Australia: High Court delivers judgment on lease interpretation, highlights importance of clarity and precision in drafting

What you need to know

• A recent decision of the High Court reinforces the importance of ensuring that all contractual documents, including leases, state fully, clearly and precisely the commercial terms agreed by the parties.
• While the High Court's decision relates specifically to a long-term farm lease in circumstances where the parties to the lease had changed over time, the lessons learned are applicable to any commercial lease.
• Both landlords and tenants should take heed of the outcome in the Ecosse Property Holdings case.

As we have explored previously, careless drafting of legal documents can have significant consequences, particularly when those documents come under the microscope in litigation.

In our December update, we looked at the Victorian Court of Appeal's decision in Ecosse Property Holdings Pty Ltd v Gee Dee Nominees Pty Ltd¹ where the Court had the task of interpreting an outgoings clause in a poorly drafted long-term farm lease which the parties intended to replicate, as far as possible, the conditions following a sale of the 'premises' to the tenant. The Court held that the outgoings clause did not oblige the tenant to pay all the outgoings in respect of the premises, and that a residual liability remained with the landlord for the payment of outgoings that were its responsibility as owner of the land. This, of course, is not what happens when land is sold by one party to another. Under a sale, the purchaser is responsible for the payment of all outgoings following completion.

The High Court has now heard the landlord's appeal from the Victorian Court of Appeal's decision, and has handed down its decision as Ecosse Property Holdings Pty Ltd v Gee Dee Nominees Pty Ltd [2017] HCA 12 (Ecosse Property Holdings). Here, we identify the lessons that can be learned from the High Court's decision.

The facts and issue for the High Court

The lease in question was entered into by Westmelton (Vic) Pty Limited (as landlord) (Westmelton) and Peter Morris (as tenant) in 1988 and registered. The leased land was part of a much larger parcel of land owned by Westmelton. Previously, the parties had considered subdividing the larger parcel of land to create a separate lot for the leased land which could be sold to Mr Morris. Unfortunately, planning restrictions prevented this. The parties then decided to deal with the land by way of a lease for a term of 99 years for a rental of $70,000, which was paid in full in advance of the lease's execution. It was common ground between the parties that the rental of $70,000 reflected the market value of the premises. At the time of entry into the lease, Westmelton was in receivership.

In 1993, Westmelton sold its interest in the land subject to the lease to Ecosse Property Holdings Pty Ltd. In 2004, Gee Dee Nominees Pty Ltd took a transfer of the lease from Peter Morris.

The relevant provisions of the lease which were in dispute between Ecosse Property Holdings as landlord and Gee Dee Nominees as tenant were clauses 4 and 13.

Clause 4:

Clause 13:

The issue for the High Court was the significance of clause 13 and other surrounding circumstances for the interpretation of clause 4 governing liability for the payment of rates, taxes and other outgoings.

The decision of the High Court

The High Court held by majority that, on its proper interpretation, clause 4 imposed on the tenant the obligation to pay all rates, taxes, assessments and outgoings whatsoever that were payable during the term of the lease in respect of the land leased to the tenant. Kiefel, Bell and Gordon JJ delivered a joint judgment representing the reasons of the High Court. Gageler J delivered a separate judgment agreeing with the orders of Kiefel, Bell and Gordon JJ for similar reasons. Nettle J dissented.

Each judge approached the task by reference to well established principles of contractual interpretation:²

• The terms of a commercial contract are to be understood objectively by what a reasonable businessperson would have understood them to mean, rather than by reference to the subjective intention of the parties.
• This requires that the reasonable businessperson be placed in the position of the parties.
• It is from this perspective that the court considers the circumstances surrounding the contract, and the commercial purpose and objects to be achieved by it.

With these principles in mind, their Honours approached the task of interpreting the allocation of responsibility for outgoings under clause 4. Two factors were critical to the decision of the majority.

1. The commercial purpose of the transaction and clause 13's role in identifying that purpose.

Kiefel, Bell and Gordon JJ noted³ that clause 13 did more than just identify the term of the lease, the rental and the basis on which the rental was paid. It also offered an explanation of why the parties entered into a lease rather than a contract for sale and purchase. It explained that the parties had chosen instead to convey a leasehold estate for almost a century for a fixed sum in circumstances where they were unable to convey a freehold estate in the land. This stated purpose, in conjunction with the removal of the covenants restricting the tenant's user and capacity to deal with the land and the landlord's rights of inspection and termination for breach and re-entry, supported the conclusion that the lease was intended to recreate, as far as possible in a lease, the conditions which would have existed following a sale. In their Honours' opinion, this conclusion would have followed even without clause 13 having regard to the surrounding facts and circumstances which a reasonable businessperson in the position of the parties may be taken to have known.

