Signing a lease is an important step for any new business owner. Whether you’re opening a store, moving into an office space or renting out facilities for production, at some point you’re probably going to have to reserve a space for your business. The world of commercial real estate can be complicated, and it can sometimes take years to find the space you’re looking for.
Once you’ve found that space, signing the contract could feel like an annoying final step before you can get moved in and focused on running your business. But like most legal agreements, a business lease is an important document that requires some research.
“You have to do a lot of planning when you’re moving from one space to another,” said Walter Gumersell, partner with Rivkin Radler. “Confirm the terms that you’re going to be taking.” For example, include clauses about rent, the security deposit, the term of the lease and the use of the space. “You want that to be as broad as possible,” he said.
It should be no surprise that the fine print in a commercial lease is very important. There are two basic steps to take before signing a lease: Do extensive research, and be aware of typical statutes included in business leases.
Steps for research include vetting the landlord, determining the building owner, researching zoning laws and getting a general feel for the area. Before you sign a lease, make sure you get an idea of the payment structure, your own personal risk exposure, the transfer structure, the landlord’s desired holdover rate and any nuisance clauses in your lease. These are some important things to look out for, but keep in mind that typical commercial lease practices vary by state.
A commercial lease is required any time a business rents a commercial property for the purpose of conducting business from that location. Nishank Khanna, chief marketing officer at Clarify Capital, said a commercial lease agreement is a legally binding contract between a landlord and a business tenant.
“The landlord agrees to rent out the business property, which is typically an office space, in exchange for money,” Khanna said. “Commercial leases typically last from three to five years, creating a long-term relationship between the lessor and lessee.”
Although this may sound very similar to a residential lease, there are some important distinctions between a residential lease and a business lease. For one, while both involve a landlord renting space to a tenant in exchange for money, a residential lease cannot be used for business purposes.
In addition, “commercial leases are less regulated and offer less protection than residential leases,” Khanna said. “They are typically longer in duration and offer greater flexibility when it comes to negotiating conditions than residential lease agreements.”
Another difference is that renters in a residential lease agreement are usually not responsible for paying property taxes, whereas with commercial lease agreements, it’s very common for the tenant to pay at least a portion of the property taxes.
Commercial and residential leases are similar, but there are some important differences, including how long the lease is and who pays the property taxes.
A commercial lease agreement is a contract, so it must include certain elements and key information for it to be valid and enforceable. At a minimum, information regarding the rent, security deposit, lease duration and any additional costs the tenant may be subject to should be clearly defined within the lease, according to Khanna.
“The ‘other costs’ category is an especially important one that should be carefully reviewed” before you sign the contract, Khanna said. “Building insurance, property taxes and maintenance costs fall under the ‘other costs’ umbrella. These additional expenses can quickly tally up to large overhead costs.”
Khanna also noted that small business owners should be aware of the difference between exclusive and permitted use. For small business owners in competitive industries, an exclusive-use contract can be especially beneficial.
“An emerging brewery, for example, would be wise to request exclusive permission to rent out space within a community market, in order to decrease opportunity for competing sales,” Khanna said. “Without exclusive permission, another brewery could rent space within the market and try to win business from the same pool of customers, thus reducing the first brewery’s profit significantly.”
There are several core elements of a commercial lease, such as the cost of rent, additional fees, the security deposit and the length of the lease.
Before you sign a commercial lease agreement to rent a workplace, you’ll have to do some research. Make sure to take the following steps while investigating.
While looking for a new property, if you’re selling a product or service to the public, analyze the area and get a good idea of your potential clientele. Your business location means everything for a small business to thrive, so when you’re shopping around for the right properties, take the time to find the right new home for your business. Gumersell said this process can take two years or even longer, so make sure you plan accordingly if your current lease’s end is in sight.
Gumersell also said that one of the most important aspects of research that is often overlooked is learning more about the landlord and building owner. Sometimes, your direct landlord may not be the true building owner. Either way, find out as much about the landlord and building owner as possible. You’re entering a business partnership together, so make sure you have an idea of who they are, what their financial situation is and whether they’re making good on their payments.
In some states, for example, if a landlord fails to make their payments to the building owner, or fails to make mortgage payments to a bank, the business or tenant can end up getting evicted in the event of foreclosure – even if the business has been on time with every payment. That’s just one example of how the relationship between a landlord, tenant and building owner can go awry. Gumersell said businesses can conduct a public records search to find out more about the landlord. You can also request documents related to the landlord’s limited liability company or business entity to learn more about whether it’s an ideal partner for your business.
