Common mistakes inexperienced business owners make when signing leases.
There are no laws on the books to protect a business owner from a bad commercial lease.
Now, pause and re-read that sentence. Pause again and let that sink in. There are laws to protect you from unfair loan practices, defective merchandise and breaches of contract. But, if you willingly signed a lease, even if was entirely one sided in favor of the Landlord, in most cases, you will be legally required to suffer through it to the end of its term.
What most business leaders don’t realize, is the law treats residential and commercial leases differently. Specifically, most states and jurisdictions have laws on the books that protect residents in residential leases, while in at least New Mexico, there are no laws that specifically govern commercial leases. The law presumes small business owners have the sophistication, money and negotiating power of a Walmart. Therefore, most commercial leases tend to be very one-sided in favor of the landlord. As such, some landlords will not even consider negotiating the terms.
Consider the following:
The #1 and #2 expenses of most companies are payroll and rent. Payroll expense ends when you have no more employees. Rent, however, lasts the duration of the lease. The SBA says that about 20% of small businesses fail within the first year. By the end of the 5th year, that percentage goes up to 50%. So, if you have a new business, there is a significant chance your business could fail. If it does, and you are obligated to a long and potentially expensive lease, you are well on your way to personal bankruptcy.
The key to not making a bad business decision when it comes to a commercial lease is to arm yourself with some good advice.
Remove passion from the transaction. Commercial real estate is run by sales people. From the developer, to the landlord to the broker. Understand that not one of them will make a penny until a deal is made. Think of a car salesman on steroids. Aside from having the know how to close the deal, many are masters at psychological manipulation; especially if they can sense you are overly excited to open your business up in a particular location. With that in mind, keep your cards close to your vest. Try to interact without emotional outbursts. Make the real estate broker works for your business, not the other way around.
When looking around for a place to rent for your business, don’t fall in love with just one location. Instead, pick at least 2 locations, ideally 3. Then, you not only negotiate price, but you negotiate the term (i.e. how long the initial lease will last) and the terms of the lease. If a landlord is unwilling to negotiate on any of those three, you move on to the next location.
Don’t fall for pressure tactics: “We have someone else ready to sign, so you better do it soon,” or “We don’t negotiate because we don’t have to, no one has a better location,” or “We won’t lease to you, if you involve your attorney.” If you hear any of these words from your broker or the potential landlord, turn around and walk away.
As it relates to the Term, you want the absolute smallest one available. Go month-to-month, if possible and even if it costs more (just make sure you retain the option to renew for at least 12 successive terms)
Read the small print in the lease. Identify “red flag” terms such as these:
- Anything that requires “landlord approval,” unless it’s followed by “shall not be unreasonably delayed or withheld.”
- Ambiguous language around any payment of funds or how CAM is calculated.
- Responsibility for damage that could occur due to landlord’s negligence (i.e. water damage, when the landlord is responsible for the swamp cooler on the roof).
- Use of force without legal process or notice.
- Landlord right to relocate you, without proper compensation and your approval of the new location.
- Landlord gets attorneys’ fees – what you want is “attorneys’ fees go to prevailing party in a dispute.”
- Landlord can charge and change CAM, without your ability to audit and dispute.
- Missing “landlord duties,” with appropriate remedies (including terminating lease) if landlord breaches those duties.
- Force majeure clauses that doesn’t include pandemics (think COVID-19), and then addresses what you want to do (i.e. defer rent or terminate).
Finally, be aware of these “Bad” practices that are common in commercial real estate. These sorts of shady dealings really piss me off as an attorney, and, you know what? You should be really pissed off too if someone tries these tactics on you.
- When someone hands you a lease, and then tries to explain it to you instead of just letting you read it
- Anyone that would say, “Don’t worry, I know it’s not in the lease, but we’ll do X, Y and Z.”
- Anyone that pressures you to sign right away, instead of taking time to review the contract or, better yet- consult with an attorney
- Anyone that wants to represent both parties to an important real estate transaction
- Any lease that awards attorneys fees to one party only
- Any lease that is really specific on what you need to pay, but contains no specifics on what the Landlord needs to do/pay.
At the end of the day, signing a lease is one of the most important and costly contracts you will execute on behalf of your business. As such, you really owe it to yourself to have a business attorney review the lease before you sign it.
Are you getting ready to execute a commercial real estate lease for your business? Would you like to consult with a Commercial Real Estate Attorney to discuss the terms and ensure they are beneficial to your business? Contact us today