Leases

CHAPTER 15

15.1   Introduction

15.2   Nature of the leasehold interest

15.2.1   Historical development

The first form of legal protection for the villeinage did not emerge until the 13th century, when the common law began to recognise the contractual foundation of the villeinage. This meant that a villein could sue his landlord for damages for a breach of lease, but it did not entitle a dispossessed tenant to regain possession. At this point, the lease was not regarded as a form of real property, although its contractual foundation meant that a lease contract could properly be regarded as a legally enforceable, personal right.1

Due to the inappropriate nature of contractual remedies for tenants unfairly dispossessed, the common law courts eventually developed an action entitling a ‘villein’ to recover possession of land over which he or she held a ‘villeinage’. This action was known as the quare ejecit infra terminum. This action was, however, of limited use, as it was only available against the landlord or successors in title to the landlord, and not against any third party. Where the villein was dispossessed by a third party unconnected to the agreement, it was not possible to claim possession of the land.

Eventually, by the late 15th century, villeins acquired a more complete right to claim possession of the land which came to be referred to as the writ of ejectment or de ejectione firmae. Under this writ, a tenant who was disseised of land could actually reclaim the land itself. This writ was so popular that it became a common remedy sought by dispossessed freeholders. (See a full discussion of this in Chapter 2.)

The evolution of the writ of ejection meant that leasehold interests acquired rights akin to real property, thereby increasing the similarities between leases and real property. Nevertheless, the distinction between freehold and non-freehold estates remained. Leases could not actually be classified as real property because the old ‘real actions’ for recovery of the land were still inapplicable to lessees, and the tenant did not therefore acquire seisin. Furthermore, leases were still legally recognised as personal property; for example, the old principles of intestate succession did not apply to leases because they were not regarded as real property.2 The close relationship between leases and real property eventually resulted in leases being placed in the hybrid category referred to as ‘chattels real’, thereby acknowledging the ‘dual character’ of the newly evolved leasehold estate.

In modern times, the differences between real property and leases are minimal. The most important ones may be summarised as follows:

15.2.2   Contractual nature of the lease

The essence of the lease is the lease contract entered into by the lessor and lessee. The lease contract is governed by usual contractual principles. The substance of the contract is the transfer of exclusive possession of the premises for a specific duration. The terms and conditions of this possession will generally be clearly set out within the lease contract. Usual contractual provisions include obligations of the lessee with respect to the upkeep of the rental premises; the maintenance obligations of the lessor and the nature and consequences of a default by the lessor. Lease covenants are discussed in more detail at para 15.4.1. Consideration for the transfer of exclusive possession will generally be the payment of a periodical sum of money, generally referred to as ‘rent’.

Once a valid and enforceable lease contract is entered into, and the relevant formality requirements for the creation of legal leases are complied with, or the agreement is such that it is enforceable in equity, the lessee will acquire a leasehold interest. The paramount purpose of the lease contract is to confer an interest upon the lessee. Once this is achieved, title will vest with the lessee and may divest where the terms and conditions of the lease contract are not complied with. Hence, if, for example, the lessee failed to pay the agreed rent over a period of time, the lease contract would generally entitle the lessor to terminate the lease and evict the lessee, thereby extinguishing the lessee’s title.

Some principles relevant to ordinary contractual relationships are inappropriate when applied to leases because they interfere with or impede the title of the lessee. For example, the doctrine of frustration is often felt to be inapplicable to lease contracts.3 The reason for this is that the primary purpose of the lease contract is to transfer exclusive possession to the lessee, which thereby confers non-freehold title; once this is achieved, the agreement cannot be frustrated even if the lessee is unable to use the premises. This general principle is supported by the Victorian decision of Lobb v Vasey Housing Auxiliary (War Widows’ Guild) [1963] VR 239, where Hudson J noted (p 247) that where a lease contract has been properly effected and a lease estate transferred, ‘it can no longer be said that what was agreed or contemplated by the parties has been rendered impossible or frustrated’.⁴

The House of Lords has, however, suggested that the transfer of a leasehold interest may not, in some cases, be the primary purpose of the lease agreement. For example, where all that is desired is the use and possession of the land, the acquisition of an estate is simply a consequence, not an aim or purpose, and, in such circumstances, it is possible to suggest that the primary purpose might be frustrated (National Carriers Ltd v Panalpina (Northern) Ltd [1981] 1 All ER 161).

