Taking Up Space: Commercial Leases 101
Hello, fellow boss ladies! I'm back with a Part 3 of my Taking Up Space blog series on real estate and new entrepreneurs.
Without further ado, I am excited to talk with you about some of the nuts and bolts of leasing business space, referred to as commercial leasing. I've had the pleasure of representing landlords and tenants with leasing commercial space, ranging from retail and office space to industrial space and even vacant land. I've also dealt with leases with options to purchase, rights of first refusal, and other unconventional stuff.
What I can tell you is that renting a commercial space is nothing like renting an apartment or a home. Negotiating a lease for commercial space takes due diligence, business planning, budgeting, patience, and a willingness to walk away from a bad deal.
For the purposes of this article, I want to give you a sense of what to expect when thinking about entering into a formal lease for your business. I do not mean a co-working space agreement or a sublease. When I say lease here, I mean a lease where your business is named as the tenant (or the "lessee"). You might personally sign a guaranty, which we will talk about more a bit later.
Let's start with your goals as a tenant. What are you looking for as a first time commercial tenant?
Location, location, location. Does the location offer predictable income streams and steady customer traffic? What other benefits are you getting from your prospective space? Are there any competing businesses in your target area?
Cash flow. Does your business have the financial backing to cover operating costs for the premises? Many commercial leases shift the burden of a majority of the property maintenance and repair needs to the tenant, unlike residential leases. Also, consider what the space needs to be ready for you to operate your business. Are repairs or improvements needed? Is special machinery needed, like hair styling stations or separate offices? A financial cushion is especially important to cover any obligations you have. If you don't have a steady income stream, and a paper trail to support it, it might not be right time for you to take the formal leasing route for your office space; instead, you might consider a business center or co-working space until your financials are firm on paper. Remember, the goal is to show someone that you and your business are sufficiently trustworthy and creditworthy to rent space exclusively.
Dealing with "The Man." Is your landlord someone with whom you can deal with on a long-term basis? Most commercial leases are not short-term arrangements. Most initially range from 3-5 years with options to renew. If your landlord is someone that you don't like off the cuff, walk away. Trust your gut. No place is worth a decade-long battle with a difficult landlord.
What are some of the questions that you should be asking when you look at commercial spaces?
What is the rent?
Is this a triple net lease, where the tenant is solely responsible for the property taxes, the property insurance, and the common area maintenance charges for the property in addition to the tenant's monthly base rent; or, is it a gross lease where the monthly rent includes these items? Or, is it something in between?
If it's a triple net lease or a version of a triple net lease where you commit to the increase in taxes, insurance, or maintenance charges above a certain threshold, go back to question #3 above on cash flow. Make sure you understand your potentially increasing financial obligations as they relate to these items before you even go down the negotiation road.
What are the typical utility costs for the space, and what can you expect?
To what degree can the space be customized for your business, and who is financially responsible for those changes?
Is the building / property secure? Are there measures in place for adequate security for you, your employees and clients, and your files?
Are there competing businesses within the same complex? Will there be any issues with your signage if you rent the space in question?
When do you need to move in? Can that timeline be accommodated?
What is the condition of the systems at the property (heating, A/C, and venting)?
Who pays for snow removal and landscaping?
Let's assume you've found a fabulous space for your business, and the verbal offer in terms of figures works well for you. What are the next steps?
Your broker or your lawyer might prepare a "Letter of Intent." This is typically a non-binding agreement, if drafted correctly, that confirms the essential terms of the lease between the parties, such as the rental rate, the lease term, and any especially important items for either party, such as an option to sublease or renew, or a right of first refusal if the landlord chooses to sell.
Warning! Be careful before signing a letter of intent because some may be binding without your realization. This is where it is important to consider retaining a lawyer that you like and trust to either prepare or review a letter of intent for you.
Due diligence. The landlord is likely going to engage in a background and credit check for you and your business to make sure you're creditworthy and trustworthy. If you have any credit or background check issues, I have found it best to disclose these issues to your broker up front, so they won't be sour surprises for your prospective landlord. You should also do your due diligence. Check out the property records through the County Recorder's website. Take a look at the county circuit court's website to see if there are any pending lawsuits against your landlord. Google search them. Ask to see if you can do an inspection of the property to make sure you know what you're getting into.
Once the letter of intent is signed, most landlords will provide their own lease form for your review. As a commercial lease often has greater obligations for the tenant with more severe consequences for breach without the consumer protections in residential leasing, you should consider finding a lawyer to review your lease and propose changes. If you don't hire an attorney, be sure to consider the following items in your lease:
Is your business correctly named in the lease? If you have a limited liability entity, like an LLC or a corporation, be sure that your business is named as the tenant, or the "lessee."
Are the start and end dates accurate? Are you covered if there are any delays in possession?
What is your annual rent increase?
When do you get possession of the property? Sometimes, the possession/delivery date is different from the lease commencement date.
What is the security deposit, and when is it due? What are the circumstances where your deposit could be forfeited?
Do you have provisions for customer parking and loading/unloading, if needed?
Do you have provisions for early termination?
Do you have some ability to sublease the property if needed?
Do you have a provision relating to your options if the landlord defaults?
Are there provisions covering the possibility of damage to the premises by no fault of your own?
What are the insurance requirements? Be sure to float this by your insurance agent to make sure there are no issues for your insurance requirements.
Do you have an option to renew, meaning the ability to renew the lease after the initial term expires? If so, what is the renewal rate?
Do you want a right of first refusal, meaning that you have the right to match any offers to buy the property that come up during your lease term?
Do you want specific signage?
Do you have provisions that make the landlord responsible for repair if you find issues at the property after you move in?
What are your repair and maintenance obligations? What are the landlord's?
Who pays utilities?
Who pays common area maintenance charges?
Who pays real estate taxes and property insurance?
Do you have to sign a personal guaranty to personally guarantee the debts of your business if the business defaults on the lease?
There are just a few of the questions to consider when looking at a commercial lease and is by no means an exhaustive list of inquiries. Every commercial lease is a little bit different because every business and its needs are different. It may seem daunting, but it is worth hiring a lawyer to protect yourself when leasing property for your business because, ultimately, it means protecting yourself and your reputation.
Next time, we will talk about the co-working trend and what to consider when going into a co-working arrangement.
Until later.
