Tenancy Agreement Legal Guide
FEB 2020 | LAST UPDATED
CONTRIBUTOR | SIDLEY AUSTIN LLP
The renowned legal and banking systems of Hong Kong, together with its role as a gateway between the East and the West have attracted many businesses overseas to establish operations in the city.
From a tenant’s perspective, this guide provides a high-level overview of key areas to consider when negotiating an office tenancy agreement.
This guide is provided for the purpose of general guidance only and should not be taken as legal advice.
PART 1: THE PROVISIONAL TENANCY AGREEMENT
Once a suitable property has been identified, negotiations will generally commence with the landlord, usually through an estate agent, as to the basic commercial terms for letting the property, including, among other things, the following:
the monthly rent and the deposit payable;
whether the monthly rent is inclusive or exclusive of outgoings such as management fees, air-conditioning charges, Government rent, rates and utility charges;
whether any additional air-conditioning charges are payable outside office hours;
the term and commencement date of the tenancy; and
whether there is any right for the tenant to prematurely terminate the tenancy or renew the tenancy upon expiry.
Where the tenant’s business activity is regulated by the Securities and Futures Commission of Hong Kong (the “SFC”), the tenant would need to consider whether the property could satisfy regulatory requirements (such as, record keeping, security, segregation and confidentiality) prescribed by the SFC.
SIGNING THE PROVISIONAL TENANCY AGREEMENT
Following a successful negotiation, the market practice is that the tenant and the landlord will sign an offer letter or a provisional tenancy agreement (which incorporates the basic commercial terms of the tenancy), and an initial deposit that is usually in the amount of one month’s rent, will be paid to the landlord. Generally speaking, this sort of offer letter or provisional tenancy agreement is legally binding. This means that if the tenant fails to observe the terms of the offer letter or provisional tenancy agreement, it will be in breach of contract.
If the offer letter or provisional tenancy agreement stipulates that the tenant has to sign the formal tenancy agreement in accordance with the landlord’s prescribed form within a certain period after signing the offer letter or provisional tenancy agreement, it is imperative for the tenant to review such prescribed form in advance so as to determine whether the content is acceptable or otherwise negotiable before signing the offer letter or provisional tenancy agreement.
If the formal tenancy agreement is to be entered into in the name of an entity (as the tenant) which has not yet been incorporated at the time when the offer letter or provisional tenancy agreement is signed, an explicit provision should be included in the offer letter or provisional tenancy agreement to the effect that the tenant named in the offer letter or provisional tenancy agreement can be changed at a later stage.
Where the basic terms of the offer letter or provisional tenancy agreement are complicated, the tenant should engage professional advisers to negotiate with the landlord or its legal counsel. Once the offer letter or provisional tenancy agreement has been signed, it will be extremely difficult to re-open negotiations of the agreed terms at a later stage.
PART 2: THE FORMAL TENANCY AGREEMENT
After signing the offer letter or provisional tenancy agreement, the parties will proceed to settle and sign a formal tenancy agreement (which embodies all the terms and conditions of the tenancy). The tenant should engage legal counsel, if it has not already done so, to review the formal tenancy agreement on its behalf.
There is no statutory prescribed form for formal tenancy agreement. Landlords and tenants may freely negotiate the form and terms of the formal tenancy agreement.
TENANCY AGREEMENT VS LEASE
The formal tenancy agreement may take the form of a tenancy agreement or a lease. A tenancy agreement is only required to be signed under hand whereas a lease must be executed as a deed. Where the term of the tenancy is three years or less, the formal tenancy agreement may take the form of a tenancy agreement; whereas if the term is more than three years, the formal tenancy agreement must take the form of a lease to be executed as a deed.
Compared with a “tenant” under a tenancy agreement, an “occupier” (i.e. licensee) under a licence agreement may enjoy the following benefits:
the duration of the licence agreement is flexible and either the licensor or the licensee may terminate the licence agreement by giving 2 to 6 months’ prior written notice to the other party;
basic office equipment may be provided by the licensor;
there is no need for the licensee to fit out the office when it moves in or reinstate the office when it moves out.
In the event that the occupier’s business activity is regulated by the SFC, the occupier would need to consider whether the office leased through a licence agreement could satisfy regulatory requirements (such as, record keeping, security, segregation and confidentiality) prescribed by the SFC.
