Negotiate a Tenant Friendly Commercial Lease

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Most people are familiar with residential leases and how they work. Commercial leases are entirely different, and unless you are familiar with them, can seem daunting for a new tenant. Commercial leases are usually tailored to the tenant and the space. Read on to learn how to negotiate the best commercial lease for your business.

Steps

  1. Learn the basic elements of a commercial lease. The typical commercial lease is written using the following format:
    • CLAUSE #1 - basic identification information such as Lessor (owner), Lessee (tenant), leased premise address, square footage of unit with accompanying drawings depicting the space.
    • CLAUSE #2 - term of lease with start and end dates. There will also be details of any free-rent or reduced-rent time given.
    • CLAUSE #3 - use of space including any restrictions. A tenant friendly lease may simply have the term listed as "Lessee has the full right to operate a ________ store or any other type of store permitted by law and not specifically restricted in writing by the lessor".
    • CLAUSE #4 - options to renew
    • CLAUSE #5 - lessor's repair and maintenance obligations.
    • CLAUSE #6 - lessee's repair and maintenance obligations.
    • CLAUSE #7 - common area definition. Common areas are those areas and facilities which may be furnished by Lessor or others in or near the space for the non-exclusive general common use.
    • CLAUSE #8 - common area maintenance charges
    • CLAUSE #8 - real estate tax charges
    • CLAUSE #9 - attorney fees obligations in the event of disagreements.
    • CLAUSE #1O - ordinance and statutes compliance
    • CLAUSE #11 - assignment and subleasing rights. A tenant friendly clause may read "Lessee shall have the full right to assign this lease to a subsidiary or other organization in which lessee is a majority owner. Lessee shall have the right to assign this Lease in the event of going public or the sale or trade of Lessee's business. Lessee shall also have the full right to sublease the leased premises as long as the Sublease use does not conflict with any exclusive that Lessor has granted and given Lessee written notice thereof".
    • CLAUSE #12 - utility obligations
    • CLAUSE #13 - entry and inspection notices
    • CLAUSE #14 - possession time-line and any late delivery terms
    • CLAUSE #15 - indemnification of lessor
    • CLAUSE #16 - insurance responsibilities
    • CLAUSE #17 - eminent domain
    • CLAUSE #18 - destruction of premises
    • CLAUSE #19 - lessor's remedies on default. A tenant friendly clause may read "Upon Lessor's default, Lessee shall have the right to cancel the Lease with 39 days prior written notice."
    • CLAUSE #20 - security deposit
    • CLAUSE #21 - explanation of how notice to either party is to be given
    • CLAUSE #22 - succession rights
    • CLAUSE #23 - subordination
    • ADDITIONAL TERMS AND CONDITIONS - if applicable
    • SIGNATURE BLOCKS for both Lessor and Lessee.
    • NOTARY BLOCK - if applicable
  2. Decide what things you want to have included in the lease. Divide these into non-negotiable and nice-to-have to help you decide what you need to stay firm on, and what you can compromise on.
  3. Write and submit a Letter Of Intent (LOI). This document should address the following negotiable elements of the lease:
    • Written description of the Leased Premise including full addresses of each party. An outline of the Leased Premises showing it's footprint and square footages is to be an attachment to the final Lease.
      • Calculating the square footage of the Leased Premises is no problem for a rectangular shaped store. If the space is irregular shaped, or includes separate areas (i.e. patio area or storage space) this figure will be furnished by Lessor. Be sure you agree with the size stated.
    • Base term of the Lease expressed in years and unqualified Options to Renew the Lease after the expiration of the base term. Tenant friendly options include:
      • A short base term and many options to renew.
      • A long base term that is mitigated by a "Kick Out Clause", which is the right to cancel the lease after X years if sales are not $$Y for a particular period.
    • Date of delivery and condition of Leased Premises This should include sufficient rent-free time for tenant to complete it's required construction, fixturing and stocking. Landlord should be penalized for late delivery.
    • Rent expressed as cost per square foot or total dollars per month. This will usually be the base rent amount, and will not include the other costs listed below.