2. The receivership of Westmelton

The tenant argued that the failure to include an option to renew or to purchase for a nominal sum at the end of the lease suggested that the landlord had agreed to bear responsibility for outgoings payable by the landlord as owner on the basis there was value in the freehold on expiry of the lease. The landlord countered that the omission was inadvertent. The majority favoured the landlord's view. Kiefel, Bell and Gordon JJ noted[4] that it was highly unlikely that a receiver would agree to burden the landlord company with uncertain financial obligations over the term of a 99 year lease.

Important observations

The first point to note is, as indicated in our previous update following the Court of Appeal's decision, the need for care in drafting. Of the nine judges that considered the lease, three decided the case in favour of the tenant. It could easily have gone the other way.

The second point to note is that care must be taken with the form of document used to document the parties' agreement. This is particularly so in a case such as Ecosse Property Holdings as it is not unknown for leases to be used as documentary vehicles for the disposal of land. Such leases need to be drafted with considerable care. In retrospect, the original parties' decision to use an old precedent form of farm lease for this transaction was ill advised and could have resulted in those parties bearing considerable cost in having the High Court decide what their document meant. In the end, those costs were borne by the landlord who purchased the land from Westmelton and the tenant who took an assignment of the lease.

However, the same is also the case with any commercial lease. A well-drawn lease, like any transaction document dealing with property, needs to take proper account at the outset of the nature of the property being conveyed and the level of control that the landlord or the tenant wishes to have over the building and the premises respectively during the term of the lease. For example, the parties to a lease of land may wish to allocate risk and responsibility for the repair and maintenance of the improvements on the land differently to the way such risk is allocated in a lease of premises where the landlord has ongoing responsibilities to other tenants in the building or on the site. Leases of premises in a building which is subject to a strata scheme add an additional layer of complexity, in that the owners corporation (who will be a stranger to the lease) has control of the common property including the services that are provided to the strata lots within the scheme. These things need to be considered before deciding on the form of lease to be used for a particular transaction.

The third point to note is that the High Court was interpreting the meaning of the outgoings clause in circumstances where the lease was registered presumably because of its long term and neither party to the dispute was a party to the original transaction. A failure to use an appropriate form of document and to draft carefully can have consequences for third parties who take title subject to the document where there is little or no evidence of the objective purpose of the transaction. It can also have consequences for the original parties where poor drafting or document selection may introduce a significant risk to the value of what is being conveyed, either when the land is sold to a purchaser or when the lease is assigned to an incoming tenant.

These risks are amplified when considering the comments of the High Court in a recent case concerning a registered easement (see Westfield Management Limited v Perpetual Trustee Company Limited (2007) 233 CLR 528 (Westfield Case). There, a unanimous High Court said:

Having regard to these comments, it could be said that the landlord in Ecosse Property Holdings was fortunate that clause 13 was included in the lease, as this allowed the Court to interpret clause 4 consistently with the Westfield case by focussing on the significance of clause 13 to the commercial objectives of the lease. The result could have been different if clause 13 did no more than state the term of the lease, the rental and the basis on which the rental was paid.

Key takeaways

The key takeouts from the High Court's decision in Ecosse Property Holdings are:

1. All contractual documents, including leases, should state fully, clearly and precisely the commercial terms agreed by the parties.
2. Care needs to be taken at the beginning of any transaction in identifying the right form of document for the transaction. The wrong choice of document can produce unintended commercial consequences resulting in expensive litigation ending up in the High Court.
3. These risks may be amplified in the case of long term leases when a dispute arises years down the track after the parties have changed. In these circumstances, it may be difficult to refer to evidence outside the terms of the lease to assist a court in interpreting the commercial objectives of the lease. In Ecosse Property Holdings, this issue did not arise as the inclusion of an express term setting out the commercial objectives of the transaction enabled the High Court to resolve the dispute using the usual rules of contractual interpretation that apply to commercial contracts.

Footnotes

¹ [2016] V ConvR 54-879.
² Kiefel, Bell and Gordon JJ at [16] and [17], Gageler J at [45] and Nettle at [73].
³ At [18] and [19].
⁴ At [25].
⁵ At 539.

This article is intended to provide commentary and general information. It should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this article. Authors listed may not be admitted in all states and territories