Take 5: Considerations When Reviewing a Commercial Lease
Perhaps you are a brand new business moving into your first office or manufacturing facility. Or you’re expanding your virtual business to include a brick and mortar component. Congratulations! But the landlord has provided you with a draft commercial lease and now comes the challenge of reviewing and negotiating the terms of that lease. Below is a brief overview of several factors to consider when reviewing a commercial lease :
1. Type of Lease. The two most common types of commercial leases are a Gross lease and a Net lease. In a Gross lease, the tenant pays a fixed rent, and the landlord typically covers all operating expenses, including property taxes, insurance, and maintenance. This type of lease provides predictability for tenants, as they have a clear understanding of their monthly costs. However, this certainty can mean a slightly higher monthly cost for the tenant. Net leases, on the other hand, require tenants to pay a base rent as well as specific operating expenses such as property taxes, insurance, and maintenance which can vary year over year. There are variations within net leases, including single net leases, double net leases, and triple net leases, each shifting different responsibilities onto the tenant.
2. Operating Expenses. If you have a Net lease, Operating Expenses can significantly impact the overall cost of your lease. It is imperative to carefully review the definition of Operating Expenses (or other similar term) to understand the tenant’s responsibility for these costs. Operating Expenses will often include property taxes, insurance (including property insurance, liability insurance, and other related coverage), and ongoing maintenance.
3. Length of the Lease. Consider the length of the lease being offered carefully. A longer-term lease offers stability, but could also limit your ability to adapt to changing business needs. Conversely, a shorter-term lease provides flexibility but may expose you to the risk of more frequent and higher rent increases or relocation. Often commercial leases will be for a term of 5 years with optional renewal periods. An option gives you the right to extend the lease beyond its initial term. These options will often include the rent amount to be charged for each renewal period or, at the very least, the formula to be used to calculate the rent for any renewal period. This can be a valuable safeguard against the uncertainties of the future and allows for continuity in a location that supports your business growth. Pay attention to the timing requirements for exercising any renewal options as the deadline to exercise is often several months prior to the end of a lease term.
4. Alterations & Repairs. Clarifying your rights and responsibilities in terms of your ability to make alterations and improvements to your space as well as who is responsible for repairs is a key component to many lease negotiations and doing this upfront can prevent disputes down the line. We recommend determining what alterations or improvements to the space can be done without obtaining landlord approval. For example, any alterations or improvements that cost below $10,000 do not require landlord approval. The lease should also clearly outline the responsibilities for repairs, distinguishing between routine maintenance and repairs necessitated by damage or wear and tear.
5. Assignment and Subleasing. The ability to assign or sublet your leased space can be crucial for businesses facing changes in their operations or growth. Understand the conditions under which you can assign your lease to another party. Similarly, know the rules regarding subletting. This provision allows you to lease part or all of your space to another tenant. Generally, any type of Assignment or Sublease arrangement will require landlord approval and there is often a fee associated with obtaining such approval. We recommend you review any necessary steps needed to obtain the landlord’s consent as well as pay attention to any landlord fee associated with such request.
This article is meant only as a brief introduction of factors to consider when reviewing a commercial lease. If you have specific questions about commercial leases, or would like assistance with reviewing and negotiating a proposed lease, we’d love to connect!
letsgo@cruxterra.com