15.2.3   Different forms of leases

A fixed term lease is a lease expressly created to exist for a defined period of time. The actual length of time for which the lease is to continue is not important, hence a fixed term lease may exist for one month or 99 years. However, the duration must be defined, certain and express. Hence, at the time when the parties are entering into the lease contract, the length of time that the lease is to exist for must be clear; the exact date of termination must be unambiguously set out. Where the duration is dependent upon an event, the date of which is unclear at the time when the lease agreement is entered into, no fixed term lease can exist. For example, a lease which is to exist until a building is competed will be invalid. It is, however, possible to create a valid fixed term lease which is to exist for the duration of the lessee’s or a third person’s life. A fixed term lease for life is different from a life estate: the lease is a non-freehold estate creating contractual relations between the lessor and lessee, whilst a life estate is a freehold estate, and a contract between the transferor and transferee is not usually in existence.

Very rarely, a long term fixed lease may be transformed into a fee simple. Where a fixed term lease has existed for a term in excess of 300 years, with more than 200 years remaining and little or no rent payable, there is statutory provision entitling the lease to be enlarged into a fee simple.5

15.2.3.2 Periodic lease

Unlike a fixed term lease, a periodic tenancy can be created by either an express agreement or implied from the circumstances. A periodic lease is a lease which exists for a succession of periods. It may arise expressly wherever a lessee agrees to pay periodic rental, whether it be weekly, fortnightly or monthly, in return for exclusive possession. More frequently, however, periodical tenancies are actually implied from the nature of the period for which rent is paid. Hence, where a lessor agrees to allow a lessee to remain in possession periodically upon the expiration of a fixed term lease a periodic lease may be implied.

Like the fixed term lease, a periodic tenancy will confer a leasehold interest upon the lessee. It is not necessary, as with fixed term leases, that the exact date of termination be specified at the date of commencement, because periodic leases may continue for a succession of periods. This does not mean that the periodic lease exists indefinitely and therefore offends the basic premise of the non-freehold estate. The periodic lease is regarded as existing for a defined time because it must exist for at least as long as the initial period. Periodic leases do not operate as an expiration and re-lease at the end of each period but, rather, the successive periods are treated as one continuous period, with the expiration of one period acting as a springboard for the continuation into the next period. The successive nature of the periodic lease does not prevent it from being accepted as a valid form of leasehold interest which will continue until it has been properly terminated by notice from either party.

In implying a periodic lease, the courts will first examine the intention of the parties; where there is no direct evidence available, the most usual method is a consideration of the period for which rent is paid. Hence, a monthly periodic lease may be inferred where rent is paid monthly and a fortnightly periodic lease may be inferred where rent is paid every second week. Where a periodic lease is inferred following the expiration of a fixed term lease that exceeded one year in duration, it is generally presumed that the periodic lease will be yearly. In Moore v Dimond (1929) 43 CLR 105, the High Court held that there is a strong presumption of a yearly overholding periodic lease in cases where the fixed term lease exceeds one year. The rationale for this is that shorter periods would not adequately represent the true intentions of the parties in such circumstances. This position has been statutorily modified in some states, where legislation provides that yearly tenancies shall not be implied by the payment of rent and that any tenancy which does not set out its duration will be presumed to be a monthly tenancy at will.6

15.2.3.3 Tenancy at will

A tenancy at will confers an exclusive right to possession for an indefinite period of time which may be terminated at any time at the will of either party. A tenancy at will may be expressly or impliedly created. The distinctive feature of a tenancy at will is that it is based upon a personal relationship between the parties and will determine upon any alienation of the property by the lessee, whether that alienation be voluntary or involuntary in nature.⁷

Examples of circumstances where a tenancy at will may arise include:

A tenancy at will and a short term periodic lease are virtually identical. The only real difference lies in the fact that the focus of the tenancy at will is upon the intention to confer exclusive possession and the duration is assessed retrospectively. By contrast, it is clear that a periodic tenancy will exist for at least as long as the first period. The tenancy at will has been described as ‘an apt legal mechanism to protect the occupier during such a period of transition; he is there and can keep out trespassers’.⁸

15.2.3.4 Tenancy at sufferance

This form of tenancy cannot be assigned, devised or sublet. Furthermore, it may come to an end without either party to the lease issuing any formal notification. For example, if the lessor actually enters into occupation of the premises, or indicates that he objects to the continued occupation by the lessee, the tenancy will be extinguished and the lessee will become a trespasser.9 The fragile nature of the tenancy at sufferance indicates the personal character of the interest, and it is questionable whether it should be truly classified as a non-freehold estate.¹⁰

