LEASE INCENTIVE REPAYMENTS CONSIDERED UNENFORCEABLE AS A PENALTY

GWC PROPERTY GROUP PTY LTD V HIGGINSON & ORS [2014] QSC 264

The rule against penalties provides the foundation that a sum payable on breach of a contract is unenforceable as a penalty when it is “extravagant and unconscionable in amount in comparison with the greatest loss that could conceivably be proved to have followed from the breach, rather than a genuine pre-estimate of the loss likely to be caused by a breach of the contract” (Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd [1915] AC 79, 86–87).

The High Court, in Andrews v Australia and New Zealand Banking Group Ltd [2012] HCA 30, extended the law against penalties by finding that sums are capable of being characterised as penalties irrespective of whether they are charged upon a breach of contract. Further, the plurality in that case clarified that where prejudice is suffered by a party to a contract, a penalty will be enforceable only to the extent necessary to compensate the actual loss suffered.

In GWC Property Group Pty Ltd v Higginson & Ors [2014] QSC 264, Justice Dalton of the Supreme Court of Queensland heard a matter between a property owner and guarantors under a Lease and an Incentive Deed. The resulting decision impacts the ability of landlords to recover lease incentives and provides insight as to how the courts view incentive repayment provisions in lease agreements and accompanying documents.

BACKGROUND

The defendants (Higginson and others) promised to guarantee the obligations of the lessee, Haynes Lawyers, under the lease and incentive deed and to indemnify the landlord against liability, loss or damage arising from the lessee’s breach or repudiation of the lease.

The lease obligated the lessee to pay rent and signage fees and the incentive deed provided for their abatement for the first three years of the lease term. The incentive deed also obliged the lessor to contribute to the lessee’s fit-out, though the lease provided no such obligation on either party. The incentive deed further provided the ways in which all three incentives would be repayable upon breach or termination of the contract.

The plaintiff landlord’s (GWC) predecessor in title paid the contribution amounts and provided the abatement in accordance with the incentive deed. GWC subsequently acquired the property and was assigned the rights and interests under the lease and the incentive deed.

The incentive deed was recited to be ‘intended to supplement the lease’ and both the lease and incentive deed were executed on the same day. The corresponding legal rule provides that, as each document is ‘executed on the faith of all others being executed also’, any rights and obligations of the parties should be determined from the transaction as a whole (Manks v Whiteley [1912] 1 Ch 735, 754–5).

The lessee, Haynes Lawyers, abandoned the property which amounted to repudiation, which the plaintiff accepted and terminated the lease and incentive deed. The plaintiff sought to recover repayment obligations under the incentive deed from the guarantor defendants and the defendants sought a summary judgment in their favour from the Supreme Court of Queensland.

PLAINTIFF ARGUMENTS

GWC argued that the repayment provisions were restitutionary in nature and not punitive; the repayments were not a punishment, merely repayment of the unjust benefit the lessee received in the fit-out contribution and rent and signage fee abatements. The plaintiff argued the incentives offered to the lessee were conditional and ‘termination of the lease merely provided the occasion for the relevant repayment condition to be activated.’ Further, the plaintiff argued the ‘conditional payment’ was part of the consideration for the bargain between the parties, and ‘part of the overall commercial exchange.’

FINDING THE REPAYMENTS WERE PENALTIES

Justice Dalton observed that the test of whether clauses stipulating repayments are ‘extravagant and unconscionable in comparison with the maximum loss that might be suffered on breach of contract’ is to be determined objectively, and not referenced by the parties’ state of mind at the time of entering the contract.

Her Honour found that the lease and incentive deed provided for the landlord to recover contractual damages for breach of the lease and, by way of the repayment clauses, ‘to recover monies to which it would never have been entitled had the lease run its course.’

The lease was to be registered, while the incentive deed was to be kept private and confidential. Evidence before the court, provided on behalf of the plaintiff, suggested the incentives were reflective of current market conditions. Her Honour found the significance to be that by registering the lease, the public perception would be that the market value of the lease was high, while the private and confidential abatements and fit-out incentives reflected a truer market value to attract tenants.

Accordingly, Her Honour observed that, by way of the repayment clauses, the landlord was ‘entitled to recover as though the tenant had agreed to the rent and signage fees without any abatement, and as though it had not been necessary for the landlord to pay the fit‑out incentive in order to complete the bargain with the tenant.’ Her Honour found that the landlord was only able to obtain the lease by providing for ‘those substantial financial concessions’.

Justice Dalton rejected the plaintiff’s arguments and, as the repayments exceeded the maximum loss suffered, Her Honour held that GWC sued upon clauses which were wholly penal. Justice Dalton further observed that the incentive deed did not contain any substantial obligations on the part of the tenant, aside from the penalty clauses GWC was suing under. As such, Her Honour held that the situation GWC found itself was ‘a result of its own commercial decisions’ and found no injustice in not enforcing the penalty provisions or ordering compensation to the landlord under the incentive deed.

CURRENT APPLICATION

This case has been cited and applied in the Supreme and District Courts of Queensland, the Supreme Court of Western Australia and in the Victorian Civil and Administrative Tribunal. As a result of this case, and its continued application in various courts throughout Australia, Lessors and Lessees should be informed that incentive repayment provisions in lease agreements may be treated as a penalty and will not be enforceable. 

Should you require further information regarding Leases please contact Catherine Wallace of our office at catherine@wallaceweir.com.au; or or by calling 1300 011 123.

Please note that this article is written as an informative piece and that you must not take the contents of this article as legal advice. Wallace Law Group accepts no liability from your reliance on this article.