- Basic Business Operations – Ensure you can operate your business profitably from the premises. Look for advantages and trapdoors in leases:
- Permitted Uses: This clause enumerates how you are allowed to use the rented space. By implication, it makes activities outside the scope of this clause out-of-bounds. Negotiate for broad language or a method that allows you to make the necessary changes to maximize profitability. Conversely, carefully evaluate any language in the lease pertaining to restricted uses, or prohibitions on your use of the rented space.Exclusive Use: If you have sufficient bargaining power, restrict your landlord from leasing any other units on the premises to direct competitors or at least to those businesses that would impact a critical area of your income.
- Franchises: If you are a franchisee, the lease will need to include, within its “Transfer” section, certain franchisor rights to replace the tenant.
- Expansion: Consider negotiating in advance the rent for potential expansion space within the original lease. Oftentimes, speed and certainty are critical factors when a subsequent expansion arises.
- Disruption of Services: Landlords rarely agree to allow you to terminate for long disruptions in services or casualty. Instead, advocate for short deadlines for repairs and restoration of services, and consider obtaining business interruption insurance.
- Signage: Confirm the landlord’s pre-approval for any necessary signage and negotiate for a reasonable process for approval of future signage.
- Expenses – Avoid hidden costs, such as utilities, maintenance, upkeep of shared facilities, operating costs, complying with laws and codes, building out the premises, and surrendering the premises.
- Utilities: Landlords often resist installing separate meters, particularly for small tenants. Watch for language in the lease reserving the right to bill the tenant for “excess usage” in addition to pro-rated utilities. Note that, if your rented space is part of a multi-tenant property, you should also look for any language requiring you to pay for other tenants’ “excess usage.”
- Maintenance and Repair: Watch out for provisions requiring you to repair or maintain areas outside the leased premises. Seek to make it the landlord’s duty to maintain the structure, exterior, all common areas, and any shared building systems.
- Common Area Maintenance (CAM) Expenses (or Operating Expenses): Watch out for provisions requiring you to pay a pro rata share of the operating expenses incurred by the landlord in operating and maintaining the building, including common areas such as lobbies, hallways, garages, and elevators. These expenses may encompass building-wide HVAC costs and management fees (i.e., expenses associated with use of a building superintendent or management company to run the building). Often, landlords expand the list of expenditures too broadly, striving to make tenants pay as much of these expenses as possible. Lists of charges are “passed through” to tenants with slippery words such as, “Tenant will be responsible for the following costs, without limitation ….” The language, “without limitation,” enables the landlord to tack on extra charges. Ensure that the lease includes only legitimate and enumerated CAM charges. One approach is limiting CAM expenses by including language referencing a standard list of operating expense exclusions or a specific list of items the landlord can include. You also could negotiate for a cap on your share of the operating expenses.
- Insurance costs: Review and determine what insurance is included in the landlord’s current operating costs, whether there is the potential for any significant increase, and if you can, get the landlord to agree to some reasonable limit on the pass through of such costs.
- Compliance with Laws – Be aware of language that may require you to foot the bill for things like earthquake retrofitting, asbestos abatement, sprinkler installation, or compliance with the Americans with Disabilities Act (ADA). These costs may differ depending upon the premises’ use. Even if the lease requires the landlord to bear the responsibility, you must curtail the landlord’s ability to “pass on” compliance costs through use of other provisions like CAM provisions.
- Rent – Ensure that you clearly understand what your lease specifies as far as the rent for the actual space that you will be occupying. Explore rates for comparable spaces and, if the proposed rent seems unjustifiably high, seek a reduction.If rent is a flat monthly charge based on square-footage only, then your rent arrangement is called a gross lease. For such a lease, you need make no other calculations before writing your rent check each month.If the lease reflects an expectation on the landlord’s behalf that you will help pay for operating costs, then you are looking at a net lease. In that scenario, the lease will not precisely state the amount of monthly rent because the charges for the additional costs vary from month to month, which means that you will need to make further calculations during the course of your lease.
Finally, most leases include an annual rent increase or escalation. Make certain that you are aware of the formula that the landlord utilizes (a fixed amount per year compared with tying rent modifications to the regional Consumer Price Index, or CPI) and negotiate for changes to that formula as needed. If the landlord insists on retaining the escalation clause, seek a cap (known as a collar) on the amount of each year’s increase or at least an exclusion on any rent increase for the first year. - Rented Space – Although listings usually describe commercial space on a cost-per-square-foot basis, you will not necessarily pay for and occupy the precise number of square feet listed. Two questions should animate your assessment of the rental space. First, does the space include common areas such as hallways, restrooms and elevators? Second, does the landlord’s measurement include considerations like the thickness of the walls?Many landlords, particularly in office buildings, measure the space from the middle or even the outside of exterior walls. Using this methodology, the tenant ends up paying for unusable space, such as the thickness of the walls. It is recommended that you measure the space yourself to verify the landlord’s figure.