15.2.4   Distinction between a lease and a licence

A licence is essentially authority to enter land which prevents the person to whom it is granted from being regarded as a trespasser but which does not actually confer an exclusive right to possession; hence, a licence is merely legal permission for entry and it does not constitute an in rem interest.11 A bare licence is a personal licence to occupy which is not coupled with a contract. A contractual licence is a personal licence which is conferred by a binding contract. The nature of such a licence will be determined by the terms and conditions of the licence contract.¹²

A boarder or lodger will generally hold a contractual licence, although the exact nature of the relationship will depend upon the circumstances. In cases where no express agreement exists, courts will generally rely upon the oral agreement between the parties. In determining what the parties intended, consideration will generally be given to the nature of the occupation: does the lodger have exclusive possession?—does the landlord re-enter the premises without bothering to seek permission from the occupant?—and is the occupation intended for profitable purposes or is it purely a domestic and ‘social’ occupancy where a person has been permitted to reside as a guest?13

Builders contracted to renovate, repair or build on the property of another usually enter the premises pursuant to a contractual licence. In most situations, the terms of such a licence include a provision entitling the licensor to revoke the licence where any dispute arises. In England, the court in Hounslow London Borough Council v Twickenham Garden Developments Ltd [1971] 1 Ch 233 held that where a licence was revoked in breach of contract, equity could provide relief to restrain the negative stipulation. This effectively meant that the licence became irrevocable insofar as it offended the terms of the contract. This decision has not been followed in Australia (Graham H Roberts Pty Ltd v Maurbeth Investments Pty Ltd [1974] 1 NSWLR 93). In Corporate Affairs Commission v Australian Softwood Forest Pty Ltd (1978) 3 ACLR 502, Helsham CJ noted that a licence was prima facie revocable unless granted in aid of an enforceable property right.

In some instances, the circumstances do not clearly delineate whether the arrangement was intended to operate as a lease or a licence. In such cases, the court must consider what the parties properly intended. A lease will only be inferred where a clear intention to confer full title and exclusive possession can be established. This is clearly inappropriate in circumstances where permission to occupy land is given purely for limited employment purposes. Builders and other temporary workers will rarely be able to establish that a lease was intended, but it is possible in circumstances where the exclusive occupation of the land is essential for the proper performance of the obligations. For example, it has been held that the manager of a nursery held a lease over premises he occupied at the nursery because it was necessary in order for him to maintain and safeguard the plants (E & W Hackett Ltd v Oliver [1953] SASR 19).¹⁴

The primary differences between a lease and a licence can be summarised as follows:

15.2.5   Sublease and assignment

The subtenants will be governed by the sublease agreement and not the head lease. Each lessee will be responsible to his owner/lessor, as each lease confers not only privity of estate but also creates privity of contract. A usual term of most sublease contracts is the requirement that the sublessees observe the lease covenants under the head lease. This is required in order to ensure that the actions of the sublessees do not result in a breach of contract by the head lessee. As compliance with the terms of the head lease is vital for the continuance of both lease interests, the incorporation of a term ensuring the grant of the sublease does not constitute a breach of the head lease is both necessary and judicious.

Where a lessee grants a sublease in breach of the terms of the head lease, the sublease will remain, but the sublessor will be in breach of contract. Such a breach will generally entitle the head lessor to recover possession of the premises from all parties—including the sublessees.15 Where a lessee under a tenancy at will or a tenancy at sufferance attempts to assign or sublet the lease, it will automatically expire without conferring any sublease.¹⁶

A lessor cannot unreasonably withhold consent. It has recently been held in Australia that a lessor is entitled to withhold consent and will be acting reasonably where motivated by the predicted damage that granting the sublease would cause to the future prospects of leasing surrounding land; it would seem that a lessor will be acting reasonably wherever it can be established that the sublease will cause immediate financial damage.¹⁷ Where the refusal is not financially motivated, courts will need to consider the circumstances carefully. When deciding whether or not consent has been unreasonably withheld, the inherent right of the lessee, as holder of an interest in land, to alienate that right must be borne in mind. Where a sublease has been granted without the consent of the landlord, under common law it is not voidable; the landlord holds the right to forfeit the lease but it is not void ab initio.

