Most of you, as franchisors enter into leases of premises. In an
era where landlords want to maintain the appearance of healthy face
rents and attract tenants in a struggling retail environment, it is
now a given that landlords will offer incentives.
What are incentives?
Incentives are a benefit offered by landlords to tenants when
entering into leases. They are a sum of money and can take various
forms (in any one transaction one or combination of):
Contribution to fit out
Reduction in rent
Amortised discount in rent.
This isn't a common form of incentive and, even if it is on
offer, you need to consider the tax implications of this. Will it
be income taxed in your hand?
Contribution to fit out
This is a more common incentive with the landlord contributing
towards your fit out. The big issue I see often is around timing of
payment. Will the landlord pay instalments – say, an initial
sum when documents are signed, deposits paid, insurances given,
security provided and work is started, then more when work is
finished and a final amount when you commence trade? You need to be
careful that the lease allows the landlord to pay your contractors
directly. The landlord will also want to obtain the benefit of
depreciation of the fit out and will usually require a selection of
items of fit out – I like to call this depreciation schedule
a shopping list!
Reduction in rent
You may take your incentive in the form of a rent reduction. Say
if your incentive is $100,000 – you may elect to not pay rent
until you have used up your incentive so, if your monthly rent is
$10,000, you wouldn't pay rent for the first 10 months. In
other words, you're given a rent free period.
Amortised discount in rent
Some tenants may choose to take their incentive over the term of
the lease. Using the same example of $100,000, you may decide to
spread that $100,000 across the full term of the lease so that each
monthly instalment of rent is discounted.
Beware the hidden traps
Read the fine print carefully. Can your incentive be clawed
back? The landlord may say that if you assign your lease or give up
occupation (say if you licence or sublease to your franchisee) or
change the control of your company, you have to pay back your
incentive or it may cease. Try to negotiate limits to the crawl
back – like a sliding scale which means less of the incentive
is clawed back the longer the term of the lease so that 100% would
be repayable in the first year and zero at the end of the term; or
you may limit any claw back to the first three years (where you
have a five year term) - or to not apply at all where you sub-lease
or licence to a franchisee, assign to a related party or there is a
change in control. This is a big issue that I see repeatedly during
Another hidden trap is including the incentive in any market
review. Most leases I review, will have a market review upon
exercise of option. You need to read the criteria that is included
in the lease for a market review. Often, any incentives given to
the tenant for the particular lease or any incentives offered in
the market place are excluded from a market assessment. I advise my
clients to try and have incentives included because face rents look
really healthy but are often masked by generous incentives.
Also, make sure that the incentive is transferrable – to
your assignee of your lease and to any person who buys the premises
off your landlord. Landlords often object to the right for you to
assign your incentive to any assignee of the lease and will say
they have given the incentive to you only. Quite frankly, this
argument doesn't stack up. If your assignee meets the criteria
for assignment (which means they will have been assessed and
approved by the landlord) why shouldn't they be assigned the
benefit of the incentive – particularly involving a rental
discount over a longer term! In addition, you need to make sure the
lease documentation clearly says that the landlord must procure
that any incentive being paid to you must be honoured by any party
who buys the premises – otherwise once the premises is sold
your new landlord won't need to pay the incentive leaving you
to recover it from your original landlord.
The message in all this is that an incentive is a valuable
commodity – it enables landlords to attract tenants so as to
trade off a higher face rent. However, for you franchising tenants
out there, look carefully at the form it will take and the hidden
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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