Commercial Office Lease Negotiation and Terms You Need To Know

Negotiation

There is no”standard” commercial lease.  The idea of a “standard” lease with pages of take-it-or-leave-it “boilerplate” fine print is to dominate the situation. If you don’t question the terms or want to change them, the lease heavily favors the landlord. Even the spaces to initial are not presented as options you might refuse to initial. They are to prove that you read them.

Negotiation is bargaining with the landlord, or their leasing agent, over what terms in the lease to add, drop, or change. Everything is potentially negotiable: price, extras, size, physical changes, time, whether to arbitrate disputes, and even how to handle building defects. You are not limited to the printed form.  You can cross-out words, whole paragraphs, or pages. You can add type-written  pages of new or different terms that affect your business. So long as the
landlord agrees, you can.

Most of your leverage in these negotiations through your agent is the choice that your agent has arranged. You may not know what a good deal is, but your agent does, and the landlord knows that.  If it’s not there on paper when you sign the lease, you can’t do it, and it never existed, no matter what they promised orally beforehand.

Glossary

Here are some terms you will encounter in evaluating leases, and you should be familiar with them to better understand what is presented in negotiations. There is no particular order:

Triple Net” (sometimes called “Net Net Net”) means that in addition to your rent just for the space, you will pay additional amounts based upon your space’s percentage size of the entire complex. The usual “triple” charges are
(1) Common Area Maintenance [CAM charges],
(2) landlord’s real property tax, and
(3) landlord’s insurance.

In reality, there may be more than these three items, or fewer, but the same term is used. If your space occupies 10% of the entire building, you would pay in addition to your rent 10% of the combined total of the annual charges for these three. Those additional charges are amortized into 12 monthly payments, due along with your rent, usually in the same check. When comparing places to lease, it is important to know what those triple net charges will total, so that you can compare with other possible spaces and budget accordingly.

Gross Lease” is the alternative to a triple net lease, simply meaning that you pay $X flat rate for your space, without any additional monthly costs. The “triple net”- type expenses are presumably built into the monthly charge.

Commencement Date” means the date on which your lease period officially begins. If you have a 5 year lease, it ends 5 years from that date. If you have the first 3 months’ rent free, you pay rent starting the fourth month after the Commencement Date. You typically sign the lease and receive the key long before the Commencement Date, in order to permit you install whatever tenant improvements you need, along with your furnishings and stock, to be ready to do business.

Rentable square feet” is a real estate industry term referring to the area upon which your rent is based. It is not the actual square footage inside your individual suite, measuring from the interior walls. Typically, commercial space is evaluated at $X per square foot, and that rate times the rentable square feet for your space determines your monthly rent.

It is measured from the middle of the wall [i.e., middle of the wall stud behind the plasterboard] for the exterior boundaries of your suite, plus your proportional share of the common areas, including common bathrooms, hallways, lobbies, and elevators. Parking and external areas are excluded.

For example, you might have an interior 20X40 room [800′] and yet pay for 1000 square feet of “rentable” space. After you move in, the room proves too small for your needs. You measure, and then conclude that you were defrauded. You have to check the rentable square feet, not just your usable square feet. You may have exactly what lease promised in rentable square feet.

You care about the usable square feet: the space you can walk inside your own unit. You should bring a tape measure when visiting potential space. It’s the only way to be sure that you’re getting the right size and shape. Then you can compare that actual space and what it will cost altogether with other spaces and what they will cost altogether, and make a more intelligent choice.

C.P.I.” [abbr. for Consumer Price Index] is the measure of inflation. It is used in long-term commercial leases to adjust the annual rent to inflation rates, so that your landlord will get more money. If you paid $1,000 per month rent this year and the CPI is 4%, you will pay $1,040 next year. The US Department of Labor publishes the CPI information, usually about 2 months behind. You can have a copy sent to you with a telephonic request.

There are other types of rent increases besides CPI. Some leases don’t change the rent at all. Others set annual specified rent increases: $1000 now, $1200 next year, $1350 the next, etc.. Some just allow for an adjustment to “market rent”. Store leases may require as an extra part of the rent a percentage of your gross sales, so that if you make more money, you pay more rent.

Abated rent” means rent that you don’t have to pay. Usually “abated rent” refers to the first few months of free rent commonly given to the new tenant as an inducement to move in. The idea is that you are just starting out, completing the move-in, and getting ready to do business, so they give you a break.

