Whether drafted for a space in a large shopping center or a small strip mall, many commercial leases can be long and intimidating, especially for first-time tenants. While this may be true, the best way to get the most beneficial lease for you and your business is to negotiate the terms of the lease. Many small business owners may believe that when a landlord or broker delivers a lease to you it is a 'take it or leave it' scenario. However, this is far from the truth due to the fact that the most hated word in a landlord’s vocabulary is “vacant.”
In short, the landlord often wants you in the space as badly as you want to be in it, so don’t be fearful of a seemingly overwhelming lease document. LegalNature provides you with the information, step-by-step guidance, and forms you need. To better help tenants who will be negotiating a commercial lease, the following tips and information will assist in navigating the process.
“Name me one thing in this world that isn’t negotiable.” – Walter White, Breaking Bad
While this may not be technically true—as surely a cashier at McDonald’s would be quite surprised if you tried to talk down the price of a Big Mac—it is a good mantra to have when negotiating terms of a commercial lease. For example, many new business owners are surprised to learn that one can not only negotiate certain terms out of the lease, but one can also work other terms into the lease. Therefore, keep this in mind when discussing particular lease terms with your potential landlord.
With extension options and escalations, commercial lease terms typically run anywhere from five to twenty years. To make a determination as to how long your lease term will be, you will want to consider several economic and personal factors. For example, if this is your first venture, and it is not a franchise or other well-known store, it is typically best to negotiate a shorter lease term. While landlords generally want to sign a tenant for a long lease term, as they do not like spending capital finding new tenants, it is sometimes in their best interest to work with such a tenant to create a manageable lease.
On the other hand, if you as a tenant are contributing to renovating the space, you will want a longer lease term so you can amortize the money spent. Similarly, many standard leases contain clauses that require any and all permanent fixtures to remain on the premises after the lease has expired. This is certainly an area of the lease you will want to negotiate if you spent the time and money on ceiling lights, certain affixed furniture, and the like.
Does this seem a bit unfair? In short, it somewhat is. But take a step back and think why this would be a standard clause of a retail lease. Well, it’s not because the landlord is greedy and wants to hoard all of your belongings. Rather, it is due to the fact that if you have a vested financial interest in the space, you are less likely to either (a) default or (b) leave the shopping center for one of the various competitors of the landlord. Having said that, this logic does not make it non-negotiable. Therefore, if you are financially contributing to the space, you need to make sure there is an equitable way to deal with those improvements once the lease has expired.
When you're ready to end your lease, see LegalNature's article Terminating a Commercial Lease for more information.
If there is one common factor in all commercial leases, it is that the “standard” lease document always favors the landlord. Moreover, having this highly technical document dropped in your lap can be extremely daunting—and that is okay. It is human nature to glance through such documents, sign on the dotted line, and then contest any detrimental provisions once they become applicable.
However, a commercial lease agreement is a contractual instrument that can have unintended legal affects on you, your family, and your business if not scrutinized properly. There have been countless cases wherein landlords offer spaces with their standard lease forms, and tenants, believing they have no power to negotiate, sign a lease that ultimately ends up being the reason that particular business fails.
Moreover, oftentimes larger landlords typically have several standard lease forms that they use in different scenarios containing fine print/boiler plate language that is purposefully ambiguous and difficult to understand. However, if you take the time to read the lease in detail, you will not only come out with a better understanding of the substance of the lease but also a “sixth-sense” feeling for where the landlord stands on many negotiable areas.
Some of the topics included in the deep, dark holes of a lease include issues such as:
Most of these terms are frequently included and often negotiable. As these are generally the most overlooked and impactful clauses, it is important to understand their roles in the lease.
As mentioned above, there are a few terms and clauses that every tenant needs to understand before entering into a lease.
First, a relocation right is an option given to the landlord to move the tenant’s business to another space in the shopping center if certain conditions are met. While this may not seem so bad, it can be devastating to some. Take, for example, a tenant whose business is located in a space that fronts a busy boulevard. The ability to be seen and recognized is a premium element in commercial leasing, and a relocation right can take that benefit away from you in the blink of an eye. The following paragraph is an example of a typical relocation clause.
