In our last article we continued our series on how to start a successful business, with a look at 7 Steps To Getting The Perfect Business Card. In today’s article we are going to continue that series with a look at “How To Lease Commercial Real Estate”.
Should You Work With A Broker?
The commercial real estate market is much less standardized than the residential real estate market. Just being able to find what spaces are currently available is difficult in the commercial market. There are also many nuances involved like zoning restrictions that an experienced broker can help you navigate.
When you also consider the fact that the landlord is normally the one that pays the broker’s commission, there is really no reason not to work with a broker.
Before we dive into the details on this topic, we suggest you check out SmartBiz, our recommended SBA loan provider. With 25-year terms and interest rates starting at 6.25%, SBA loans through SmartBiz are a great option for small businesses looking to buy an office building or other owner-occupied commercial space. Visit SmartBiz to learn more.
How To Choose A Commercial Real Estate Broker
When choosing a broker, you want to work with a tenant broker. In contrast to leasing agents who represent the landlord, tenant brokers specialize in showing property to potential lessees.
Generally tenant brokers will want you to sign a representation agreement, giving them the exclusive right to show you property. If you are renting a smaller space then you will likely want to sign the representation agreement, as this will further incentivize the broker to put time into finding you the right space. If you are leasing a large space where the commission will be very sizable for the broker, then you may want to keep your options open.
If you happen to be in a very small town where there are no commercial real estate brokers, then there is another way. In this case use the public tax records to find out who owns the building and contact them directly. You can learn how to do that here.
Why Use A Commercial Real Estate Broker?
- Their commission is based on a percentage of the lease so they have an incentive to lease you the most expensive space possible.
- They have no incentive to point things out in your lease which you should negotiate or which may be problematic.
- Generally, the less the total cost of the lease the less attention you can expect from the broker.
With the above in mind, you may also want to consider working with a real estate attorney who can help you navigate the lease and point out potential issues.
Where do you find a commercial real estate broker?
If you are working with a real estate attorney to help you negotiate your lease then your attorney should know many of brokers that can assist you. If not, then asking for a referral from people you know who have rented commercial space and were happy with the results is the next best place to start. Lastly, here is a list of some of the largest commercial real estate firms.
What To Look For In A Commercial Real Estate Lease
In most cases, the first copy of a commercial real estate lease you receive will be completely skewed in favor of the landlord. They do this in the hopes that, like many of their other tenants, you will just sign the lease without really understanding it. However, it is important to know that commercial leases are not standardized, and many of the clauses in the lease can be negotiated so that they are fair to both the landlord and the tenant.
In most cases you are going to have to sign a personal guarantee when renting commercial property. This means that if the business is not able to pay the rent then you are personally liable. This also means that your landlord will likely want to run a check on your personal finances, to make sure you have the capability to back up the lease.
One thing to note here is that most landlords are simply asking you to establish a track record, so having the personal guarantee expire after a set period of time (say after 2 or 3 years on a 5 year lease) should be easy to negotiate in many cases.
Commercial Real Estate Fees
In most markets commercial property is quoted either by the year or month, and on a per square foot basis. Keep in mind however that the space which you actually use for your office (called usable sq. footage) and the square footage that you are charged for are generally different.
The reason why is that you are charged based on your usable square footage and your share of the common space which is in the building. For this reason, it is important to measure your space. Here is a great article on rentable vs. usable square footage from Coy Davidson at CoyDavidson.com.
Types of Commercial Leases & Commercial Lease Terms
Common with retail spaces. You pay a base rent plus a percentage of sales. For a good overview of how this is calculated see this article by James Kimmons at About.com.
In addition to the price per sq. foot, you also pay for some or all of the other expenses associated with running the property. In a double net lease this would include taxes and insurance. In a triple net lease this would include taxes, insurance, and maintenance. These are sometimes also referred to as Common Area Maintenance or CAM fees.
WARNING: This is one of the most common areas where tenants run into trouble. With this in mind you should have a full understanding of all CAM fees, and negotiate for caps on how much they can be increased each year, before signing your lease. For more on how to avoid CAM fee surprises see this article by Blue MauMau at NuWireInvestor.com.
All fees are accounted for in the per sq. footage price quote.
Length of the lease
The best case scenario for you as the tenant is a short term lease with multiple options to renew after the lease is up. This way if you go out of business or outgrow your space, you are not stuck with the lease. You also avoid losing the space if it continues to serve your needs well.
However, generally longer lease terms are more favorable to the landlord, so the longer the lease the better the negotiating position you are in for other parts of the contract. With this in mind, commercial leases are generally longer than residential leases, and leases with terms of 5 or even 10 years are not uncommon.
How are rent increases handled?
Landlords will generally try and work into the lease an annual increase in rent based on the consumer price index or some other measure. These are also called escalations and should be fully understood before entering into any lease. For more on this see this article from Alan Katz at Mintz & Gold LLP.
Find out who is responsible for what expenses
With most residential leases the landlord is responsible for the maintenance of the property and fixing things like AC units and other appliances. This is not always the case with commercial property so make sure the lease clarifies who is responsible for what expenses.
Building Out the Space
If you need to make alterations to the space then you want to make sure it is clearly outlined in the lease what alterations you are allowed to make and who is responsible for paying for them. With longer term leases it is not uncommon for the landlord to cover the costs of building out the space.
Also keep in mind that if you are not going to be able to use the space until it is built out you don’t want to be paying full rent during that time.
If your business needs a sign for customers then make sure that you understand what is and isn’t allowed.
Whenever possible you want to have the ability to sublease your space. This offers some protection if you are no longer able to pay the rent, or if you have expanded to the point where you need to move into larger space.
Exit Plan Clause
What happens if you have to break the lease before its over? Whenever possible you want to negotiate favorable early termination fees, like a 2 or 3 month penalty.
If you sell your business then you are going to need to assign the lease to the new owner. Some leases do not allow this.
If your business depends on the foot traffic that another nearby business brings into an area, then you should consider adding a co-tenancy clause which allows you to break your lease if the anchor tenant leaves. This is especially important for things like small shopping malls which have one or two very large stores that are responsible for a large portion of the mall’s customers.
Exclusive Use Clause
If your business depends on foot traffic then you may want to try and negotiate an exclusive use clause into the contract, which prevents your landlord from renting space out to one of your competitors.
There are no limits or standards as to how much a commercial landlord can require for a security deposit. For some great tips on how to negotiate your security deposit see this article from Nolo.com.
When is the start date of the lease?
You want to make sure that you are up and running and able to meet all the obligations of the lease before the start date. This means that the start date may need to be different than the date you sign the lease.
Should You Buy or Lease Your Commercial Real Estate Location? Click here to get our FREE guide. (It could save you $300,000+ in costs!)
Christmas and Thanksgiving for retail stores
If you are negotiating a long term lease for a retail store or other type of business where the holidays make up the most of your sales, then you want to make sure that you fit as many holiday periods into your lease as possible.
That’s our article for today, if you have any comments please leave them in the comments section below. If you have general legal questions about how leases work, LegalZoom has specialists for you to talk to. Click here for a free trial. Also be sure to read Buying vs. Leasing Commercial Real Estate and Commercial Real Estate Resources.
More great articles on how to lease commercial property:
Officespace.com: Their FAQ section