PART 3: CONTENT OF FORMAL TENANCY AGREEMENT
The formal tenancy agreement should embody the basic commercial terms contained in the offer letter or provisional tenancy agreement and any other terms agreed by the landlord and tenant.
A formal tenancy agreement usually contains, among other things, the following obligations in relation to a tenant:
to pay rent;
to pay service charges, utilities charges, air-conditioning charges, Government rent and Government rates;
to maintain the interior of the property in a reasonable state and condition at the expense of the tenant;
to use the property only for the purpose stipulated in the formal tenancy agreement;
to comply with, and indemnify the landlord against any breach of, any law or regulation relating to the use and occupation of the property by the tenant;
to comply with the Government grant, deed of mutual covenant, house rules and insurances bought by the landlord relating to the property;
not to carry out any alteration, erection, partitioning or installation in the property without the prior written consent of the landlord; and
not to assign, sublet or otherwise part with possession of the property.
Below are some common obligations of a landlord which a tenant may request its landlord to include in the formal tenancy agreement:
to allow the tenant to quietly and peaceably hold and enjoy the property during the term of the tenancy without any interruption;
to pay expenses of a capital or non-recurring nature;
to maintain at the expense of the landlord, the structure, exterior, main and concealed cables, drains and pipes of the property; and
to observe and perform the Government grant and deed of mutual covenant relating to the property.
LANDLORD EXCLUSION LIABILITIES
There may be exclusion of liability provisions that apply in favour of the landlord in a formal tenancy agreement in respect of:
loss of life or loss, injury or damage to person or property owing to a breakdown or suspension of service, a spread of fire, an overflow of water, vermin and the like; and
the security of the property.
Such exclusions should be considered carefully and, if required, separate insurance arrangements that protect against such eventualities should be secured.
FORFEITURE OF TENANCY
It is customary to incorporate “default” provisions in a formal tenancy agreement to the effect that the landlord is entitled to forfeit the tenancy in certain specified circumstances such as the non-payment of rent or the breach of any material term of the agreement.
A deposit is payable upon execution of the formal tenancy agreement.
The amount of the deposit is usually equivalent to two to three months’ rent. Deposit for other charges may be payable, although this is negotiable.
The deposit is refundable by the landlord to the tenant, usually within thirty days after the termination of the tenancy, the delivery of vacant possession of the property to the landlord and the settlement of any last claim of the landlord.
In the event that any breach of contract by the tenant occurs during the term of the tenancy, the landlord is generally entitled to deduct any loss suffered as a result of the breach from the deposit or to forfeit the deposit entirely.
SALES & REDEVELOPMENT CLAUSE
It is important to be aware of any “sale and redevelopment” clause in a formal tenancy agreement, which is common especially in tenancy agreements of prime office buildings in Hong Kong.
Such a provision normally provides for a landlord’s right to serve on all tenants notice, usually in the region of six months, to terminate the tenancy without any compensation whatsoever, in the event that the landlord decides to sell, redevelop or renovate the building of which the property forms part.
Although this clause is usually non-negotiable, it may have serious financial and other implications for the tenant especially if substantial costs have been incurred in fitting out the property.
PART 4: TENANCY
TERMINATION OF TENANCY
Nowadays, the landlord and the tenant can freely negotiate and agree as to how a tenancy will be terminated.
A fixed term tenancy will terminate at the expiration of the term of the tenancy unless the landlord and the tenant have agreed on a renewal or extension of the term thereof.
There may be provisions in a formal tenancy agreement for the tenancy to terminate early in specific circumstances.
In the absence of any express provision for forfeiture, there will be implied in every office tenancy a condition for forfeiture of the tenancy in the event of non-payment of rent within 15 days of the due date.
RENEWAL OF TENANCY
Upon expiry of a tenancy, the landlord is not bound to renew the tenancy unless there is an agreement to the contrary. Where a tenancy agreement contains an option to renew that is exercisable by the tenant, the tenant will be entitled to exercise the right in the manner specified in the tenancy agreement.
An option to renew a tenancy agreement usually requires the tenant to send a written notice of renewal to the landlord within the time limit specified in the tenancy agreement.