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by: Tim Knox
Last week we
looked at a few of the things you should consider before leasing
that first office or storefront for your business. To recap, you
should not only consider the old standard "location, location,
location," but also consider things like sufficient parking, the
number of employees who will be working onsite, and future growth
projections. I stressed that it was important not to get caught up
in the moment. You should take your time to find the space best
suited for your business for the long haul, not just for today.
This week we'll discuss the most important aspect of the process:
signing a commercial lease (insert dramatic music here). One of the
biggest mistakes many entrepreneurs make when leasing commercial
space is not reading the lease. Forget reading the fine print. When
it comes to a lease its ALL fine print.
Don't believe me? Let me tell you the true story of my friend,
Homer, whose name I have changed to protect the ignorant. Homer
signed a two year lease on a suite of offices for his business. As
the owner of the business Homer signed on the dotted line and agreed
to personally guarantee payment of the lease and to abide by its
terms. Homer moved in and it was business as usual until the end of
the two year lease term drew near. It was then that Homer discovered
that failing to read the lease was going to be a very costly
mistake.
Toward the end of the two year lease period Homer decided to
relocate, but when he gave the landlord what he thought was the
customary 30 day notice, he discovered that the lease had
automatically renewed for another two year term at the 60 day notice
point. In other words, Homer didn't realize that the lease required
a minimum of 60 days notice to let the landlord know that the lease
would not be renewed. Because Homer did not know that he was
required to give at least 60 days notice of his intent to vacate,
the lease automatically renewed for another two years. And there was
not a darn thing Homer could do about it but reach around and slap
himself in the back of the head for not taking the time to read the
lease.
What was the landlord's position when Homer pointed out that he had
not read the lease and therefore was not aware of the 60 day notice?
The landlord, while sympathetic to Homer's plight, stuck to his guns
and told Homer that he would have to honor the lease, which meant
that even if Homer moved out as planned, he was still on the hook
for paying the rent for another two years.
Does the fact that the landlord chose to enforce the lease agreement
rather than let Homer off the hook make him an evil man? Not at all.
From the landlord's point of view, he had no choice but to enforce
the terms on the lease. He had a signed contract that told him his
space was going to be rented for the next two years. He had not
planned on the space suddenly being vacant. Being a landlord with
unrented space is like being a business with no paying customers.
Empty space means no revenue from rental fees which means no money
to pay the mortgage payment.
As the old saying goes, "It's just business…"
Sure, any landlord with a heart might feel bad that Homer was
ignorant of the auto-renewal clause, but not so bad that they are
willing to risk their own financial well-being by having Homer's
space sit vacant. The bottom line is this: whether Homer read the
lease or not is irrelevant. Homer signed the lease, thereby agreeing
to its terms, and therefore he must hold up his end of the bargain,
period.
As of this moment, Homer is relocating his business in spite of not
being able to get out of his old lease and he will continue paying
the payment on the vacated space for the remaining two year term of
the lease or until he can sublease the space. Even then Homer is not
fully off the hook because he will still be considered the legal
tenant unless his sublessor agrees to sign a new lease with the
landlord. Hopefully he will just have someone else making the lease
payments.
Again, the moral to this story is READ THE LEASE. Or even better,
have an attorney read it for you. I have learned over the years to
never sign a legal document of any kind without letting my attorney
review it, especially if the document involves money and my first
born child.
Here are a few other points to ponder before signing a commercial
lease.
How is the lease payment calculated? The most basic equation for
calculating a lease payment takes the number of square feet times
the cost per square foot, then amortizes that over a 12 month span.
For example, if you have 1,000 square feet and the cost per square
foot is $12, the annual lease payment would be $12,000. Divided by
12 months the monthly lease payment would be $1,000. Again, this is
a simplified scenario. These days most commercial leases include
additional factors that affect the final price, such as rent
increases, operating expense escalations, common area charges, etc.
Who pays for what? It's important that you understand exactly what
you are paying for. Are you responsible for any costs other than the
rent? Will you be responsible for paying your own utilities, for
example? Will you have to pay for parking privileges or janitorial
service? Who handles maintenance and repairs?
Is there an escalation clause? It is typical that the lease contain
what's known as an escalation clause that allows the landlord to
pass on increased building operating expenses to the tenants. If
your lease contains such a clause you should ask for a cap on the
amount the lease payment may rise over a given period of time. And
if the escalation clause is ever activated by the landlord you are
well within your rights to ask for an itemized accounting of the
expenses that are being considered as cause for your raise in rent.
What rent increases might there be? One very important factor to
know is this: if you do renew the lease how much can the landlord go
up on the rent? It is expected that rents will increase as property
values increase. If your landlord can rent the space for more than
you agreed to pay a year ago, he is within his rights to ask for the
increase. However, it would be a nightmare if your rent suddenly
doubled overnight. Negotiate the increase before you sign the lease.
Most rent increases are calculated by percentage, not by flat rates.
Renewals and terminations. Most leases require that you give a
minimum of 60 days notice if you intend to terminate the lease and
vacate the property. As Homer learned, many leases also renew
automatically for another term unless you give notice within 60 days
of expiration. Know when your lease expires and the time required to
give notice.
Is a personal guarantee required? What happens if your business goes
south and can no longer afford to make the lease payment? Are you
then responsible for paying the rent out of your own pocket?
Probably so. Most landlords insist on a personal guarantee from the
owner or an officer of the business. This means that even if you go
out of business you are still personally on the hook for the
remainder of the lease.
Finally, clarify all points. You should be clear on every point in
the lease. And if you are not, ask for clarification.
Exactly what space are you leasing? Who is responsible for repairs?
What common areas will you have access to? Who is responsible for
maintaining the little things, like keeping the shared estrooms
stocked with soap, towels, and most importantly, toilet paper.
A small detail to consider now, but not when you suddenly find
yourself without such amenities at the wrong time.
Here's to your success!
About The Author
Tim Knox
Entrepreneur, Author, Speaker
http://www.prosperityandprofit.com
http://www.dropshipwholesale.net
http://www.smallbusinessqa.com
http://www.timknox.com
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2775 West Dickman Road, Battle Creek, Michigan 49037