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Lessee vs Lessor: New leasing regulations shift the balance of power
Over the last six years, Greece has been under an austerity restructuring and adjustment programme, receiving extended support from European financial institutions and international creditors, in an attempt to tackle its structural weaknesses, overly high deficits and incessant market stagnation.
Throughout the current financial turmoil, the Greek real estate market has experienced significant contraction and remains subdued, whereas commercial leases, as leases in general, have recorded a large decline in demand, inevitably resulting in excess supply, downward pricing trends and fall in transactions. Given the slowing economy and tighter credit standards, commercial real estate activity has curtailed, as a result of business financial distress and investment reluctance, creating higher vacancy rates.
Changes in real estate prices and constant demand for downward adjustments of rent have intensified pressure to redefine market values, renegotiate rents and review leasing terms and conditions under a rebased legislative framework, in line with current occupational market needs and developments.
Greek legislation on commercial leases has gone through several reforms over the last decades, constantly amending and shifting its protective provisions towards the less privileged party of the lease agreement, as these evolve following each market change, in an effort to keep up with market trends and secure optimal balance of power between the Lessor and the Lessee.
Four decades ago, the law distinguished between commercial and occupational leases, creating a protection regime in favour of the Lessee. The Law at the time stipulated that commercial leases would have a minimum term of 9 years, regardless of the duration initially agreed by the Parties, which could be extended for 3 more years should the Lessee opt for this. On the other hand, occupational leases had a minimum term of 3 years, irrespective of the initial Parties' agreement and, similar to commercial leases, could be amicably terminated by virtue of a subsequent agreement bearing a certain date.
Almost twenty years later, in order to harmonize its provisions with the economic climate affecting the real estate market at the time and the need to boost business activity, subsequent legislation on commercial leases attempted to move further the balance of power between the Lessor and the Lessee towards the latter. A mandatory minimum 12-year lease term with an automatic 4-year extension following the expiry of the mandatory term was introduced, during which the Lessor could not unilaterally terminate the agreement. Exceptionally, in case the Lessor opted for unilateral termination after the minimum 12-year term, they were requested to notify the Lessee 9 months in advance and compensate them with 24 monthly rents. On the other hand, the Lessee was required to stay in the leased premises for a minimum period of 2 years, following which they had the option to unilaterally terminate the agreement by giving a 6-month notice and paying compensation equal to 4 monthly rents.
Adding more to the trend above, four years ago the law changed even more to the benefit of the Lessee, requiring them to stay in the leased premises for a minimum period of one year and granting them the option to terminate the lease agreement unilaterally for no cause, provided that the counterparty was duly notified at least 3 months in advance and received compensation amounting to one monthly rent.
The above somewhat onerous provisions of the former legislation towards the Lessor, coupled with increased property taxes during the financial crisis, contributed to a downward spiral in real estate prices, making the real estate market a "buyer's/lessee's" market, with no balance in transactions and dramatic decrease in real estate portfolios' valuations; an urgent need arose for establishing a new institutional framework on the basis of the parties' freedom of choice, aiming at the market's revitalization.
Law 4242/2014, amending Presidential Decree 34/1995, was published on 28 February 2014 and comes in response to the call for partial market liberalization and uninterrupted business activity. Article 13 of the Law introduces specific provisions and key amendments to pre-existing legislation, drawing a clear distinction between new and existing leases, namely leases that were concluded prior or subsequent to the date of the Law's enactment.
The new Law does not apply to lease agreements in force (concluded, expressly or tacitly renewed or extended) before 28 February 2014, except for those whose statutory 12-year duration has expired and more than 9 months have passed since such expiry ("existing leases").
Existing leases are always regulated by Presidential Decree 34/1995, with minor changes affecting provisions on own-using and reconstructing the premises, the termination of the agreement and its repercussions, as well as the compensation to the Lessee.
More precisely, in respect of commercial leases that have been concluded before 28 February 2014, the Lessor may not terminate the lease for own-using the property, unless 18 months have passed since the date when the agreement entered into force; in case of termination for reconstructing the property, there is no set time frame and the limits may differ depending on the agreed lease term. In respect of the lease term, the previous minimum 12-year duration still applies for existing leases; on the contrary, the automatic 4-year extension provision has been abrogated.
