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Business Matters Newsletter - December 2015

Business Matters Newsletter – December 2015

Published on December 8, 2015 by Selwyn Black

The fix for housing affordability?

The current state of the property market in Australia means that many are unable to afford to purchase their own homes outright, even though they have an amount of capital saved up. Often the only current solution for those priced out of the outright purchase market is to rent, which usually means entering into a lease of premises for 6 to 12 months, with the risk of having to move regularly.

One option common in other places is for entrants to the property market to enter into, or buy from a prior tenant, medium term residential tenancies. Could that be part of the solution for the Australian housing market?

The benefits of medium term residential tenancies

  1. More secure tenure
    1. Tenants will have confidence that they will be able to stay in the premises for the medium term.
    2. Tenants will be more likely to invest in the premises, such as by making improvements to the premises.
    3. Tenants will have more of a sense of belonging to the premises, and treat it as their permanent home rather than a temporary stop-gap solution.
    4. Tenants will avoid the regular need to relocate and the costs and the disruption to their lives that are associated with that.
  2. Access
    1. Tenants who do not have the necessary funds to purchase freehold, but have the funds and the desire to secure premises for a period longer than 6-12 months, will have access to the property market.
    2. Depending on the structure of the lease, tenants will be partly participating in movements in the market rather than waiting to purchase and watching the market pass them by.  This could occur by tenant’s purchasing (either from a developer or a prior holder) leases for a term of say 20 years which they are able to on-sell according to movements in the market generally, as reflected in the market for medium term leases.  So rather than being out of the market altogether, these tenants could participant in a sector of the residential property market.  Also, those with enough capital for the residual (after 20 years) interest, but not for outright purchase, could also participate.
  3. Increase capital
    1. Those who cannot afford to purchase freehold, but can afford a medium term tenancy arrangement or the residual interest may be a further source of capital for new construction or redevelopments of existing premises, with the intent that the end user is the tenant rather than the owner.
  4. Stabilise rental market
    1. On a macro level, longer term tenancy agreements provide certainty, meaning there will be less short term and erratic changes to the rental market.  Both parties to medium term arrangements may be willing to invest more in them because of the greater certainty, which in turn reduces other risks and promotes investment.

The Australian experience

Approximately 30% of Australians rent their home, whereas in countries such as Germany up to 60% of the population may be renting.

There has been an increase in recent years to the number of tenancies with a term exceeding 3 years in length, but the proportion of leases having a medium to long term still falls short of other jurisdictions.

So why are less renting in Australia, and why is the average term of Australian leases shorter when compared to other advanced nations?

Cultural resistance

Australia is a young country with a large land mass. Many Australians have dreams of owning their own home. There may be a perception amongst the Australian public that renting is beneath ownership. Failing to own one’s home may be seen to be a failure to achieve one’s goals and dreams. Many do not wish to be tied to a medium or long term lease as they desire to purchase their own home in the short term.

There may be a tension between the competing interests of tenants and landlords, and a perception that there is always a winner and always a loser between them. In other jurisdictions, there may be an acceptance that the tenant/landlord relationship works for both parties.

Legal barriers to medium term leasing

The Residential Tenancies Act 2010 (NSW) (Act) governs residential tenancies in New South Wales. It does not impose a maximum limit on the term of a residential tenancy. However, certain provisions of the Act make medium term leasing unattractive for both tenants and landlords.

  1. Lack of flexibility
    1. In New South Wales, unless a residential lease has a fixed term of over 20 years, the standard form residential tenancy agreement and many other terms are prescribed into the lease by the Act.
    2. Many landlords and tenants would not be willing to enter a lease for 20 years, but would want to enter a lease for more than 6 to 12 months. However, that would mean the prescribed terms under the Act apply to that lease, and the parties may be unwilling to sign on those terms.
    3. Even leases with a fixed term of 20 years or more cannot vary certain terms such as the landlord being required to pay rates, taxes and charges on the premises and the grounds of termination of the lease prescribed by the Act.
  2. Tenants may not want to be subject to terms prescribed by the Act when entering a medium term lease (for up to 20 years) such as:
    1. rental increases – leases with a fixed term greater than 2 years may have the rent increased once every 12 months without any limit to the size of the increase;
    2. landlord consent – tenants require the consent of the landlord to any installation of a fixture, renovation, alteration, or addition to the premises, although the landlord cannot unreasonably refuse minor changes;
    3. transfer/sub-letting – landlords may unreasonably refuse consent to the transfer or sub-letting of whole premises; and
    4. short notice periods on termination – landlords are only required to give 14 days notice for termination for breach of the tenancy agreement, 30 days notice if the landlord has entered a contract for sale to sell the premises after the lease has expired, and 90 days notice if terminating during a periodic tenancy period at the end of a lease.
  3. Landlords may not want to be subject to terms prescribed by the Act when entering a medium term lease (for up to 20 years) such as:
    1. termination rights – tenants have various termination rights in situations such as:
      1. if a tenant dies leaving one or more co-tenant, the co-tenant may terminate;
      2. a co-tenant or occupant or former co-tenant/occupant is prohibited by AVO from accessing premises;
      3. if a tenant has been offered and accepted accommodation in social housing premises; and
      4. if a tenant has accepted or requires a place in aged care facility;
    2. short notice periods – tenants generally can terminate on short notice such as:
      1. 14 days notice if the landlord has breached the lease; and
      2. 21 days notice if the rent has been increased by the landlord; and
    3. a maximum rental bond a landlord may request is 4 weeks rent, regardless of the term of the lease.
  4. The restriction in sections 23 and 32 on paying a premium for renewing, extending or continuing a residential lease may reduce the flexibility needed to create ideal structures.  For example, the parties to the medium term residential tenancy agreement need to consider what is intended to occur at the end of the term.  Will the tenant be offered any option for renewal and if so can the landlord charge a premium reflecting some part of the capital value?  The Act would appear to prohibit this but the regulations under the Act acknowledge that there will be some arrangements that should be outside the Act.  In particular there is an exemption for equity purchase agreements (which means a series of agreements that provide for initial purchase by the tenant, as a tenant in common, of not less than 20% of the freehold interest and the further purchase of greater percentages of the interest over time).  That exception may be a useful precedent for the point that arrangements involving some form of capital contribution, require a different treatment.

Conclusion

Governments appear to recognise the need for changes to the law surrounding residential tenancies, with the New South Wales government opening a review into the Act, and the Victorian state government recently undertaking a public consultation into the Victorian equivalent Residential Tenancies Act 1997 (Vic).

Changes to residential tenancy law, may also result in cultural shifts in the general Australian public about what it means to rent and the purpose of housing.

Medium term leasing, if allowed to flourish, may be a key part of the solution to the present housing affordability problem.

Selwyn Black leads the Business Lawyers Group at Carroll & O’Dea, Australian lawyers. His practice includes advising on a variety of issues for businesses including real estate and business acquisitions, disposals and development, joint ventures, contracts, financing, and innovative solutions for a variety of issues .

Carroll & O’Dea is a mid-size law firm with offices in Sydney, Canberra and 4 other regional locations as well as associate offices in most states of Australia.

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