      • A tenant friendly lease may include averaging the rent. Example: A negotiated 6 year base term at a rent of $15.00 per Sq Ft. This can be averaged by paying $10.00 the first two years, then $15.00 per Sq Ft the next two years then finally $20.00 per Sq Ft the last two years of the base term. The advantages of averaging are, the Present Value of the $10.00 rent, less expense during your start-up period, and the ability of paying a higher rent in a future period of time.
      • Depending on the type of space being leased by the Tenant and the type of business to be conducted from the leased space, the landlord may ask for Percentage Rent to be paid. Percentage rent is additional rent to be paid in the event that sales being generated from the leased space are in excess of an agreed upon amount (Called the "Break Point"). The Break Point is calculated by dividing the total annual base rent by a Percentage Rent figure mutually agreed upon. For example: There is an agreement that 3% is to be the Percentage Rent factor and the Annual Rent is $48,000.00, then $48,000.00 divided by .03 equals a Break Point of $1,600,000.00 at which time Tenant is to pay as an additional rent, 3% of sales in excess (over) $1,600,00.00. Some tenant friendly clauses to this may include a higher break point, or the ability to deduct all or part of the other Occupancy Costs (CAM, Real Estate Taxes Cost, Promotion Costs, etc) from any percentage rent due.
    • Tenant Allowance is money paid to Lessee by Lessor to be used to complete the construction and finish of the space.
    • Insurance responsibilities of each Party and who is to bear the cost of such insurance.
    • Maintenance of space. Generally, the Lessor is responsible for the exterior including roof and structural components, while the Lessee is responsible for the interior of the leased space including interior nonstructural repairs and maintenance.
      • A tenant friendly lease may include an agreement for the lessor to either maintain the Heating, Ventilating and Air Conditioning (HVAC) System or guarantee its condition for the term of the lease.
    • Common Area Maintenance (CAM) and cost thereof. This usually covers all non-capital items such as parking lot repairs, exterior repairs an cleaning, shared interior repairs and cleaning, increases to Lessor's insurance cost that exceed the Base Years' insurance and management fees. This is usually expressed as a cost per square foot, and is calculated on a Pro Rata basis.
      • A tenant friendly lease may include a cap on the CAM amount, or on specific items included in the CAM amount (i.e. Management expenses shall not exceed 5% of total Common Area Maintenance cost.)
    • Pro Rata Share of Real Estate Tax Cost. It is customary for Lessees to pay increases in Real Estate Taxes paid by Lessor.
      • A tenant friendly lease may include an agreement that the lessee will be provided with copies of the actual tax bills along with an explanation for the increase. This allows the lessee to thoroughly check the computation of tax increase and make sure it reflects the Tenant's true share of any increases.
    • Any other costs or allowances, such as Promotional and Advertising Costs, any type of association fees, dues or costs.
    • The Letter of Intent should include a "non-binding" clause. This clause states that the LOI may not be considered to be a formal legal document. It reflects the salient business terms to which Lessee and Lessor have agreed and will be incorporated into the final Lease document.
  4. Review the LOI when it is returned to you. Note anything that has been agreed upon, and concentrate on areas that have not been settled. Refer to your list of priorities as you continue your negotiations. Remember that negotiating a commercial lease can take a long time, several months if there are many points that cannot be agreed upon. Take your time, do not feel rushed, and do not sign anything you do not fully agree with.

Tips

  • Consider using an attorney that specializes in commercial leases. This will be expensive and time consuming, but may prove to be worth the cost in the end.
  • Keep copies of all correspondence related to the negotiations. This will be beneficial in case there are any disagreements. It is customary to include all drafts of the LOI with your final lease, so this gives you a way to verify that nothing has been missed.
  • Work with a tenant representative. This is a Realtor with your best interests as their responsibility. They are typically paid by the landlord and lessor's Realtor when a lease is finalized. They still recommend having an attorney review the final lease, but can help you so much in finding a space and in negotiations.

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