Break Lease Fees are Fixed

27 Jan, 2012

The Residential Tenancies Act 2010 (NSW) introduced a provision which permitted the landlord and the tenant to agree of a ‘break fee’ for a fixed term agreement for a fixed term of not more than 3 years.

Section 107(4) provides:

“The “break fee” for a fixed term agreement for a fixed term of not more than 3 years is:

  1. an amount equal to 6 weeks rent if less than half of the fixed term had expired when the premises were abandoned, or
  2. an amount equal to 4 weeks rent in any other case.”

We were recently contacted by one of our clients who had an application before the Consumer Trader and Tenancy Tribunal involving a break lease situation. The tenancy agreement that had been entered into contained the additional provision whereby the landlord and tenant agreed that in the event of the lease being broken during the fixed term the tenant agreed to pay the break lease fee. In this case, the fixed term was broken during the latter half of the tenancy, and accordingly was an amount equal to 4 weeks rent.

The matter came before the Tribunal and as is usual the Tribunal directed the parties to attempt to resolve the matter.

In this particular case, the tenant had broken the lease, however it only took the landlord’s agent one week to re-tenant the property. The tenant was represented at the Tribunal by a Tenant Advocate.

Obviously, the agent, on behalf of the landlord, sought to enforce the break fee as per the tenancy agreement.

The issue was raised in general discussion with the Tribunal Member, who indicated that as there was no case law, then he could not say which way the decision might go.

The Tenant Advocate argued that the tenant should only have to pay for the one week it took to re-rent the property, as the landlord has a duty to mitigate his/her loss.

Whenever you are faced with a situation where there may not be any definitive decisions on a particular piece of legislation, it is permissible as a means of statutory interpretation to look at what Parliament intended, and that involves looking at the second reading speeches given at the time the Bill was introduced into Parliament.

In her second reading speech introducing the Bill, Ms. Virgina Judge, Minister for Fair Trading and Minister for the Arts stated:

“After subletting and alterations, the third area of major concern identified by landlords related to the proposed break fee. The break fee is a set penalty payable by a tenant who breaks their lease early. The intention here was to provide a simpler means for resolving the parties’ obligations when a lease is broken, thereby providing certainty for both tenants and landlords, and removing these disputes from the tribunal. When added to the high cost of relocation, a break fee would ensure that tenants did not make a decision to walk away from a lease lightly.

Some submissions from landlords supported the proposal, correctly observing that in some cases they would benefit from having the outgoing tenant paying a break fee while the new tenant paid rent as well. Under the current legislation, this is not possible as the former tenant can only be charged until the new tenant takes over. Having a break fee would remove restrictions on landlords over the reletting process. It may also reduce the incidence of tenants simply packing up and disappearing or ceasing to pay their rent as a way of getting out of the lease. Other landlords submitted that a break fee would undermine the purpose of having a lease. It was considered that, while the break fee proposal may benefit some landlords, it may hurt landlords with hard-to-rent properties or those at the upper end of the market.

Importantly, having a break fee will remove the current restrictions on landlords in terms of mitigating the tenant’s loss.

In order to accommodate the differing views about the merits of the break fee proposal, the bill has been refined to make break fees optional. The parties can agree to have a break fee term in their lease if they wish. Landlords who do not see any merit in the break fee proposal can choose not to include a break fee term in the lease, in which case the current law that a tenant who breaks a lease is liable to compensate the landlord for any loss, with the landlord having an obligation to mitigate those losses, will continue to apply.”

Mr. Gerard Martin MLA, speaking in support of the Bill stated:

“The option of having a set break fee stated in the lease will provide a simpler and more certain process for both tenants and landlords. Tenants will know exactly how much it will cost so they can factor it into the equation. This new option may result in fewer tenants breaking a lease early. Some tenants break a lease now in the often-mistaken belief that another tenant will take over the lease the next day or soon after and that they will not have to pay a penalty at all or only a nominal amount. When the break fee is added to the high cost of relocation, it should make tenants think long and hard about whether the costs are worth it. The bill sets the optional break fee at six weeks rent if a tenant breaks the lease in the first half and four weeks rent if they leave during the second half of the lease term. While some may argue that those amounts are too high or too low, the Government believes that they are fair and reasonable to both sides.

Including a break fee term in the lease may also be an attractive proposition for many landlords. Importantly, having a break fee will remove the current restrictions on landlords in terms of mitigating the tenant’s loss. This means landlords will be able to set the asking rent for the next tenant at whatever level they like. If they can get more rent than the current tenant is paying, they will be able to pocket the difference for the balance of the lease. Additionally, they will not have to explain themselves to the tribunal or justify what steps they took in trying to find a new tenant. These are major improvements to the current system that I hope landlords and agents will embrace. It is certainly a commonsense provision. Another benefit to landlords is that if they can find a replacement tenant soon enough, they can keep the break fee plus the rent from the new tenant for the overlapping period. This is a potential windfall and an incentive that some critics have overlooked.

The optional break fee proposal simply recognises that tenants currently break leases and will continue to do so in the future. It is about putting in place a simple, clear and fair alternative for both tenants and landlords. Under the draft exposure bill, it was proposed that the break fee be included in all leases but as a result of consultation the Government acknowledges there is a range of views on this issue, including those raised by country landlords and agents about whether it would work in rural areas, where it can be more difficult to find a replacement tenant. The Government has taken on board those arguments and responded by making the break fee optional. This is a fair compromise. The bill now gives the parties the option to agree to include a break fee as a term of the agreement. If there is no agreement the current process will continue to apply. This measure is another example of the way the bill strikes a balance between the rights and responsibilities of tenants and landlords while providing for a more flexible and practical regulatory framework that acknowledges real life situations. For that reason alone, it is worth commending the bill to the House.”

It is therefore quite clear that the intent of the Parliament was that the break fee was a set amount and was not subject to any variation as a result of, for instance, the property being re-let within the 4 or 6 week period agreed as the break fee amount.

Section 107(2) provides for a landlord to mitigate his/her loss. It states:

“The landlord must take all reasonable steps to mitigate the loss and is not entitled to compensation for any loss that could have been avoided by taking those steps.”

This sub-section merely re-affirms the old law, as indicated by the Minister in her second reading speech, that if a landlord and tenant do not agree on the fixed amounts for a break fee then the law of mitigation applies.

Section 107(2) has no relevance or bearing upon the agreed break fee set out in section 107(4).

Additionally, if Parliament had intended otherwise, then the clause would have read something along the lines of “…an amount up to the equivalent of 6 weeks rent…” or “…an amount of up to the equivalent of 4 weeks rent…”.

 

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