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Upfront costs to a landlord incurred on a typical office lease transaction may include, free rent concessions, a tenant improvement allowance and brokerage commissions.
The following are among the primary factors that determine how much free rent a landlord may give to a tenant: (a) current market conditions; (b) whether the lease is for office, retail or industrial space; and/or (c) the length of the lease term.
Although there is no hard or fast rule of thumb, depending on market conditions, the deal type (office, retail or industrial) and other concessions being granted to a tenant, it would not be unreasonable for a tenant locking into a five year deal to receive two to five months of free rent and those committing to a ten year deal to receive four to nine months of free rent.
Tenant advocates should only consider asking landlord for one hundred percent of the free rent concession to be granted up-front.
Landlords, as a rule of thumb, prefer to grant free rent concessions versus that of tenant improvement allowances.
Tenants should include language providing the return of the full amount, or the unamortized portion of, any free rent concessions granted in the event of their uncured default, lease termination by landlord, or as a condition to get out of a straight, limited or good guy guaranty.
The amount of security deposit requested by a landlord should be based upon how much risk the landlord feels it should have given its due diligence and financial outlay incurred in entering into the lease.
The amount of fixed rent should cover a landlord’s operating costs for its building and financing costs for its mortgage on its building.
Unless the cost of such is considered in the calculation of fixed rent, a landlord should make sure that its tenants pay their proportionate share of real estate taxes based upon the amount of square footage tenant is leasing in proportion to the total square footage of the building.
An operating expense escalation is a provision within a lease which provides that as a building’s operating expenses increase above what they were in the base year of the lease, tenant agrees to pay its pro-rata share of those increased expenses.
A real estate tax escalation is a provision in a lease agreement wherein the tenant agrees to pay its pro-rata share of any increase in real estate taxes on the leased property over and above a pre-established base tax year.
Most operating expense definitions within a commercial lease are very broad, and many include a number of costs of a capital nature as well as those with built-in profit components.
An important carve-out for a tenant to request for an operating expense provision may include an annual cap (typically around five percent) on an operating cost escalation increase or, at a minimum, on those costs that are considered “controllable” by a landlord.
An important carve-out for a tenant is to include capital expenditures in the operating expense definition.
As a landlord, the percentage increase in base rent the tenant pays should be on an annual compounded basis.
From a tenant’s perspective, in order to limit its costs to those actual in nature and without markup from a landlord, utility charges should be direct from the local utility.
From a landlord’s perspective, if the space that is being delivered does not then have direct meters in place to measure the tenant’s consumption of utilities, its lease should provide that the cost to install the meter shall be paid by landlord.
Some landlords include language within a compliance with law provision to have its tenants pay a portion of the costs associated with landlord complying with applicable building code laws, rules and regulations.
From a tenant’s perspective, tenants should be obligated to “comply with law” and remedy any current non-compliance of the premises, as of the lease commencement date.
At the bare minimum, a landlord should have tenant reimburse landlord for any costs that landlord may incur as a consequence of tenant’s request to assign its lease or sublet its space.
Examples of cost reimbursement and protective language for landlords to include in its good guy guaranty may include: (a) guaranteeing that all work started by a tenant will be completed and paid for lien free (in short, the equivalent of a construction completion guaranty); (b) the tenant being required to give landlord between sixty and one hundred eighty days written notice prior to its space being surrendered; and (c) requiring tenant’s owner to reimburse landlord for those costs initially incurred by landlord relating to its lease of the space if surrendered within the first three to five years of the lease term.
Tenants should negotiate into its lease that its security deposit will be reduced in one or two month increments after a period of two to four years from the lease or rent commencement date (provided it is not then in default of its lease beyond the expiration of any applicable notice and cure period).