Another component to look into is the zoning laws. While your landlord may designate your space for, say, running a restaurant, you have to make sure the landlord’s aims are consistent with the laws of your municipality. There are scenarios in which a landlord or building owner may think they can lease their space to a certain type of business, but it doesn’t match standard zoning laws in the area. By aligning these two details, you can ensure that your business can operate without any major legal headaches from the town or city in which you’re operating.
One of the most important aspects of signing a lease is being able to operate your business to its fullest capacity once you open your doors. Many leases have extensive points on noise, smells and equipment. Ann Brookes, a tax attorney, said that when she signed a lease for a restaurant, she had to negotiate an “offensive odors stipulation.”
“The building rules said no offensive odors,” she said. “Whether a smell is offensive is subjective, so I made sure there was an exception for smells ordinary to a restaurant.”
It’s also important to research basic environmental laws regarding the property before you sign anything, Gumersell said. Landlords often miss these laws, and they could be used against your business.
Before signing a lease agreement, do your due diligence on the property. Make sure to research the local area, the landlord, the zoning laws for the area, and any other nuisance and environmental laws the property is subject to.
There are some key points to keep in mind when you are reviewing your lease. The rent structure is probably the most basic and most important aspect of any lease. By determining how much you pay per month, as well as how much your rent will increase each year, you can better determine budgets and get a full understanding of whether you can stay in business in this new space.
The lease terms are also very important. Consider a short-term versus long-term lease. A long-term lease can be a great investment if you’re opening a business in an emerging or growing area, whereas a short-term lease provides you with the flexibility to move locations or shutter your business if it doesn’t pan out the way you hoped.
Both with payment structure and term, make sure you understand exactly what you’re on the hook for each month. Ask your potential landlord about how the following expenses are paid:
Once you’ve established some basic pricing and term structures, it’s time to dive into some of the less-obvious details. While your lease will likely vary by state, here are some good examples of statutes to be aware of before signing a lease:
While these are some good examples of things to be aware of, there are likely many aspects of your lease that can be negotiated. Work with your potential landlord – and, if necessary, an attorney – to make sure you get the best deal for you and your business.
“Where a residential lease has a fixed term, a commercial lease is often negotiable and can have a longer or shorter term depending on the conditions set,” said Allan Borch, founder of Dotcom Dollar. “Commercial leases also have fewer legal protections because the consumer laws that apply to residential lease agreements do not cover commercial leases.”
Don’t hesitate to negotiate the terms of the lease. Many aspects of the contract, especially the length of the term, are negotiable.
Borch and Dan Bailey, president of WikiLawn, listed some key terms that small business owners should know regarding commercial lease agreements. The list does not include every possible term you may encounter on a commercial lease agreement, but it’s an overview of the ones you are most likely to see.
There are a number of lease terms you should be familiar with, including usable square feet, commencement date, grant of lease, covenants and rent abatement.
Commercial leases can be complex. Below are four of the most frequently asked questions relating to commercial leases.
It is normal for the lease deposit to include a security deposit and two months of rent. The average cost is around $4,000, according to research done by a property management group in Houston.
The answer to this question depends on the type of lease. The utility needs of a high-rise office suite are quite different from a textile semiconductor manufacturing plant. To simplify the sheer range of leases that exist, most commercial leases are split into three categories. A gross lease covers all operating expenses, and that includes utilities. A net lease is less inclusive and usually does not cover utilities. A modified lease can be either a gross or net lease, with custom changes negotiated by both parties.
In the long term, owning commercial property is typically more economical than leasing. Leases are still popular because many businesses can’t devote a significant portion of their capital to commercial real estate. If a business can afford to tie up assets in commercial real estate, purchasing is the better option. If not, leasing is the way to go.
Commercial leases are typically three to five years. That guarantees enough rental income for the landlords to recoup their investment. Leases are often negotiable, but for a commercial lease, landlords frequently allow customization of the space for the sake of the renting business. This means that landlords invest a lot more money into commercial real estate than they might for residential properties.
When looking for a commercial property to lease, you’ll need to go into it prepared. That includes the way you negotiate the lease. Following the steps above can help you lock in the best deal for your company, giving you a home in which to grow and terms that support your business’s success.
Tejas Vemparala contributed to this article. Source interviews were conducted for a previous version of this article.