre where five or more retail shops are located, will be a Retail Shop Lease.

If a Retail Shop Lease contains an Option to renew, the Landlord must give the Tenant written notice of that option date at least two months before the option date, but not more than six months prior to the option date, or face a fine of up to 40 penalty units ($5,338 as at 1 July 2020).

If a Queensland Retail Shop Lease does not contain an option to renew, the Landlord must give the Tenant written notice offering to either renew the lease, or alternatively advise the Tenant that a renewal is not to be offered. This notice must be given to the Tenant at least three months but not more than six months before the lease expires, or for leases of over one year, at least six months but not more than one year before the lease expires.

If the Landlord fails to give this notice, the Tenant may, by submitting an extension request to the Landlord in writing prior to the expiry of the lease, automatically extend the lease until six months after the Landlord gives the required notice. However, this will only apply if the Tenant submits the extension request prior to the lease expiring, failing which the opportunity to do so will be lost.

Options to renew can be a tricky area for both Landlords and Tenants. If you are unsure of your rights, please contact a member of our Property team at Fox and Thomas for further advice about taking steps in the Option to renew process.