Canada: The Ticking Time Bomb: The Tenant’s Restoration Obligation

Copyright 2011, Blake, Cassels & Graydon LLP

Originally published in Blakes Bulletin on Real Estate - Commercial Leasing, October 2011

When negotiating a commercial lease, it is not uncommon for the parties to spend a good deal of time negotiating rent, operating costs, taxes, utilities, maintenance and repair and other similar provisions that will govern the day-to-day relationship between the landlord and tenant. Although not overlooked entirely, the parties often spend less time – often to their detriment – considering the restoration provisions, being satisfied with the "typical" provisions and exceptions.

A typical commercial lease, for example, will require a tenant to leave the premises in the condition it was required to maintain the premises during the term of the lease or in a state of good condition and repair, in each case, subject to "reasonable wear and tear". Occasionally, a lease will require a tenant to surrender the premises in "first class condition and repair". What do these standards require of tenants?

Reasonable wear and tear

Generally speaking, where a tenant's restoration obligations are subject to a reasonable wear and tear exception, the courts agree that a landlord is not entitled to the return of its premises in a "pristine" condition, regardless of whether or not the premises were delivered to the tenant in that state.

Reasonable wear and tear means the reasonable use of the premises by the tenant during the term and the ordinary operation of natural forces and the passage of time. What is reasonable wear and tear will depend on a number of circumstances, including the age of the building, the inherent limits of its design, and the use to which the tenant intended to put the premises. Significantly more wear and tear might be expected, for example, in the course of a building used for industrial purposes, in comparison to a typical office building. In an office context, general wear of the carpet would be included in reasonable wear and tear, but large holes in the carpet would not be included.

If the tenant intends to rely on the reasonable wear and tear exception, it is the obligation of the tenant to prove that any deterioration of the premises at the end of the term resulted from reasonable wear and tear and not a failure on its part to maintain the premises throughout the term. In other words, the onus of proof is on the tenant, not the landlord.

Surrendering in "good" condition

Restoration obligations often require tenants to leave the premises in "good" condition and repair. The courts will consider this obligation in light of the condition of the premises at the commencement of the term. If the premises were received in good condition, then it makes logical sense that they will need to be delivered in the same condition.

What if the premises were received in a deteriorated condition or state of disrepair? Early English case law suggested that if the tenant agreed to surrender the premises in "good repair, order and condition", then it would be required to put the premises into that condition at the end of the term, even if the premises were not delivered to the tenant in good repair and operation. However, the Canadian courts have largely declined to follow the lead of the English courts and have held that absent express words to the contrary, this higher standard does not require a tenant to leave the premises in a better condition than they were received.

Surrendering in "first class" condition

Absent express contractual language to the contrary, while the obligation of the tenant to surrender the premises in "first class" condition may entitle the landlord to receive the premises back in a better condition than that which may be required of a tenant who is only required to deliver the premises in "good condition", it does not entitle the landlord to receive the premises back in a "new" or "like-new" condition.

To use the earlier flooring example, an obligation to leave the premises in first class condition would certainly require the tenant to repair any holes in the carpet. It would also likely require the tenant to replace any carpet showing significant wear. Absent any contractual language to the contrary, however, the tenant would not be expected to replace the entire floor with brand new carpeting throughout the entire premises, particularly if the tenant had not received the premises with brand new carpeting laid throughout. If this is the condition that the landlord expects to receive the premises, then the lease needs to clearly spell it out.

Practical tips

It is not uncommon for there to be disagreement at the end of the term as to original intent and expectations. Often, this disagreement will result in threatened (or actual) litigation. How, then, can a landlord and tenant draft a lease in order to make clear their intentions and expectations at the end of the term?

A prudent tenant will want to ensure that their restoration obligations are subject to a reasonable wear and tear exception, and that their obligations are measured in light of the age, design and use to which the premises were to be put. On the other hand, if the landlord expects to receive the premises back in new or like-new condition, it needs to be very clear about that expectation. Also, if the parties understand that certain components of the premises are not in working condition at the commencement of the lease but that the tenant will be required to put those components into working condition, that agreement needs to be properly articulated in the lease.

It may also be reasonable for the parties to conduct joint inspections of the premises at the commencement of the term, documenting with photographic evidence the condition of the premises. The parties should also consider having reports prepared by independent third parties regarding the condition of base building systems and structural components, which will provide them with a baseline.

As a general rule, it is clear that the precise language of the lease must be considered carefully and in light of the condition in which the premises were delivered to the tenant. As a result, restoration covenants should be considered a ticking time bomb with a very long fuse – they are ignored at your peril.

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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