7 Pitfalls to Avoid When Signing a Commercial Lease
Great news! You've started a business. One of the first things to do is find office space. This is one of the most exciting times of starting a business. You get to look at a bunch of properties, dream about your companies future, and makes plans about how your business will look. But this is a critical stage in forming your new business. It can determine the success or failure of your company. Take time to assess your company's needs and find a property that will meet those needs. One thing you need to remember, is to make sure your lease doesn't put your company in a situation the could cause its ultimate downfall. Here are 7 pitfalls to avoid when you sign the dotted line.
1. Do the Research to Find the Right Property. It takes a lot of time and effort to start a business. Plan an adequate amount of time to research properties and perform due diligence before entering into a lease. Many businesses want to get going right away and settle for what is available, instead of finding what will be best for them. For most businesses, 3 to 6 months could be adequate time to find the right property. For large, multimillion dollar businesses the time frame could extend up to a year. It takes time to know what your business needs and if the property will meet those needs. Not all properties are made the same. Don't rush in to signing a lease.
2.Commercial Leases Are Not Like Residential Leases. Most people have rented an apartment or house. It's easy to believe that a lease for your business will be just like renting an apartment. However, residential leases are far different than commercial leases. Generally, residential leases are significantly shorter. Many residential leases last for 1 year. At which point they renew for another year or become a month to month lease. Commercial leases can last 5, 10, 20 or more years. It is a significant commitment. Take the time to consult with an attorney before entering a lease.
3. Maintenance. One major difference between residential leases and commercial leases is the party footing the maintenance bill. Many landlords will pass maintenance costs on to the tenants. In a residential lease, it's easy to call up the landlord to get your toilet or faucet fixed and they usually pay for it. When something goes wrong in a commercial building, many times the tenant will be responsible for the repairs. Keep that in mind when looking at buildings and factor in the in a maintenance budget.
Common Area Maintenance (CAM) or Operating Expenses can be a major source of fees that a tenant hadn't accounted for. These expenses should be used to cover the cost of common areas in the building or even a receptionist at the front desk. Know what things are included in CAM expenses and what things are not. This is an area of the lease where landlords can sneak in high fees to make some extra money. Be sure that your business only pays its pro rata share based upon the square footage of space you occupy. These costs could be devastating to the business if only two or three tenants have to pay for an entire building. Other things to watch out for are HVAC repairs and duct cleaning. Try to have those expenses covered by the landlord or get the price of regular maintenance listed in the contract.
4. Taxes and Assessments. Be careful about which party is responsible to pay taxes or assessments and how much that will be. Your business' taxes could increase significantly if the property is sold to a new owner or if it is improved. You may get stuck paying significantly more taxes than you had planned for. In addition, sometimes the city will levy special assessments. Don't get caught in the last year of your lease paying for a 5 year special assessment. It makes the most sense to have the landlord pay for taxes and assessments. Try to negotiate that into the contract. Many landlord's already expect tenants to pay taxes, just make sure you aren't paying more than your share.
5. Use. Unlike some of the other pitfalls, a use provision is one that a new tenant wants to have as a part of the lease. A use provision can determine how other businesses use their space. This can prevent a competing business from moving into the building. If you're a mom and pop sandwich shop, you may not want Jimmy John's or Subway moving in at the end of the strip mall were you just opened your store. This provision could make or even save your business in the future.
6. Assignment or Subletting. Hopefully your business becomes a big success and you need to move to a bigger space or you may want to rent out that extra office in the back for more money, you need to be able to assign or sublease the property. Some commercial leases will terminate if the tenant asks to assign or sublet the property. That means your business could be immediately out of a home.
In addition, it may have been a few years since you entered the lease. Prices may have gone up dramatically. Don't let the landlord get all of the upside. Try to negotiate for a portion of the increased rent payments and capture some of the upside for you business.
7. Personal Guarantees. As the owner of your company, you have to sign a lot documents. It's important during this process to keep your business and personal life separate. Don't put your personal assets in danger of being taken if things go wrong with the business. A personal guarantee does just that. If you sign a personal guarantee the landlord has the ability to come after you personally if the business doesn't work out. That means you could be paying rent for 5 or 10 years or face loosing your home. It is not a good situation to find yourself in.
Fortunately, commercial leases are always negotiable. If a landlord asks for a personal guarantee, negotiate that clause out of the contract. Otherwise, it may be time to start looking for a different property. The risks by giving a personal guarantee far exceeds the benefit of renting that location. There is always another property and another good deal. Don't put yourself in a poor financial situation starting up your business.
If you have any questions about your commercial lease or want someone to review it for you please reach out. I'm happy to help.