- Real Property Taxes – Look to see how the lease defines what real property taxes encompass. Landlords often endeavor to place tax responsibility on tenants by agreeing to pay all real property taxes for the first or “base” year of the lease. Then, after the first year, the tenant must pick up all or a portion of any increase. Your landlord may, however, ask you to cover more than just the tax increases. The lease may require you to split or pay for all real property taxes.If the lease calls for you to cover a portion of the landlord’s real property taxes, try to ensure that the applicable clause specifies your payment according to a percentage of the property’s total rentable space—not just the space that happens to be rented when you sign your lease.An additional consideration is the indirect consequence of other tenants’ improvements on your property tax liability. A landlord’s tax bill factors in all tenants’ improvements. Paying real property taxes based on pro rata share of the rentable space without taking into consideration other tenants’ improvements, means paying more than your fair share. If possible, bargain for your tax share to be based on the pro rata share of the entire rentable space.
- Security Deposit – In negotiating the terms of your security deposit, make certain you understand where the landlord will hold it, as well as who gets the interest (and at what rate). No law requires the landlord to put the funds into a bank account or pay you the interest. The lease also should address how and when the landlord can use the deposit and how and when the landlord will return the deposit at the end of the tenancy. Also, consider negotiating for a gradual reduction and return of the deposit during the course of your tenancy as you establish yourself as a financially responsible tenant.
- Tenant Improvements – If you require improvements to the space prior to your occupancy, consider using your bargaining power to get the landlord to agree to provide improvements at no cost to you. Attempt to shift risk in cost overruns to the landlord by requesting “turn-key” space, rather than a shell, which will be built out using an “allowance.” Note that, if you’re willing to sign a long-term lease, the landlord generally will be more willing to pay for improvements to the property.Ensure that the obligation to pay rent and other charges does not begin until tenant improvements are complete. Further, determine whether the landlord will be designing and constructing the tenant improvement at its sole cost or whether the landlord will be giving you an allowance.A connected issue is understanding how the lease treats ownership of fixtures added to the space during the tenancy. Generally, no matter who paid for it, everything attached to the building or grounds – whether by screw, nail or bolt – is an improvement that, absent agreement to the contrary, becomes the property of the landlord. Under the “Trade Fixtures” exception to this general rule, you can remove business items attached to the property, such as decorations, tools, signs and portable equipment. Consider raising the fixtures issue during lease negotiation to avoid uncertainty. You could include a separate “Trade Fixtures” clause listing those items you intend to bring into the rented space, including how you plan to affix them to the property and remove them at lease end.
- Exit Strategy and Default – Incorporate exit strategies in the event you sell or close the business, including issues such as lease transfer & termination, guaranties, relocation & transition, and disputes.
- Exit Strategy – Ideally, your lease will include clauses that will impose reasonable limitations on the landlord consenting to transfers. If the lease requires you to share with the landlord excess rent received from such arrangements, ensure that it only includes rents and no other consideration you received in connection with the sale or transfer of the business. Further, deduct any tenant expenses before splitting excess rent with the landlord. Finally, where the transferee is credit-worthy, seek a release of the current tenant and guarantors.
- Default – Negotiate the result of a default on the lease. Typically, leases contain a provision providing that the landlord may elect to continue or terminate the lease if the leased premises are damaged or destroyed. Similarly, leases often provide for an abatement of rent in the same proportion that tenant’s use of the leased premises is impaired. Make sure that you understand and are comfortable with such language.
- Assigning, Subletting & Co-Tenancy – Request the right to assign or sublease your space, so that if you need to move out, you can find another tenant to occupy the space and pay the rent without needing to break the lease. Many leases prohibit subleases and assignments without the landlord’s consent. Negotiate for language that the landlord will not unreasonably withhold consent. If possible, spell out the standards for evaluation. Build those standards around the transferee’s financial health.
- Tenant Remedies (Abatement and Termination Rights) v. Landlord Remedies (Termination, Re-Location and Expansion Provisions) – Be aware of definitions, omissions and/or waivers of tenant remedies. Consider seeking to preserve your repair and deduct rights, which allow you to remedy a problem and deduct the cost from rent. Abatement rights allow you to abate, in proportion to the area of the premises affected, the amount of rent you pay if the landlord fails to remedy items. Termination rights allow you to terminate the lease. If your lease allows early termination, expect it to operate as a one-time option several years into the term that requires a particular amount of notice and payment of a termination fee. It likely also could include the unamortized cost of the landlord expenses for improvements and leasing commissions.It is more common to find a termination provision that rests with the landlord. Generally, such a provision allows the landlord to unilaterally terminate your lease on the occurrence of some stated condition. A relocation provision confers on the landlord the right to relocate you to other premises within the building. Finally, an expansion provision may afford another tenant the right to expand into your leased premises and may, in conjunction, permit the landlord to terminate your lease or relocate you. Be watchful for these provisions and, ideally, do not agree to them. If conditions require acceptance of some or all of them, ensure that the landlord can only relocate you to a comparable space and that the landlord is required to pay for all expenses related to the relocation. If delivery of the premises for relocation does not occur when promised, seek language providing for “delay damages,” e.g., a certain number of free days of rent for every day late.
Commercial Leases
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