Heads of agreement and letters of intent before a lease: read carefully
Why a “preliminary” document should not be signed in a hurry
Before you sign the formal lease, many landlords ask you to sign a Heads of Agreement (HoA) or a Letter of Intent (LOI) — a document setting out the main terms the two parties have agreed in principle, before the solicitors prepare the full lease.
Many people treat a HoA as “nothing important” or “just a formality”. This is a dangerous belief. Although a HoA is usually less binding than the formal lease, it is never entirely without consequence — and some of its clauses can be legally binding.
What is a Heads of Agreement?
A HoA (also called Heads of Terms, a Term Sheet, or an LOI) is a document summarising the main terms of the proposed lease transaction:
- The address and area of the premises
- The proposed rent and the review mechanism
- The term and any renewal options
- The expected start date
- A rent-free period (if any)
- A fitout allowance (if any)
- Permitted use
- Deposit required
- Any special conditions
The purpose: for the two parties to confirm they agree on the main points before incurring the cost of preparing the full lease.
Which parts of a HoA can be binding?
How binding a HoA is depends on how it is drafted. Some clauses are usually designed to be binding even within a “non-binding” document:
Exclusivity: A commitment that the landlord will not let to anyone else and you will not look for other premises within a set period. This is usually binding.
Confidentiality: A commitment not to disclose the negotiated terms. Usually binding.
A “good faith” deposit: Some HoAs require a deposit to be paid up front — and the clause on refunding the deposit if the deal does not complete must be clear.
If the HoA does not clearly state “subject to formal lease” or “not legally binding except for [specific clauses]”, the whole document may be treated as binding in some circumstances.
The risks of signing a HoA without checking carefully
Locked into unfavourable conditions: Some clauses in the HoA can become points of argument when the formal lease is drafted — the landlord argues that the HoA has already “agreed” to that.
Losing the deposit if you do not sign the lease: If you sign a HoA with a deposit clause and then decide not to sign the lease (even for a valid reason), you may lose all or part of the deposit.
Bound by exclusivity: During the exclusivity period, you cannot pursue other premises — and if this deal falls through at the end, you have lost valuable time.
What you should not leave out of a HoA
Before signing a HoA, make sure:
- The main terms are stated fully and accurately
- The HoA states clearly whether or not it is “subject to formal lease agreement”
- The clause on refunding the deposit if the lease is not signed — and in which circumstances it is not refunded
- How long the exclusivity period is, and whether it allows enough time for due diligence
- The permitted use correctly reflects your business
A solicitor before you sign the HoA — not after
Practice in commercial leasing points to one thing from the start: a solicitor should read the HoA before you sign it, not just before you sign the formal lease.
Why? Because if you sign a HoA with an unfavourable clause, your solicitor will find it difficult or impossible to change something that has already been “agreed” — even though the lease has not been signed. Your negotiating position is much weaker once you have signed the HoA.
The cost for a solicitor to read a HoA is usually small — and it is the highest-value spend in the whole process of leasing premises.
See the related guide on commercial leases in Australia to understand the full process of signing a lease and the clauses to read carefully in the formal lease.