The Power of the Court to Review the Rental Amount and Its Risk for Landlords and Tenants
During the term of a lease, both the landlord and tenant have a right to request for the court to review the rental amount if one of them considers that the circumstances have changed justifying an increase or decrease in the amount. We will see (i) that giving this power to the court may constitute a risk for the parties and (ii) that other options can be put in place for reviewing the rent in order to take into account market changes and inflationary risk.
Pursuant to Articles 248 and 610 of the Civil Code, a tenant has an obligation to pay the rent to the landlord at the agreed time. In this respect, the parties are free to agree on the amount of rent to be paid and to choose the most appropriate form of rent between a fixed rent, a progressive rent or a variable rent (rent based on turnover).
However, one of the main concerns of landlords and tenants is how to review the rent during the term of the lease, especially when it is a long-term lease, in order to take into account market changes and inflationary risk.
In this respect, in case of perpetual lease, both landlords and tenants benefit from a specific right to request for the court to set an appropriate amount for the rent if one of them considers that the circumstances have changed compared to those that existed at the time the lease was executed.
Indeed, Article 249 of the Civil Code provides that “if the rent is no longer appropriate on account of change in circumstances, either party may request the Court to increase or decrease the rent to an appropriate amount”.
The drafting of Article 249 is very broad and gives discretionary power to the court to decide (i) if the circumstances have changed and (ii) an appropriate amount of rent to be paid by the tenant.
Therefore, the party which requests a rent review by the court will have to prove that the circumstances have changed from those existing when the lease was executed. It may not be difficult for a party to prove a change in circumstances when considering the fast growth in the real estate sector and the number of new development projects throughout the country which will impact real estate prices, including rental amounts.
However, Article 249 does not specify the conditions of this rent review and in particular when a party can request it.
Article 249 also does not provide with a method of calculation to be used by the court to set the appropriate amount of rent. Consequently, there is a significant risk for the parties as the court has discretionary power to make these determinations while not having expertise in the real estate market, including real estate valuation.
Generally, the parties do not take into consideration this risk when they are signing a lease and when they are preparing their business plan. Therefore, the provision of Article 249 may constitute a big risk as it can impact significantly such business plan if the rent increase or decrease.
This rent review by the court may also constitute a risk for the bank which grants financing to the tenant (e.g. in order to finance the fitting-out works) or to the landlord (e.g. in order to finance the acquisition of the real estate property to be rented to the tenant).
To the best of our knowledge, there has not been any court decision made on the basis of Article 249.
However, it is recommended to expressly waive this right in the lease in order to avoid such a risk as the provisions of Article 249 are not mandatory.
Furthermore, if the parties still want to be able to review the amount of the rent in order to take into account market changes and inflationary risk, they should include in their lease an indexation clause or a rent review clause.
These types of clauses have been developed through practice and are now very popular in lease agreements all over the world.
Indeed, some owners may be reluctant to grant a long-term lease to tenants if the rent cannot be reviewed. This is especially the case in Cambodia where the value of properties and the price of rent is changing very quickly and where landlords and tenants want to be sure that the rents amount is fair to them.
Therefore, the role of an indexation clause or a rent review clause may be very important.
The purpose of an indexation clause is to take into account inflationary risk in a long-term contract. An indexation clause allows for variation of the rent automatically at specific periods and is based on a specific nominated price index to determine the amount.
In Cambodia, there is no specific provision in the Civil Code which governs the indexation clause in the lease. Therefore, the terms and conditions of the indexation will depend on the drafting of the indexation clause and the parties are free to determine such conditions in the lease.
However, there is no official publication at this stage in Cambodia of any index by the National Institute of Statistics relating to real estate, such as a construction cost index, a commercial rent index or a residential rent index. The parties can only refer (i) to the Consumer Price Index (which is not really adapted to the real estate market) or (ii) to a contractual index.
Therefore, it is not recommended to include an indexation clause until such time as an index relating to construction costs or rental prices has been published by the National Institute of Statistics.
As a consequence, the solution which is currently recommended in Cambodia is to include in the lease a rent review clause which will specify the conditions of the rent review and, in particular, the method of calculation of any adjustment to the rental amount.
We have seen many landlords in Cambodia requesting the application of a rent review clause in a lease agreement, especially in leases for office premises.
The role of a lawyer or a legal adviser will be very helpful to assist the parties in drafting the appropriate rent review clause.
In conclusion, it is recommended (i) to expressly waive in the lease agreement the provisions of Article 249 of the Civil Code and (ii) to include a rent review clause if the parties want to review the rent during the term of the lease. This will allow the parties to take into account the market changes during the term of the lease by reviewing the rental amount.
ON THE AUTHORS
ING Sophealeak and Charles AMAR, lawyers at Bun & Associates, advise domestic and foreign clients seeking expert advice and innovative solutions in dealing with significant and complex transactions involving both raw and developed properties. Their work includes advising on all issues relating to real estate investment, project development, construction and asset management. Our real estate team has also hands-on expertise and experience in advising clients on matters related to economic land concessions, special economic zones, agriculture, the environment and mining.
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