Call Of June 18TH 2014: For Rebalancing Of Lessor / Lessee Relations And Rent Temperance

Published 30 October 2014

The “PINEL” law on crafts, commerce and very small businesses was passed on June 18th 2014 and most of its provisions entered into force on September 1st 2014. It aims at rebalancing relationships between parties and further regulates rent increases for small businesses. It is the most important reform of the status for commercial leases since the 1972 decree and it covers numerous questions amongst which:

 

  • Suppression of the reference to the building cost index for the triennial revision or renewal of capped rents: this measure favors lessees as this index is very variable and increases uncertainty regarding future evolution of rent prices
  • Option to terminate the lease contract by registered mail with signature upon receipt: this is faster and cheaper. The bailiff’s deed – which guarantees legal certainty – remains mandatory for a lease renewal demand on the lessee’s behalf as well as for the lessor’s response
  • Mandatory joint entry inventory (for derogatory leases as well)
  • Derogatory lease length increase from 2 to 3 years with 1 month cooling-off period after the expiration date allowing parties to oppose the automatic conclusion of a statutory lease
  • Creation of a preemption right for the lessee

The substantive amendments are highlighted hereafter:

1. Limitation of the lessee’s option for a firm period

Whereas the lessor commits for a period of nine years, the lessee has a triennial termination option. Until now, the lessee had great latitude to renounce to this option and could foresee a firm period in every situation.

With the PINEL law, the classic “three six nine” (year) lease is reinforced and the possibility to opt for a firm period now only applies to a limited number of situations: leases contracted for more than 9 years, leases of premises built in view of a single use, leases of premises destined solely for office space and some storage leases.

2. Clauses neutralizing the right to a lease renewal are deemed unwritten

These clauses used to be sanctioned by nullification. But their non-application was subject to the introduction of a judicial action by the lessee before the expiry of a 2 year statutory limitation period starting on the lease signature date.

The PINEL law reinforced the rights of the lessee, since these clauses are now “deemed unwritten” and imprescriptible, therefore can be denounced at any moment.

3. Regulation of joint guarantee clauses in case of assignment of the right to lease

The law confirmed a customary practice: when the assignment of the right to lease provides for a rent payment joint guarantee clause endorsed by the assigner, the lessor can only apply this clause “during a three year period starting on the assignment date”. This wording raises two uncertainties:

  • Must the 3 year period be understood as the period during which the lessor must initiate legal action or, more likely, the one during which the lessor’s receivables are born?
  • These provisions are not public policy and the law does not provide any sanction in case of infringement…

4. Capping uncapped rent increases

During the course of the lease, the rent can be adjusted in accordance to two contractual provisions: revision every three years or annual revision according to an indexation clause. The rent price can also be modified at the renewal.

The principle is rent capping. An increase must correspond to rental value and take the following into account: characteristics of the premises, purpose the premises were intended for, parties’ obligations, local commercial factors, and tariffs practiced in the vicinity.

The lessor has the right to uncap rents. Their increase can then exceed the variation of the referenced price index, in case of i) significant modification of the four above mentioned elements, ii) material modification of the local commerciality factors having resulted in a variation exceeding 10% of the market rental value, iii) modification of more than 25% of the rental price by application of the indexation clause and iv) change of activity by the lessee.

The PINEL law has confined the increase of uncapped rents. For contracts entered into or renewed starting September 1st 2014, rent price variation cannot result in an annual increase of more than 10% of the previous years’ rent.

5. Expenses, taxes and works: better lessee information and prohibition of certain re-invoicing by the lessor

The parties used to be relatively free to contractually determine in the lease which expenses, taxes and works would be billed by the lessor to the lessee. In fact, it was common that all expenses linked to the property were supported by the lessee depending on the surface occupied. This was called a “triple net lease”.

The PINEL law upset this pattern. Article L.145-40-20 of the Commercial Code now provides:

  • All lease agreements must include a “precise and limitative inventory of categories of expenses, taxes and fees” and their distribution between the lessor and the lessee. During the lease, the lessor must also inform the lessee about “new expenses, taxes and fees”, which must necessarily be limited to the predefined categories
  • While concluding the contract as well as every three years, the lessor provides each lessee which i) an estimate of work needing to be undertaken in the next three years as well as the budget estimate and ii) summary statement of works undertaken in the past three years including their costs. This obligation is quite constraining for the lessor and the sanctions will most likely be interpreted according to the nature, the urgency and the necessity of works undertaken but not listed
  • In joint-ownerships, the lease agreement must foresee the distribution of costs for i) expenses and works according to the surface occupied and ii) for taxes and fees corresponding strictly to the surface occupied by each lessee and to the “portion of common parts necessary for the exploitation of the leased good”. This last criterion is imprecise. Hopefully the application decree will provide precisions on its implementation as it is quite difficult to abstractly appreciate the usefulness, for each lessee, of common parts

The PINEL law puts a nail in the coffin of the “triple net” lease. This is at the same time a major upheaval for a great number of investors as well as a considerable advantage for lessees. The new provisions do not apply to ongoing contracts. They do however apply to renewed contracts.Difficulties might arise during negotiations as, usually, aside from the rent and some specifics, the lease agreement and its clauses as a whole are entirely renewed in the same terms…

The application decrees will precise the nature of expenses, taxes and works that cannot be endorsed by the lessee, among which will most likely be the territorial economic contribution, the expenses for vacant premises, some works and important repairs.

6. Establishing a de-specialization right in the case of an insolvency proceeding

According to the new Article L.642-7 of the Commercial Code, at a transfer of assets of a company in receivership or in compulsory liquidation, the Court can authorize the buyer to add to the existing activity, a related or complimentary activity, “after hearing or having duly called the lessor”. This wording implies that in such context the lessor’s opinion counts for very little in the end.

An amendment – that was rejected – had proposed that in such situation, the Court would have had the right to determine the rent price applicable at the next triennial revision!

*                      *

*

The PINEL law profoundly changes several aspects of commercial leases. The re-balancing desired in favor of the lessee has a necessary corollary effect of reducing contractual liberty of the parties. This highly complex and regulated sector implies for both lessors and lessees, to be informed and fully advised at the different stages of negotiation, conclusion, revision, renewal or termination of commercial leases.

The application decrees are currently being drafted and should come into force on January 1st 2015.                                                                                                               To be continued…

 

Commercial contracts - October 21, 2014