No matter what type of business you operate, if you need space for your offices, warehouse, retail store, or restaurant, your company will probably need to sign a commercial lease. Although you should always ask a qualified business attorney to review any lease agreement before you sign it, it is nonetheless important to understand the key terms and clauses that appear in these contracts. In this article we will explore some of the key terms that business owners should understand and why you may wish to negotiate some of them with your landlord.
Most commercial leases include terms that stipulate the type of business that may be operated on the premises or prohibit certain types of use. The lease may also include an exclusivity clause. This gives the tenant exclusive rights to the type of business being operated, and prevents the landlord from renting its other units to competitors. Although almost any tenant can see the benefit of this type of clause, it is more commonly negotiated when a business is leasing premises in large commercial properties with multiple units, like malls or outdoor shopping concourses.
Tenants negotiating this type of clause should try to keep the language broad enough to cover their competition. Violating this clause should result in the landlord paying a penalty, such as the tenant being entitled to a reduced rent until the violation is remedied.
Landlords are increasingly concerned about the ability of a business to make ongoing lease payments. In some cases, especially where a company has less than good credit, a landlord will ask for a personal guaranty of sufficient funds by the business owner. This gives them recourse against the owner personally in the event that the company collapses and cannot pay its rent. Personal guarantees are unsecured and may be claimed against any of the guarantor’s assets.
A personal guaranty can be negotiated to reduce the amount of risk taken on by the guarantor while still providing security for the landlord. For example, there may be a time limit and/or monetary cap, such as limiting the guaranty to no greater than 12 months rent and lasting only through the initial term of the lease or a certain number of years. Negotiating the personal guaranty can be very difficult in many cases these days and will certainly benefit from the experience of a commercial real estate broker and business attorney.
Most leases also require that both parties obtain the necessary permits and licenses for any operations and/or repairs that are required at the leased premises. Depending on the type of business you operate, parties may wish to include contingencies in the event that certain operating permits are delayed or cannot be obtained. Bars and other establishments selling alcohol are a good example of operations that will be subject to permit contingencies. Tenants will want to negotiate a right to terminate the agreement if they cannot obtain the necessary permits within a certain period of time.
A lease may include terms that give the landlord the right to unilaterally relocate the tenant, which can be a major disruption for the tenant’s business. A potential tenant may wish to negotiate limits on the right to relocate, including:
- Limiting times of the week or year for any relocation;
- Designating areas which are not acceptable for relocation, for example where there may be reduced visibility or foot/vehicle traffic;
- Requiring the landlord to cover all costs associated with relocation, perhaps including potential lost revenue from the relocation;
- Building in a rent and/or common area maintenance [CAM] charge rebate during any period of relocation;
- Adjustment of rent if relocated to a smaller space; and
- Limiting the duration of the right of relocation entirely.
Operating and Common Area Maintenance Expenses
Commercial leases usually pass on the cost of CAM and/or other operating expenses to tenants. These charges differ from lease to lease. Tenants should carefully review any CAM and related charges, and consider negotiating some exclusions, such as:
- Capital expenses;
- Depreciation of rented property;
- Landlord’s legal fees in collection efforts;
- Damage or repairs covered by insurance;
- Damage or repairs caused by agents of landlord;
- Interest or penalties assessed to landlord directly;
- Taxes related to rental income;
- Costs incurred for remediation of environmental problems (for example, hazardous substances) not caused by the tenant;
- Limiting property management fees in excess of 5%; and
- Limiting any yearly increase in the CAM expenses to a certain percentage.
A prudent tenant may also wish to negotiate a right to review the landlord’s books and records in order to confirm and audit CAM charges. I have seen an errant estimate of CAM expenses during the negotiations cause a major rift and potential lawsuit between a landlord and tenant because of a careless estimate or inaccurate CAMs amount. This term should require the landlord to cover the costs of any audit that reveals overcharges greater than 3-5%, and return certain amounts to the tenant. Alternatively, tenants may ask for a requirement in the lease that landlords provide an annual reconciliation report of CAM expenses.
Maintenance and Repair Obligations
In addition to paying CAM expenses, tenants may also be obligated to maintain and repair certain parts of the unit. If the tenant is going to take over any items or equipment, for example an existing HVAC system, they should get an inspection report or written representation from the landlord that confirms it is in good working order. Tenants should also negotiate a period of time after the lease begins during which the landlord will remain responsible for any repairs or maintenance.
If a landlord will bear some of the maintenance and repair obligations at the premises, the tenant may wish to include terms that set out a short timeline for completion of repairs by the landlord upon their receipt of written notice by the tenant. Failure to meet the agreed-upon timeline would result in some sort of penalty, either an abatement of rent until repairs are completed, or allowing the tenant to resort to self-help with a requirement that the landlord reimburse the tenant in full.
Insightful Legal Advice for Businesses Negotiating a Commercial Lease
At Reidel Law Firm, we help our clients achieve their goals through tailored and specific advice about a wide range of business law matters, including negotiating and preparing commercial lease agreements. Whether you are an investor, a small business owner, or a professional starting their own firm, we want to understand your business and its needs so we can help you be successful. If you have questions today about commercial real estate or leasing, contact Reidel Law Firm at (832)510-3292 or use the email button below to speak to one of our experienced legal professionals.