Lease Audits – A Key Risk Management Tool

In this blog post we will explore lease audits and how they are a key risk management tool for any business with a commercial lease portfolio, big or small.

What is a lease audit?

A lease audit is the process whereby lease provisions and obligations are examined and interpreted to ensure they have been appropriately performed. In addition to the actual lease document, an auditor may inspect software systems and sources such as invoices, statements, any amending documentation (such as variances) and any correspondence between the parties in order to ascertain whether the lease is being administered correctly.

A lease audit may include inter alia ensuring the following:

• Rent and escalations are administered correctly
• Recovery of outgoings and other charges under the lease
• The correct allocation of fitout incentive monies received under a deed
• Repairs and maintenance obligations including capital repairs
• Insurance obligations
• Redecoration and make good
• Other obligations under a lease
• Systems that are in place to manage leases and payments.

The importance of regular lease audits becomes crucial, particularly when there is a large portfolio of lease, as these obligations can lead to disputes and become extremely costly, if not managed correctly. Lease audits have historically been performed manually by either internal or external auditors or external legal or property consultants.

Why should our company perform a lease audit?

Commercial leases tend to contain ambiguous and often complex provisions, which are buried in clauses that are in PDF or worse – in paper format. These clauses are largely “unreadable” by computer systems; making it very difficult to automate and digitise.

For this reason, it is difficult to continually ensure all financial obligations of a lease are being executed correctly. A lease audit allows an experienced professional to manage the risks and complexities of a commercial portfolio.

Although it is ideal for lease audits to be performed reasonably regularly (i.e. at least annually), it is of particular benefit to complete an audit if there is about to be a significant event. For example, typical requirements for a lease audit include:

• Major contractual disputes
• Accounting changes e.g., new accounting rules for Leases under AASB 16
• Legislative changes e.g., changes to the Retail Leases Act or Real Property Act that impact leases
• Unforeseen events such as the latest Covid-19 pandemic forcing changes to leasing practices.

What will the auditor assess?

The auditor will select a basket of leases to create a sample. They will usually audit higher risk items involving financial obligations, typically pertaining to rent, outgoings, insurance, bank guarantees and other provisions. If this sample contains multiple errors, they may increase the batch size to see if the process is endemic throughout the portfolio.

Auditors may also make recommendations such as:

1. Implementing lease and property management systems
2. Creating standardised lease templates for ease of management
3. Implementing lease abstraction software platforms
4. Other cultural and management changes

In summary, lease audits are a key risk management tool for any company with exposure to commercial leases. They should be performed regularly and where possible, appropriate systems should be put in place to manage the risks associated with commercial leasing.

Author

This post was authored by Simon Fonteyn. Simon is one of Australia’s leading experts in retail, childcare and medical leasing and rental valuations. He holds a Degree in Accounting & Finance, a Diploma of Valuation, a Masters of Management and is an Associate of the Australian Property Institute. With over 25 years experience in the commercial property industry, Simon founded LeaseInfo® as a way to provide more transparency to the industry.