The lessor is not obliged to give a lessee any express reasons for refusing consent, and the burden is upon the lessee to establish that the refusal is unreasonable.¹⁸ Where consent is given conditionally, in all states except South Australia and Tasmania, no fine or sum of money shall be payable in exchange for such consent.¹⁹ In Victoria, s 144(1) of the Property Law Act 1958 sets out that, where the right to sublease or assign is limited (rather than prohibited), and this limitation is subject to the landlords consent, the landlord cannot require a fine or sum of money in return for granting consent unless it is a payment of a reasonable sum for legal or other expenses, and such consent cannot be unreasonably withheld.

A sublease must be granted for a term which is less than the head lease. Where a sublease is granted for a term equal to or greater than the duration of the head lease, it will constitute an assignment.20 It is possible for successive subleases to be executed, provided the duration of the head lease is not completely extinguished.

Whilst common law regards the rights of sublessees as having been extinguished where the head lease is terminated, statute now provides some protection to subtenants in such circumstances. The legislation is similar in all states and sets out that where a landlord is seeking to forfeit a head lease and re-enter the premises for a breach of any lease covenant, a court may, upon the application of a subtenant, make an order vesting the entire leasehold estate in the subtenant.²¹ Such an order can only be effected where it can be established that the subtenant has acted properly and reasonably and has not participated in the breach of covenant.

Furthermore, where a merger between a head lease and a reversionary estate occurs, statutory provisions expressly preserve the continuance of any sublease in existence. The legislative provisions are similar in most other states.²² Section 139(1) of the Property Law Act 1958 reads as follows:

Where a reversion expectant on a lease of land is surrendered or merged, the estate or interest which as against the lessee for the time being confers the next vested right to the land shall be deemed the reversion for the purpose of preserving the same incidents and obligations as would have affected the original reversion had there been no surrender or merger thereof.

15.2.5.2 Assignment

Where a lessee disposes of the entire lease to a third party, the disposal will constitute an assignment. Where an assignment is executed, the assignor will remain liable to the lessor for all breaches of the lease contract which were committed prior to the execution of the assignment. Furthermore, the assignor will retain privity of contract with the landlord and, for the remainder of the term of the lease, will be liable for any breach of covenant.

The new third party assignee to the lease will not be liable under the original lease contract. Any liability incurred by the assignee/lessee will be a consequence either of a new contractual arrangement or the title conferred upon the assignee/lessee. If no new contractual arrangement is entered into, the assignee/lessee can only be liable for breaches of the lease covenant where it is established that the covenant is annexed to the land. This requires proof that the covenant ‘touches and concerns’ the land—the relevant tests are discussed in Chapter 12, para 12.3.3.

The test for determining whether or not a lease covenant touches and concerns the lease premises has been summarised in P & A Swift Investments v Combined English Stores Group plc [1989] AC 632, per Lord Oliver of Aylmerton (p 642):

(1) the covenant benefits only the reversioner for time being, and if separated from the reversion, ceases to be of benefit to the covenantee; (2) the covenant affects the nature, quality, mode of user or value of the land of the reversioner; (3) the covenant is not expressed to be personal (that is to say, neither being given only to a specific reversioner nor in respect of the obligations only of a specific tenant).

The primary consideration in this test is that the covenant relates to the use of the land rather than the personal use of the parties to the lease. If the covenant is better regarded as a personal’ contract, then it will not be annexed to the land and cannot be enforced by assignees. Covenants which touch and concern leased premises will generally be those which concern the character of the property itself; for example, the maintenance, repair or structural obligations of the lessee with respect to the land or the financial upkeep of the property including obligations relating to the rent, rates, insurance, advertisement fees.²³

The position is highlighted in the following example. A executes a 10 year, fixed term lease with B, who later assigns the entire 10 year interest to C. C then sublets the premises for two years to D, who then assigns this two year interest to E. A then sells the property to F. Privity of contract here will exist between A and B, B and C, C and D, and D and E. In each of these independent relationships, both parties can enforce their respective contractual obligations. The landlord/tenant relationship, however, only exists between F and C and C and E. The original lease agreement was between A and B, but B has assigned the entire lease interest to C and A has assigned the reversionary estate in the land to F. In this situation, there is no privity of contract between F and C, and unless a new contract is entered into, the lease covenants may only be enforced where they are proven to touch and concern the land. Similarly, there is no privity of contract between F and E; no enforceable legal, contractual relationship exists between the primary landlord and the subtenant, and E will only be bound by covenants which attach to the reversionary estate held by F.