If for any reason, in Landlord’s sole discretion, Landlord notifies Tenant in writing that Landlord wishes to relocate Tenant from the Premises to other space within the Shopping Center, Tenant shall, within [thirty (30)] days after receipt of Landlord’s notice, vacate the Premises and relocate all of Tenant’s trade fixtures, equipment, and inventory to the new premises designated by Landlord. Tenant’s reasonable and necessary expenses for moving such trade fixtures, equipment, and inventory shall be reimbursed by Landlord within thirty (30) days of Landlord’s receipt of invoices for such moving expenses. Landlord shall pay for the completion of interior improvements in the new premises substantially similar to those paid for by Landlord pursuant to this Lease in the Premises. All other costs of remodeling, outfitting, and furnishing the new premises shall be borne by Tenant. Tenant shall arrange for the transfer of all utilities to the new Premises. Tenant shall execute and deliver such further documentation as Landlord may prepare to memorialize the same.
As you can see, in order to effectuate the clause above, the landlord must pay for most reasonable and actual costs associated with the move. However, here the tenant will bear the cost for remodeling the new space. This is a perfect example of a standard lease leaning in the landlord’s favor and how a hidden term can have a serious effect on the tenant.
Second, a “tenant exclusive” clause is a lease provision that limits the use of a tenant’s business. For example, if you plan to operate a gym in the premises, you may not be allowed to sell protein shakes or smoothies—or at the very least somewhat limited in doing so. The reason for this prevention is because another tenant in the shopping center—maybe a smoothie shop—negotiated such a clause in its lease in order to limit competition. Having said that, you may, and probably should, negotiate a tenant exclusive clause to protect your business.
Third, there are often additional fees tucked into inconspicuous areas of the lease. Such charges often show up on a tenant’s monthly statement and leave an undiscerning business owner paying fees he or she should have immediately cut from the lease.
These charges include “management fees” and also “administrative fees.” Such charges can typically be found in the additional rent or common area expenses sections.
A tenant should be very weary of these charges for two main reasons.
However, the charges are often necessary to keep the shopping center at a certain standard set forth in the lease. Additionally, keep in mind most landlord-tenant laws require good faith negotiation by the landlord. So while a careful eye should be kept on the landlord’s ability to charge these types of fees, often the lease will stipulate that a tenant can review the details of such charges and even order a professional audit.
In short, after you thoroughly read your commercial lease agreement, you will almost surely walk away scratching your head at some of the terms and meanings—and that is okay. Not all of us are attorneys used to interpreting the language of “legalese” that makes up the majority of the lease document.
Therefore, in cases in which you do not understand the meaning of a particular word, sentence, or phrase, it is okay to ask the landlord, broker, or attorney about it. Other than the fact that most landlord-tenant laws ban a landlord from concealing material details of a lease, many landlords will be more than happy to answer your question within reason, as they want to speed up the process and move on to leasing the next vacant space, not wait for you to figure out everything on your own.
While residential leasing often places the burden of maintenance and upkeep on the shoulders of the landlord, commercial leases are different. Just because the landlord owns the building, it would make sense to believe that they are responsible for repairs and upkeep, but this is not always the case.
Commercial leases vary in their approach to this. Some stipulate that the tenant is responsible for all property upkeep and repairs, while others specify that the tenant is responsible for systems such as the air conditioning, plumbing, etc. Check your lease—in addition to stating who is responsible for what, it may also contain dollar limits on how much the tenant must pay for maintenance and repair. An attorney can help clarify your legal rights.
Common area maintenance, also known as “CAM,” refers to the additional money a tenant pays over and above the base rent. CAM charges cover certain expenses that the landlord incurs to manage common areas. “What is a common area?” you may ask. That is determined lease by lease, but it typically includes areas such as the parking lot, sidewalk, green areas, etc. Therefore, CAM charges cover, among others:
Common area maintenance is usually charged in proportion to a tenant’s square footage and is typically an area that landlords do not like to negotiate on. The reason for this resistance is because landlords like consistency, especially with respect to cash flow. It creates additional work for the landlord if some tenants are paying for CAM and some are not.
However, one frequent way to cater to the landlord’s love for consistency is to negotiate a flat fee that increases at 2–3% annually. If the landlord uses a method that charges its tenants retroactively according to the actual CAM costs it incurred, then you should agree to this but also require a cap on the amount CAM charges can increase year over year.
