Medicare’s action in the Federal Court can only add to general practice income woes if it becomes precedent.
A current Federal Court case has been described by some interested industry observers as “an attempt to systemically lowball pathology rents in Australia”.
In Chief Executive Medicare On Behalf of the Commonwealth of Australia vs Specialist Diagnostic Services (“Medicare Case”), Medicare is testing the premise that the rent being charged by a GP practice might be up to 300% above commercial value and therefore constitute some form of inducement.
More than 6000 GP practices have co-located pathology services paying rent to the practice, and that rent will usually constitute the third biggest source of income of that practice.
If this case were to set some sort of precedent on how you value pathology rents, then potentially all co-located rentals could be subject to demands from the major pathology providers for much lower rents.
The strange thing about this case is that the practice in question is not a party to the proceedings. Strange because the practice is the landlord technically charging the excessive rent, if indeed the rent is excessive.
Rather, Medicare is taking the pathology company to court over rent that it claims far exceeds the commercial rental value of the space being let by the practice.
David Dahm, principal of a medical and healthcare practice chartered accountant advisory firm, describes the potential outcome of the case as a “convenient loss for pathology laboratories across Australia”. That is, the pathology group and their competitors will be happy to lose the battle in order to wage a much wider war of lowering pathology rents across the country, using this case as a precedent.
“In the event that the Medicare Case determines that the Respondent was paying ‘excessive pathology rent’, it will most likely result in pathology labs thrusting this ‘precedent’ into the face of well-intentioned landlords, whenever the question arises relating to tenants demanding their new or existing fairly-priced lease agreements to be heavily discounted; and therefore unnecessarily frighten practices into accepting a lower rent,” Dahm tells The Medical Republic.
He says, however, that any court decision relating to rental valuation will likely be very specific to the practice in question and therefore may not apply to all practices in Australia.
“If the court determines rent is $1/sqm at this specific practice it does not mean it cannot be $1 million/sqm in another practice.
“The only condition would be that you find an independent and experienced valuer that can justify such a valuation,” Dahm says.
“An independent valuation can make an unsubstantiated excessive pathology rent allegation legally valid. This is what this case is about.”
Dahm says that for the unwary landlord or lessor, this unusual case could be used as an excuse by some pathology laboratories to break leases and demand lower rents. He points out that many pathology leases contain specific clauses relating to Medicare Notices, which could potentially allow tenants to systemically trigger early termination or renegotiation of a lease.
“Do not be surprised if you receive communication in relation to this case if it goes Medicare’s way,” he says.
“Many practices did not instruct their lawyers, or their lawyers did not review the implications of these clauses from their own perspective, as the lease agreements were prepared by the pathology lab’s representatives.
“The good news is that there are a number of reputable pathology laboratories that deal with this issue more fairly.”
The main takeaway is to not panic.
“Instead, obtain an independent valuation, but make sure you get one from someone who is experienced in this very narrow and technical field of valuation,” Dahm says.
“Most people have no clue how to obtain a sensible value, but it’s been done and there have already been several cases of practices getting Medicare notice letters on rent which have been staunchly defended.”
One hint Dahm gives is that as well as the concept of commercial value being what a party is prepared to pay, you will need a valuer that understands your business model, as that will be very relevant in a valuation.
“Not many commercial valuers are well versed in the business models of medical practices,” he says.
“In the meantime, do not accept boozy dinners or take telephone calls discussing rents. The Red Book (which is not law) discourages accepting the smallest of gratuities (including coffees/cake and the sharing of staff wages).”
He refers readers to this backgrounder on keeping your pathology rent Red Book-friendly, and offers these further pointers:
- Should you be contacted by your tenant in relation to renegotiating your sublease over dinner, it may be advisable to genuinely consider terminating the tenant’s lease.
- Make sure the pathology lab puts all of their communication in writing. Ensure that you clearly establish to all/any interested parties that you will not take part in any side deals.
- Run a professional tender process that is consistent with your business model.
- If your tenant wishes to renegotiate or terminate, my best advice is to consider termination and put your lease out for tender.
TMR has put a request in to the court to ask why a suppression order is needed on something so obviously in the public interest.
In the meantime Dahm tells TMR that he has received legal advice that any owner or practice manager wanting to review their current leases should look for (and be ready to delete from any new lease)
- Termination clauses that permit the tenant giving only three months’ notice to the landlord to break the lease agreement early without compensation to the landlord;
- Medicare clause(s) referring to the landlord’s and tenant’s respective obligations in ensuring the appropriate licenses are granted and maintained
- References to minor trigger events (i.e. Medicare robo-letters without any substantiating evidence as to their interest to that particular practice) permitting the tenant to terminate their current agreement with zero compensation to the landlord.
Note: In any stories we do on legal and finance matters we strongly recommend that you seek experienced legal and accounting advice before acting directly on any of the information provided in the article, as each medical practice’s needs are necessarily usually unique.