Otherwise, the Lessee may still terminate the agreement unilaterally for no cause one year after the effective date of the lease, provided that the counterparty is duly notified at least 3 months in advance and receives compensation amounting to one monthly rent. Contrary to the previous regime, however, the new Law provides no obligation for the Lessor to compensate the Lessee for the goodwill of the leased premises following the expiry of the agreement's statutory 12-year term, with the exception of agreements whose 12-year term is due to expire until 31.08.2014, or such 12-year term has been tacitly renewed but for no more than 9 months until 31.08.2014, in which cases the Lessor still has to compensate the Lessee, but with 6 monthly rents.
In respect of commercial leases concluded after 28 February 2014 ("new leases"), the Law stipulates that they shall have a minimum term of three years, regardless of the duration initially agreed by the Parties.
Aspiring to strengthen the recovery prospects in the Greek real estate market and improve business expectations, Law 4242/2014 restricts the scope of the Lessee's protection regime, without eliminating the respective protective provisions altogether. By introducing a more market-oriented approach (the 3 -year statutory minimum lease term is certainly closer to the business realities of nowadays in comparison to the previous 12-year term), balance of power is slightly shifting towards the Lessor, in the hope of reversing the downward trend in real estate prices.
The latest provisions on shortened minimum lease term and early termination should eventually lead to the upturn of the Greek real estate market, as they eliminate the risks of "locking down" properties for long periods of time and allow for flexible arrangements, in line with the market volatility of today.
Rent Reduction Actions
In the backdrop of Greece's fiscal and structural problems and property market crisis, Lessees press for renegotiation and downward adjustment of rent, and rent reduction actions come as a trend amid continuing uncertainty and negative medium-term expectations.
The legal basis of an action for the reduction of the rent payable in a commercial lease is Article 288 of the Greek Civil Code (GCC), based on which the Lessee is expected to perform their contractual obligations according to the principles of good faith and fair trade practices.
Courts have interpreted this provision as a restriction of the Lessor to demand that the Lessee abides by the lease contract regardless of whether the latter is unable to meet their obligations. The Lessee needs to demonstrate that their business in the leasehold performs so poorly that they are unable to meet the agreed rent and that the bad performance seems structural and permanent and not circumstantial, whereas that evacuating the premises in order to settle in a less expensive leasehold is not an option, either because it is not permitted by the contract or it is extremely expensive for the Lessee.
Another important factor is the "fair rental value" of the property, which should be evidenced on the basis of comparative data (the rental value of similar leaseholds with comparative characteristics, mainly size, location, type of leasehold etc.). The Court has full discretion to determine the fair rental value but it also needs to take into account the interests of the Lessor, so it usually reduces the rent at a range of 20% to 30%, even if the fair rental value is lower, because it also considers that there is a valid contract which the parties still need to respect; the fair rental value should be strictly upheld and serve as a guide primarily for new leases, where the parties are free to negotiate the rent.
The Court will grant the reduction, which applies after the decision is final and from the moment the action is served to the Lessor (a period which can be anything from 1,5 to 3 years) only when convinced that, if the Lessor insists on the terms of the contract, the viability of the Lessee's business may be under serious threat. In practice, a significant proportion of such kind of actions never reaches the Courtroom, or at least the second degree, because in the meantime the parties prefer to settle, especially if the evidence of the Lessee seems substantiated and solid.
At the beginning of the financial crisis it was customary for Lessees to also rely upon Article 388 of GCC, which provides that, if there is an unforeseen material change of the circumstances under which a contract was consummated, then the parties may seek judicial protection, so that the obligations of the parties are readjusted in fairness. This legal basis was usually supplementary to the main basis of Article 288. It is interesting to observe that the crisis is now seen as having taken a rather permanent nature, and for all contracts that have been consummated within the new difficult business reality, Article 388 GCC can no longer be evoked, since any change of the circumstances prevailing at the time of signing a contract can no longer be considered to be "unforeseen".
Going over the historic development of Greek legislation on commercial leases and the respective shift in the balance of power between Lessors and Lessees, it could be safely concluded that, following a series of incremental reforms, the current legal framework is in the right direction, introducing more balanced changes and market friendly policies.
The parties' freedom to negotiate and agree on prices, terms and conditions of the lease agreement, along with the additional incentives of the new Law, should safeguard the revitalization and flexibility of the market and eliminate surprises and pitfalls in the parties' needs and dealings.
Given the bearing that the real estate market has on financial stability and macroeconomic developments, new legislation ensures the monitoring of real estate market conditions and prospects, as well as predictability and stability for business planning. The recovery of the property market will eventually hinge on the attainment of legal certainty and uniformity, which is expected to reverse the negative climate and trigger the interest of international investors.