Where a tenant assigns the leasehold estate to an assignee, the assignee will be able to sue the landlord for a breach of covenant where it can be established that the particular covenant satisfies the touches and concerns test discussed above. Similarly, the landlord will also be able to sue the assignee for any breach of covenant, provided the covenant touches and concerns the land. An assignee will only be liable for those breaches of covenant which occur after the assignment has taken effect and the assignee is vested in possession. If the assignee assigns the lease to a third party without making good the breaches, the assignee will remain liable for all those breaches she has committed.24

Where the lessor assigns the reversionary estate, each state has introduced legislation dealing with the passing of the benefit of all covenants attached to the land. The provisions are identical in each state. Section 141(1) of the Property Law Act 1958 (Vic) reads as follows:²⁵

Rents reserved by a lease, and the benefit of every covenant or provision therein contained, having reference to the subject matter thereof, and on the lessee’s part to be observed or performed, and every condition of re-entry and other condition therein contained, shall be annexed and incident to and shall go with the reversional estate in the land…

Where a landlord assigns the reversionary estate to an assignee, the benefit of any covenant annexed to the land will pass with the estate. The section makes no mention of the need for the covenant to touch and concern the land; however, it has been interpreted to follow the common law requirements.²⁶ Once the estate is assigned, the right to sue for past or present breaches will vest in the assignee. Courts have reached this conclusion on the basis of the express inclusion in the statutory provisions of the words ‘shall be annexed and incident to and shall go with the reversionary estate in the land’.²⁷

Legislation has also been introduced in each state dealing with the passing of the burden of a covenant.²⁸ Section 142(1) of the Property Law Act 1958 (Vic) reads as follows:

The obligation under a condition or of a covenant entered into by a lessor with reference to the subject matter of the lease shall, if and as far as the lessor has power to bind the reversionary estate immediately expectant on the term granted by the lease, be annexed and incident to and shall go with that reversionary estate, or the several parts thereof, notwithstanding severance of that reversionary estate, and may be taken advantage of an enforced by the person in whom the term is from time to time vested by conveyance, devolution in law, or otherwise; and, if and as far as the lessor has power to bind the person from time to time entitled to that reversionary estate, the obligation aforesaid may be taken advantage of and enforced against any person so entitled.

Where the reversionary estate of a landlord under an equitable lease is assigned, the legislation still applies, because a broad definition of ‘lease’ has been adopted. The position differs where the equitable lease is assigned. The equity jurisdiction does not recognise privity of contract as it is a common law construct. Hence, where a lease is equitable, or is assigned in equity, the rule is that the benefit of all lease covenants will pass to the assignee, but not the burden.29 This means that a landlord would not be able to enforce the burden of a lease covenant against an assignee of the equitable lease or an equitable assignee.

It has been suggested that, with the introduction of the Judicature Act 1873 (UK) and its equivalent Australian provisions, the relationship between common law and equity has changed to such an extent that such a distinction between the common law approach and the equity approach is no longer justified.³⁰ As the express terms of the judicature legislation are purely procedural, and do not purport to introduce any substantive change to the law, it is probably better to justify any ‘fusion’ between the common law and equitable approach upon the functional advantages of merging ‘similar’ principles and eradicating technical and confusing distinctions.³¹

15.3   Requirements for a valid lease

15.3.1   Exclusive possession

The case was an appeal from a finding of the Supreme Court of NSW that the arrangement amounted to a lease and that the court therefore had jurisdiction to determine a fair rental price. It was held that, in form and matter, the deed resembled a lease, although it did not use the words ‘lessor’, ‘lessee’ and ‘lease’. It was held that this issue alone cannot be determinative, because the real significance lies in the substance of the transaction. The court noted that the true test of a supposed lease is whether exclusive possession is conferred upon the potential lessee. The deed set out that the appellants were to carry on a milk bar. According to McTiernan J, this business could only be properly performed if the persons involved retained exclusive possession of the premises. The agreement contemplates that the so called ‘licensee’ is to have control of the premises and is to take responsibility for the windows, doors, locks, etc. This conferral of control for the term of the agreement was ultimately held to indicate an intention to grant exclusive possession and, consequently, a leasehold interest existed. His Honour therefore found that, in substance, a lease was intended, and the relationship could therefore be subject to a determination by the Fair Rents Board.