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Indian Commercial Real Estate Leases– Points to Ponder

Contractual lease provisions are freely negotiable in India. In the absence of a contract to the contrary, the Transfer of Property Act 1882 (“TOPA“) provides for certain rights and liabilities which govern the relationship between the landlord and the lessee. A lease deed is typically drafted by the landlord and thus, may contain several conditions that favour the landlord. It is however important to ensure that an effective commercial lease deed protects the rights of the lessee as well. In this Article, we have identified a few practical key issues of a lease and critical terms of a lease deed that a lessee should be watchful of. While negotiating a lease, the lease deeds should be examined closely and, more importantly, understood completely before you even consider signing one. The devil is in the details, after all. 

  • Leased Space 

It is important to determine exactly what space you are renting including the common areas such as restrooms and elevators and hallways. Leases are typically paid for in a square foot rate. Often commercial lease deeds are old and not updated and the actual space being leased is less due to remodeling, repairs or simple measurement errors. Different landlords also have different measurement practices. The actual space being leased needs to be determined to avoid overpaying for the lease. 

  • Term of the Lease and Renewal Options 

The duration of the lease known as the term of the lease should be negotiated keeping in mind the renewal options available to the lessee. The lessee should have the option to renew the lease. In India, most leases do not have an automatic renewal term due to the stamp duty payable on such lease deeds. If the lease deed contains a provision for automatic renewal for a period of two years after the expiry of the three year term of the lease, the stamp duty payable on the lease deed is considered for a period of 3+2 years. This is one of the reasons why leases in India include a provision for executing a fresh lease deed in the event the lessee decides to renew the lease term. 

  • Registration and Stamping 

Section 17 of the Registration Act states that leases of immovable property from year to year, or for any term exceeding one year, or reserving a yearly rent must be registered compulsorily. Further, section 107 of the TOPA states that a lease of immovable property from year to year or for any term exceeding one year or reserving a yearly rent can only be made by a registered instrument. This is one of the reasons why residential rent agreements are often for 11 months, so as to avoid stamp duty costs. Registration of the lease agreement ensures that it can be produced and used as evidence in court, in the event of any litigation related to the agreed terms and conditions affecting the leased property. The Registration Act 1908, further states that an instrument which requires mandatory registration, should be registered within a period of four months from the date of its execution.

Registration of a lease agreement involves payment of stamp duty as well as registration fees. Stamp duty payable depends on the state laws of where the property is situated. Generally, stamp duty is chargeable on the basis of the term of the lease, the amounts of rent, premium and / or any other form of rent and premium set forth in the lease agreement to be executed. It is important to decide which party shall bear the stamp duty and registration costs.The Indian Stamp Act, 1899[1] states that in the absence of an agreement to the contrary, the expense of providing the proper stamp for a lease agreement is to be borne by the lessee, this has been adopted by majority of the states of India including Delhi, Maharashtra[2] and Karnataka[3]. If proper stamp duty is not paid on lease instruments, any government authority competent to take evidence on oath can impound it and send it to the jurisdictional Collector of Stamps for adjudication and payment of proper stamp duty, along with a penalty which may vastly exceed the deficient stamp duty amount.

  • Security Deposit 

Commercial as well as residential real estate leases include payment of a fixed amount that is required to be deposited with the landlord, as security. This security deposit will be a multiple of the monthly rent security deposit by the lessee to the landlord. This security deposit is maintained by the landlord for the entire term of the lease. Lessees should be careful about the provision with respect to the payment of the security deposit and the timing of it. Some lease deeds state that the security deposit payable by the lessee should be paid simultaneous to the execution of the lease deed. Given that registration of leases is mandatory, the security deposit should be payable by lessee only upon registration of the lease document and lessees should ensure the same to guarantee registration of the lease agreement.

The lease agreement should also clearly mention conditions under which the landlord can make deductions from the security deposit and when the security deposit shall be returned to the lessee. 

  • Consent from Lender 

While under the TOPA[4], a mortgagor is permitted to lease mortgaged property, this is subject to certain terms and conditions provided therein. One such condition is that the lease cannot contain a covenant for renewal. Another condition is that in the case of a lease of buildings, the duration of the lease cannot exceed three years, and the lease shall contain a covenant for payment of the rent and a condition of re-entry on the rent not being paid within a specified time. 

  • Repair Obligations 

Holding a lessee responsible for internal as well as external repairs of the leased premises is a tremendous cost for the lessee. The corporate leasing the space should be responsible only for repairs of the equipment, fixtures and furniture inside the premises and to maintain the premises in a condition as it was in at the outset of the lease. The landlord on the other hand should be liable and responsible for other external and structural repairs that the premises require.

  • Withholding Rent

While negotiating a lease agreement, the landlord and the lessee should contractually agree upon situations where the lessee is permitted to withhold rent payments, for example, in situations where the landlord fails to carry out necessary maintenance or repair works in the stipulated period, resulting in the lessee undertaking the work himself, or other breach of the lease by the landlord. Lessees should also be permitted to withhold payment during a force majeure event which renders the leased premises unfit for the lessee’s use. The lessee can withhold rent payments until the leased premises is repaired and brought back to its original state.

  • Assignment and Subleasing 

Another important aspect to be looked into while negotiating a lease is to determine if the lease agreement gives the lessee the right to be assigned or sublease the lease to another lessee. Most commercial leases permit assignment or sub-letting to group companies or affiliates.

Conclusion 

A commercial real estate lease agreement is a binding legal agreement the terms of which are pivotal in the survival of your business. The lease agreement is the primary document referred to in the event of any disagreement between the parties to a lease and should be carefully examined, understood and negotiated and not rushed into.

[1] Section 29 (c) of the Indian Stamp Act, 1899
[2] Section 30 (b) of the Maharashtra Stamp Act, 1958
[3] Section 30 (b) of the Karnataka Stamp Act, 1957
[4] Section 65A of TOPA

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