If negotiated properly, a commercial lease can be a significant tool for a retail tenant to start a business. This is especially the case with regards to the tenant improvement allowance (often referred to as "TIA" or sometimes just "TI"). A tenant improvement allowance is a sum of money allocated to the tenant by the landlord for improvements of the space. The TIA usually pays for improvements such as new flooring, fixtures, space re-configuration, etc. The TIA is stated either as a per-square foot amount or a total dollar sum. Generally, if the improvements cost more than the agreed-upon sum, you pay the extra amount.
With this in mind, commercial real estate spaces are rarely tailor made for a particular tenant's needs. More frequently, you are acquiring a space that previously housed a completely different type of business. Even if this is not the case, you are likely going to want to make some improvements one way or another.
In such a scenario, you will want to negotiate a TIA. In order to do so, know that requesting a TIA is frequently done in retail leases—so don't be afraid to ask for one. After the landlord has conceded to a monetary amount of TIA, you will then need to discuss the following:
However, when seeking a TIA keep in mind the old adage: "There's no such thing as a free lunch." In our case, just because the landlord is contributing actual money to your build out does not mean that you will be getting it free and clear. There is always, always, always, a kicker. These "kickers" usually come in the form of either increased landlord control or the previously mentioned fact that most leases grant ownership to the landlord in any "permanent fixtures and improvements."
Moreover, by making an up-front cash commitment in the form of a tenant improvement allowance to the tenant, the landlord has a real interest in the tenant's opening, also known as the "commencement date."
Remember, it's never too late to change the terms of your lease. Although it may be more difficult to get the landlord to agree it, tenants can often find enough negotiating leverage to convince their landlord to sign a commercial lease amendment.
Oftentimes, the landlord has an in-house leasing agent or broker. Therefore, you will want to call the agent or broker to discuss the space’s availability. From there, the landlord will draft an “LOI,” or a letter of intent. The importance of this document cannot be overstated. An LOI is an extremely important step in the process as it both sets the tone between the landlord and tenant and sets forth the proverbial blueprints of the lease. The LOI is short and only contains the main points of the lease agreement, such as:
Simply put, respond by marking up and returning a “redlined” version of the lease. A redlined lease is a version that has been edited with your preferred language according to your needs. This will likely include objections to certain clauses and sentences. Don’t be afraid to ask for what you want and to exclude what you do not. Also remember that even one word can completely change the meaning of the lease, so review it carefully.
Once you return the redlined version, the landlord will review your comments and respond in the same manner. After a few versions, the main issues of the lease will be whittled down to just a few points, which are best discussed in-person or over the telephone.
To answer this question, you have to understand the landlord’s position on the matter. First, recall the landlord understands that the tenant’s ability to pay rent is determined in large part by the tenant’s revenue. Moreover, there is a large likelihood the next tenant will not be able to make use of any improvements, as they will typically either be out of date or not applicable to their use.
Therefore, when understanding the landlord’s position on tenant improvement allowances, one must understand that the landlord scrutinizes the tenant when determining the allocation of a TIA. Accordingly, careful landlords scrutinize the tenant's experience, business plan, and management team to ensure that the frontend investment in tenant improvements brings enduring value to the property in the form of a successful, rent-paying tenant.
Actually, you usually don’t receive the TIA directly. Instead, the landlord pays the contractors and suppliers up to the TIA limit—after that, you pay. Or, the landlord may decide to give you a month or two of “free” rent, which means that you must accomplish all that you want to do with the money you’ve “saved” by not having to pay rent. If you have a choice, press for the former arrangement. If the landlord gives you the TIA and you pay the bills, you run the risk that the IRS will consider that income and tax you accordingly. When the landlord physically keeps the money and pays the bills, you may avoid this outcome.
Just like any other negotiable item, do not get too attached to a particular property. While a certain space can certainly enhance the success of your business, it is not worth over-paying. You have to go into negotiations knowing that if you don't get a fair deal, you can move on and your business will thrive elsewhere. Additionally, becoming too attached to any one property will inevitably be picked up on by the landlord, thus decreasing your leverage even prior to the negotiation process.
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