COMMERCIAL LEASES – Important Considerations For Tenants
For many small business owners, one of the first major transactions as they grow or transition from a home-based business is signing a lease as a tenant for commercial space for their growing business. All too often, a new commercial tenant will not scrutinize the proposed lease as carefully as they should before signing it, and learn after the fact that it was not in their best interest. It is especially important for a new or younger business to carefully consider the terms of a commercial lease before signing on the dotted line. A new business is typically thinly capitalized and even a small setback can be disastrous. The proposed lease will be drafted by the landlord, and there are no standard forms or terms. In addition to seeking assistance from an experienced commercial real estate broker, a tenant is strongly advised to have a commercial real estate attorney review the lease and assist them in negotiating the terms before signing. While the rent the tenant is paying may be the most critical and obvious item for the tenant to consider, there are many other terms included in a commercial lease that tenants should consider. Here are some to think about:
Is the location zoned properly for the tenant’s business? Many tenants do not understand that their particular use will need to be allowed by the applicable local zoning regulations for the location. Just because one commercial use was in a location does not mean that the new tenant’s particular use is automatically allowed. No tenant wants to find out after they have signed a lease that there are zoning issues.
Who has responsibility for repairs? Responsibility for repairs and maintenance in the leased space and the building as a whole are negotiable items. While typically a landlord is responsible for the structure and the tenant responsible for the interior, this is not true in every situation and requires a careful reading of the lease.
Who pays operating expenses and carrying costs? In some leases, the tenant simply pays rent and all landlord costs (such as taxes, building maintenance, insurance, and utilities) are built into that payment; in others the tenant’s base rent does not cover any of the landlord’s costs, which are added as “additional rent” to the landlord (typically referred to as triple net). There are many variations and every lease and property is different. It is important for the tenant to not only understand the base rent, but also what other costs they may be responsible for and how those costs are determined.
Who is paying for any improvements required in the leased space to meet the specific needs of the tenant? If it is the tenant, the landlord often provides a period of free rent to allow time for the improvements to be done before the rent commences. Or, the landlord may provide an “allowance” against the rent to assist the tenant in paying for the improvements. Again, there is no standard provision for these items, which are all negotiable, and must be carefully stated in the lease.
What is the initial term of the lease and are there any options for extension? A tenant will be legally responsible for payments over the entire term of the lease, so while a longer term provides peace of mind and predictability for the tenant, it also locks them into payments over a number of years. What if the new business is not successful and the business closes? The tenant will still be legally liable for the future lease payments. An option gives a tenant a right to add to the length of the lease under certain specific terms (such as additional years with set rent increases).
Is there a personal guaranty? In almost every lease for a small business, the landlord requires that the principal(s) of the business provide a personal guaranty of the lease. This means that if the lease is in default, such as for nonpayment, the landlord will look to the individuals and their personal assets not just the business assets for repayment.
These topics really just scratch the surface of issues that a prospective tenant should be considering when reviewing a proposed lease. Tenants should consult with a commercial real estate attorney early in the process to protect their interests.