Many commercial and governmental leases of freehold land and Aboriginal and Torres Strait Island land under a deed of grant in trust include options that allow lessees to renew or extend the term of their lease.
An option to renew generally gives the lessee a unilateral contractual right to extend the term, subject to the terms and conditions of the lease. Unless the lease provides otherwise, the lessor cannot prevent the exercise of that option except where the lessor has a valid right to terminate the lease, for example, due to an unremedied breach by the lessee.
Historically, under the repealed Property Law Act 1974 (Qld), a lessor could issue a prescribed notice to a lessee within 14 days of receiving an option notice where the lessee was in breach of the lease and that breach would prevent the lessee from a renewal.
The introduction of the Property Law Act 2023 (Qld) (“PLA 2023”) has changed that position by introducing new timeframes and updated notice requirements.
For Local Governments lessors, the exercise of an option by a lessee should not be treated as a routine administrative matter. When a lessee serves a notice exercising an option, Council must immediately turn its mind to whether there are any issues that may affect the lessee’s entitlement to renew.
The new statutory timeframe
Section 164 of the PLA 2023 applies where a lease expressly gives a lessee an option to renew the term of a lease. These provisions are generally conditional on matters such as:
- any conditions for exercising the option having been satisfied;
- the lessee complying with the terms of the lease and not being in breach of the lease; and
- the lessee giving a valid notice exercising the option within time.
If a lessor intends to refuse the exercise of the option because the lessee is in breach of the lease (and that breach prevents renewal), or because the lessee’s option notice is given within time but is defective, the lessor must give the lessee a prescribed notice to remedy the breach (Form 7).
Importantly, where the breach existed before or at the time the lessee gives the option notice including if the notice is defective, the breach notice must be given within 10 business days after the option notice is given.
If a breach arises after the option notice is given, the lessor must give a breach notice within 10 business days after the breach occurs.
A lessor who fails to act within the statutory timeframe may be prevented from relying on a current breach or a defective notice to refuse renewal.
Lessor’s intention to refuse renewal
If Council intends to refuse a lease renewal after receiving an option notice due to existing breaches or a defective notice, Council must issue a breach notice in the approved form containing prescribed information. The requirements for that information have changed under the PLA 2023.
A breach notice must now clearly state:
- that the lessor intends to refuse to renew or extend the term of the lease, because of 1 or more breaches;
- the details of the breach or breaches;
- that the lessee or a designated person for the lease may apply to the court for relief against the refusal;
- that an application to the court for relief against the refusal must be made within 1 month after the lessee receives the breach notice; and
- that the lessee should seek independent legal advice about the refusal and its implications.
The lessee has a right to challenge the loss of their option
Section 164 gives a lessee the right to apply to the court for the loss of their option.
While this right was historically available under the principles of relief against forfeiture, the PLA 2023 now imposes a specific timeframe, requiring a lessee to apply for relief within one month after receiving notice from the lessor of its intention to refuse renewal.
If no application is made within one month, the lessor may proceed with the refusal.
Practical implications for Councils
Receiving a lessee’s option notice requires immediate consideration of whether:
- rent, outgoings or other amounts are outstanding;
- there are unresolved maintenance, compliance or use issues;
- the lessee has complied with other conditions imposed under the lease; and
- Council wishes to continue the tenancy despite any breaches.
Those questions may involve input from property officers, finance teams, operational areas, governance teams and legal advisers.
The difficulty is that the 10-business day timeframe starts running immediately.
Internal approval processes that are appropriate for many Council decisions do not align with the urgency imposed by section 164. Councils should therefore consider implementing a process whereby any notice exercising an option is immediately escalated for review.
Upon receipt of an option notice, Council officers should promptly:
- confirm the date the option notice was received;
- diarise the statutory 10 business day deadline;
- obtain a complete copy of the lease and any variations;
- confirm whether the option notice complies with the “formal requirements” of the lease, including checking that:
- the notice is in the form required by the lease (for example, in writing or in a specified form);
- the notice has been given in the manner required by the lease (for example, by email, post or hand delivery);
- the notice has been provided to the correct person or position designated under the lease;
- identify any existing breaches;
- determine whether Council intends to accept or refuse the option notice; and
- obtain legal advice early if there is any possibility Council may seek to refuse the renewal.
Option Windows
Commercial leases will usually provide a timeframe for exercising an option, for example, by requiring the lessee to give written notice no earlier than six months and no later than three months before expiry of the lease.
A carve out from section 164 applies where a lessee fails to exercise an option within the timeframe specified in the lease. Such a failure is not considered a breach for the purposes of section 164 and does not require the lessor to issue a breach notice.
Section 164 only requires a lessor to notify a lessee if the lessee has failed to comply with a “formal requirement”. Subsection 164(4) defines a “formal requirement” as:
- the form of the option notice;
- the way in which the option notice must be given; or
- the person to whom the option notice must be given.
Importantly, subsection 164(4)(b) specifically provides that a “formal requirement” does not include a requirement about the timeframe within which the option notice must be given.
Accordingly, if a lessee gives an option notice out of time, that failure is not treated as a breach for the purposes of section 164 and the lessor is not required to issue a breach notice. In those circumstances, the lessor may consider that the lessee does not wish to renew the lease and treat the lease as expiring on the upcoming Expiry Date.
Importantly, this does not apply to any leases governed by the Retail Shop Leases Act 1994 (Qld). Under that legislation, a retail lessor must give the lessee written notice of the option date no less than 2 months, and no more than 6 months, before the option date.
Should options be included in leases?
Given the procedural consequences of refusing a lease renewal, Councils should carefully consider whether granting lease options is an appropriate approach.
For new leases, Councils may wish to consider whether:
- the lease term should be sufficiently long to meet the parties’ objectives without including an option period, while avoiding a term that unnecessarily commits Council to a contractual relationship it may later wish to exit;
- any extension of the lease term should be subject to mutual agreement rather than a unilateral option exercisable by the lessee; or
- options should be removed altogether where there is no strategic reason to provide a right of renewal.
Removing options from leases may provide Councils with greater flexibility at the end of the lease term and avoid the need to comply with the strict procedural requirements imposed by section 164 of the PLA 2023.
Key takeaway
Receiving an option notice requires a lessor’s urgent attention.
For Local Government lessors, the safest approach is to ensure that every option notice is immediately escalated, reviewed and actioned within the required timeframe. A failure to move quickly could significantly limit Council’s ability to refuse a lease renewal.
It is important for Councils to ensure their leasing arrangements are carefully structured. Preston Law’s Local Government Property Lawyers can provide practical advice to help Councils manage risks and make informed decisions about lease options.