What is a CPI rent review in commercial property?

30 August, 2022 | Kristal Rogers

Deeds of Lease for commercial premises usually record a selection of the following  options when dealing with a rent review:

• CPI rent review

• Market rent review

• Fixed price rent increase

A CPI rent Review is a review of rent where the rent is either increased or decreased in proportion to changes in the Consumer Price Index. The Consumer Price Index (CPI) is a measure of inflation for households in New Zealand, it is published quarterly by Statistics New Zealand. A CPI Rent Review provides a set formula for how any increase (and occasionally decrease) is to be calculated when a commercial lease rent is reviewed.

A market rent review approach relies on negotiation between the landlord and tenant as to what they believe the market rent is. If agreement cannot be reached, then this is determined by a registered valuer.

A fixed price rent increase means what it says – the rent will increase as per the amounts agreed and recorded in the Deed of Lease.

The ADLS (Auckland District Law Society) Deed of Lease contains two rent review options – market rent review and CPI rent reviews.

What is CPI?

CPI, which stands for Consumer Price index, is a measure of the change in cost of goods and services that consumers in New Zealand buy. CPI is calculated and published by Statistics New Zealand quarterly, using the changes in price for a fixed “basket” of goods and services.

You can learn more about what items are used to measure CPI changes and how much CPI has changed at the Statistics New Zealand website – here.

How is the increase for a CPI rent review calculated?

To work out the rent increase for a CPI rent review.

A = B x (C ÷ D)

Where:

A = the new rent

B = The Current Rent

C = CPI Index for the quarter year ending immediately before the relevant CPI rent review date

D = CPI for the quarter year ending immediately before the last rent review date or if there is no previous rent review date, the commencement date of the current term of the lease

The ADLS Deed of Lease outlines the calculation formula as part of the lease.

What are the pros and cons of a CPI rent review?

As a market appraisal – and potentially the cost of a valuation – is not required (as with a Market Rent Review), a CPI rent review is faster and less costly for both tenant and landlord.

CPI reviews also allow a degree of certainty as to any likely rent increase the tenant may face (but they don’t provide as much certainty as a fixed rent review due to Consumer Price Index being an inflation-based review, which may change).

Consumer Price Index rent reviews are generally preferred by commercial property landlords as payment to assess a market rent review is not required, and disputes tend to be less likely.

What happens if the CPI goes down?

Most leases contain what is known as a “Ratchet” Clause. There are two types of ratchet clauses namely a hard ratchet clause or a soft ratchet clause.

A hard ratchet clause means that even if the CPI goes down, the amount of rent payable does not go down below the amount being paid by the tenant at the time of the review.

A soft ratchet clause, means that the rent could go down, but will not decrease by more than a set figure as specified in the lease.

The standard ADLS Deed of Lease clause for CPI rent reviews includes a soft ratchet, and states that for a CPI Rent Review the rent may never fall below the amount of annual rent payable at the commencement date of the current lease term.

Note that if there is no ratchet clause in the Deed of Lease, the tenant may argue that the rent should potentially decrease when the rent is reviewed.

When negotiating a commercial lease, you should consider both the frequency of rent reviews and the way in which changes in rent amount are calculated to ensure it’s in line with the property’s current market value. Whether you’re a landlord or tenant, we can help you understand the implications of a CPI rent review, calculate the correct amount and analyse the best approach for you. Contact Commercial Law expert, Kristal Rogers on 09 837 6896 or email kristal.rogers@smithpartners.co.nz.