Five Important Terms of a Commercial Lease Agreement
Commercial lease agreements can be one of the most important documents for your business. For many businesses, it is the highest non-payroll expense. A business owner needs to make sure that he/she understands the lease and the impact of its terms. It is always a good idea to hire a real estate attorney to review the commercial lease agreement, but you also need an independent understanding of some basic ideas.
1. Types of leases – There are two primary types of leases and a lot of variation of how they are applied. The first primary type of lease is called a gross lease. In general, a gross lease only requires you to pay monthly rent. You may be responsible for some monthly utility bills, but the taxes, insurance, common-area maintenance, and operating expenses are “grossed up” into your monthly rent. The other primary type of lease is called a triple net lease (“NNN”). Typically, a NNN lease requires a tenant to pay base rent and additional rent. The additional rent is the tenant’s share of annual real estate taxes, insurance, and common-area maintenance. The tenant may pay its portion of the taxes, insurance, and maintenance monthly or annually in advance (usually monthly), but the landlord should always be required to provide the tenant an accounting.
2. Commencement Date – Although the lease agreement has its own effective date, the commencement date is often a future date to allow the landlord or tenant to finish-out the space or otherwise make alterations. Typically, rent will not be due until the commencement date. Therefore, the definition of the commencement is critical. Often, the lease allows between thirty and one hundred twenty days to complete the improvements. After the completion deadline, rent will begin regardless of the tenant’s tenancy. The tenant should consider alternative language that allows more protection to the tenant. The language used is largely dependent upon whether the landlord or tenant is directing the construction of the improvements.
3. Maintenance and repair obligations – The tenant should be cognizant of its maintenance and repair obligations. Often, the type of space leased will dictate the responsibilities of the parties. For example, if several suites share HVAC units, then the landlord would be responsible for the maintenance and repair obligations, although the cost and expense may be passed through to the tenant as additional rent in a triple net lease. If the HVAC unit is specific to a tenant, then the tenant may be responsible for the repair and maintenance of HVAC. In this case, many commercial leases require the tenant to have the HVAC units periodically maintained, which may be costly depending upon your type of space and the number of units. It would be important for the tenant to budget this cost. Other typical repair obligations would include plumbing, electrical, windows, walls, etc. The burden of the repair expenses is often dictated by the location of the problem.
4. Events of default – A landlord typically requests the broadest possible language for a tenant event of default. It is important for the tenant to be aware that an event of default is not just a failure to pay. It includes any failure to perform under the lease, plus a few others, such as filing for bankruptcy. Typically, the payment of rent will include a grace period. Similarly, other types of defaults should include some sort of cure period before the act or failure to act is considered a breach of contract.
5. Remedies Following an Event of Default – If a tenant breaches the lease agreement, the landlord will have a host of remedies available to it. A tenant should be mindful that it will usually be responsible for the payment of rent even after its possession has terminated for an event of default. Additionally, the landlord can re-let the premise and cause the tenant to pay the difference between the new rent and the old rent, assuming the new rent is a smaller amount. A tenant should be very mindful and proactive when it is heading towards an event of default. If the tenant notified the landlord three or four month before a default, the landlord may be thankful because the additional time allowed the landlord to re-let the premise without missing a rent payment.
Of course, commercial lease agreements contain many, many more very important terms and provisions. The aforementioned list seems to be the most forgotten or misunderstood from the tenant’s perspective. If you are considering entering into a commercial lease agreement, visit a local real estate attorney.
Robert Newton is an attorney based in Frisco, Texas, that practices real estate law, business law, corporate law, and estate planning. This post is meant for informational purposes only and does not constitute legal advice.