Of course, it is not truly “free”, but merely amortized over the other months that you are paying. Since a 2- or 3-month rent abatement is typically included in a commercial lease for years, you have to calculate your choices of spaces by including the benefit of that free time, or if you don’t need it, reducing the monthly rent amount.

Sometimes, free rent is included for slow business months. For example, your business might be slow during December, so you negotiate for abated rent each December for cash flow reasons.

T.I.” [abbr. for Tenant Improvements] means those physical changes in the proposed lease space that will be made to accommodate your business layout and needs. Walls can be moved or built, utilities installed, kitchens and rest rooms built, lighting changed, doors added, lofts built, ceiling lowered, carpeting and painting done, and whatever else is required.

Typically, the TI is done by the landlord, to a dollar amount proportional to how much rent you will be paying over the entire term of your initial lease period. The more you will be paying and the longer you will be staying, the more the landlord can justify spending fixing up the space to your specifications. Its cost is amortized over the lease term, and built into the asking rent for the space. If you’re going to do the TI yourself, or going to take the place “as is”, the
landlord doesn’t have to spend that money, and can afford to drop the lease rate for you.

Trade Fixture” means generally a piece of equipment or a structure that is used in your particular type of business. Stoves, dishwashing machines, and stainless-steel counters are among the trade fixtures for restaurants. Dental chairs, X-Ray shielding, and sinks are among the trade fixtures of dentists. Reception windows facing the customer area, and the wall containing it, is not a trade fixture because other businesses might use such a structure. There are gray areas between these obvious extremes. The term is used relative to TIs that may be removed, or must remain once installed. Trade fixtures are permitted to be removed, absent express language to the contrary.

Option” usually refers to an option to renew the lease for another period of time, but it can also refer to an option to purchase the property, itself. A typical commercial lease is a “5 and 5”, meaning a 5 year lease, with an option to renew for another 5 years. Options usually must be exercised by writing a letter to the landlord some months before the initial lease term expires, expressly exercising the option.

One major pitfall commercial tenants encounter is the vague option in their lease “at new rent to be negotiated”. What’s wrong with that? For example, you would finish 5 successful years of building your business in that location, expecting to extend your lease for another 5 years, only to find that your landlord refuses to extend your lease unless he gets double rent. There is no negotiation, only submission. If you don’t pay what the landlord asks, even if it’s higher than market rent, you are out.

Unless the new option period rent and terms are specified in writing along with the lease, it’s a trap for the unwary. It’s nothing. It’s not an option. It’s an illusion of an option. The law says that an agreement to agree in the future is not an option, but a nullity. You can’t promise that you will agree, even though you both have the obligation to act reasonably. The new rent can be market rent, CPI adjusted, the last rent plus $100, or something calculable. An important term like rent amount for the option period cannot be “to be negotiated” or similar “trust me” language.

Assign” means to have someone else take your place as the tenant. Usually, this happens when you sell your business to someone else. They buy the business and take over the lease. The landlord must approve the assignment, failing which the lease may be terminated. You may or may not be released from secondary liability [i.e., a guarantor] for the rent.

The landlord can condition his approval of the assignment on his getting higher rent, or a pay-off. If you plan to sell the business during your lease, you can avoid such problems by adding appropriate terms to the lease which prohibit the landlord from taking your profits from the sale.

Sublease” is similar to an assignment, except that you remain the primary tenant, responsible for paying the rent directly to the landlord, and you retain the right to “evict” your  if they fail to pay you. A business sold with a sublease might be recovered by the tenant seller through an eviction of the sub-tenant buyer. The tenant seller must still pay the rent to the landlord while going through that process.

Subordination” means yielding priority to another. Your lease usually provides for subordination where the landlord needs to refinance the mortgage on the building. Your lease needs to be subject to the new mortgage, even though it was first in time. Otherwise, the bank’s foreclosure would not terminate your lease, and they would take title as a new buyer would.

Estoppel Certificate” is a document used in the sale of the building to prove to the buyer that you and the other tenants are paying the rent and acting under the terms which your selling landlord has represented to that buyer. If you get one to sign, it means that the landlord is selling the building. Just be sure that the individual facts in the Estoppel Certificate are true.

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