Commercial Real Estate Leases: Tips for the Unwary
Photo by Decker Jones
Peanut butter and jelly. Dogs and cats. One almost always has a smooth relationship, while the other may have periods of coexistence interrupted by sudden hostility and disagreement. A landlord and tenant relationship can operate along similar paths, but much is dependent on how well the parties have prepared for what is essentially a marriage, short or long term.
As a general rule, the landlord usually has more leverage than a tenant in a commercial lease. Generally, landlords know more about the ins, outs, and nuances of leasing because it’s their business. The specifics of a lease are often addressed early on in a letter of intent, providing basic lease terms specifying the location, size and dimensions, as well as rental terms and any extension and expansion options.
When negotiating the final contract, you can lean on two professionals — a real estate attorney and an experienced real estate broker. The broker knows the market for comparable space, and the attorney advises on crucial details. For example, an attorney will take note of lease maintenance and repair provisions.
It is reasonable that day-to-day maintenance is the tenant’s obligation. But the tenant should insist that major repairs such as structural, roof, foundation and so forth are the landlord’s obligation. At first reading, commercial leases likely make the repair and replacement of HVAC systems the tenant’s obligation. Unknowingly, a tenant will sign that lease without objecting. An attorney will argue that replacement of an HVAC system is a capital expense to be borne by the landlord.
Another trap for the unwary tenant involves assignment and subletting provisions. At a minimum, the tenant should be able to assign or sublease with the landlord’s approval, and the landlord should not be permitted to withhold consent in an unreasonable, capricious or arbitrary manner.
Additionally, a lease often provides that any change in the entity’s structure may constitute an assignment of the lease, giving the landlord whatever remedies it has for an assignment without the landlord’s consent. Careful drafting can avoid conflict situations should the tenant’s business operations change, i.e., adding a partner or being purchased by a larger entity, without triggering concern with the assignment and sublease provisions of the lease. Moreover, individuals or small companies may want to request that any estate planning activities should also be permissible under certain circumstances.
Because tenants often plan to grow their business, their leasing needs may change with time, and a lease should be drafted to handle those situations. Rights of first refusal and options can ensure growth needs are met. Important to consider are the timing and requirements for exercising the right to extend the term of a lease, the rent for an extension, and the mechanics of expansion. What amount of space is available? What is necessary for future growth? Again, these are considerations for inclusion in a commercial lease.
There are many terms and conditions contained in a commercial lease which can trap an unwary tenant, and a tenant is well-advised to seek the counsel of a real estate attorney as well as his or her broker before executing a lease. Multiple pages and provisions must be scrutinized. Have a peanut butter and jelly relationship and not a cat and dog relationship!
Michael Goodrich, of counsel at Decker Jones, is a commercial attorney certified by the Texas Board of Legal Specialization in Real Estate Law. He is writing this column on behalf of the Society of Commercial Realtors in Fort Worth, a regular contributor to Fort Worth, Inc.