By Nancy A. Park
When business owners prepare to sign a lease to move into a new space, they worry most about the rent amount, location and the disruption to business from moving. However, a lease is one of the most important contracts a business owner will sign, because it is often a long-term financial obligation that can either be a boon, benefit or an expensive blunder. When presented with a lease, business owners should avoid the inclination to just sign on the bottom line after checking the rent amount, term and address. Take the time to read the entire lease to avoid the blunders hidden in the fine print. Otherwise, you may get stung by unintended charges or costly repairs.
Be sure to start your search for a new business space with a knowledgeable real estate broker who can find the best deal for a space that suits your business needs. Your broker also can help you be realistic about the market before you sign an overpriced lease that puts you underwater. Your broker will help you enter into a non-binding letter of intent that summarizes the key terms such as rent, term, and who pays for expenses, as well as any improvements to be made to the new space.
While the length of the lease can be intimidating, reading the fine print will pinpoint the areas that contain hidden expenses. Almost every lease issue boils down to expenses that either the tenant or landlord must pay. Be sure that you only pay the expenses you have bargained for, and no more. If you miss the key issues, you may be presented with a huge expense invoice in the first month, be faced with large repair bills because of deferred maintenance, or pay additional expenses every month for services you thought were included in the rent. One caveat: If the lease is short and sweet, rather than thanking your lucky stars, look for important terms that may not be included.
Here are the top five areas to be aware of when reviewing that mind-numbing lease:
1. Check the facts: Are all the key terms from the letter of intent or other summary of terms included in the lease and are they correct? Often some terms are left out, misstated or changed. If so, ask why and request a correction. Double check the math on rent and lease term, and verify that the dates are realistic for move-in and payment of rent. Usually rent does not begin before moving in.
2. Expenses: There are usually several sections that deal with expenses, and what is or isn’t included in rent. The lease should clearly state who is paying for utilities, janitorial, landscaping, taxes, repairs and tenant improvements. Be sure each expense that is included in the rent or paid by the landlord is clearly noted. If there are agreed upon limits on certain expenses, be sure these are noted. Any verbal agreement should be included in the lease.
3. Compliance with Laws: Most buildings aren’t brand new when you move in, and often laws have changed since the space and/or building was constructed. Who is responsible for bringing the space, the lobby area and/or building into compliance if the laws have changed or when future laws change? As a tenant, you should not have to pay for this expense or, if at all, the large expense should be amortized (spread out) over many years, like 15 or 30 years. You want to encourage the landlord to bring your building into compliance with laws, as these could be important safety items like fire sprinklers or handicapped access, but not foot the bill in one month.
4. Building Systems and Premises: All the heating, air conditioning, ventilation and electrical systems of the building and space should be in good working order and in compliance with all laws at the start date of the lease, and the lease should reflect this fact. If a landlord is not willing to state this fact, then you need to ask why not and who will pay for it to bring it to acceptable condition. If you have negotiated that this is your expense, be sure you (or your friendly HVAC service person) have a chance to inspect and test these systems so you know what the dollar exposure might be. These can be significant costs, so beware.
5. Repairs and Maintenance: Be sure you know who must actually call the repair company, and who pays for repairs if breakdowns occur. Often the landlord is responsible to make the call and contract for repairs, but passes the expense through to tenant to pay. The arrangement on this issue should be very clearly stated, as well as your remedy if a landlord fails to make repairs, such as a right to repair and deduct from rent, or notice to landlord.
With a careful eye to the issues, you can avoid the painful sting of unexpected expenses. There is, of course, no substitute for a concise legal review by a knowledgeable real estate attorney familiar with the usual and customary terms and compromises.
About the Author
Nancy A. Park is of counsel at Best Best & Krieger LLP in the Sacramento office where she works with clients in both the private and public sector, focusing on real estate transactions, finance and business contracts. Ms. Park represents private and public real estate entities, lenders and
borrowers, landlords and tenants, and large and small businesses.
She can be reached at firstname.lastname@example.org or 916-551-2849.
By Nancy A. Park
Business owners are often so worried about money and obtaining enough of it to capitalize their businesses that by the time the loan documents arrive, they are ready to sign on the dotted line and be done with it. However, this is a crucial time to step back and make sure that what you are signing up for is what you bargained for. Otherwise, you might find yourself and your business hampered by so many bank consent requirements that you can’t operate your
business effectively. Or worse, you default on your loan without realizing it and there is no way to pay it when the bank calls it due early.
Loan documents are often a tall stack of long, boring and finely printed contracts with lots of boilerplate language. The dirty little secret of loan documents is that the “gotchas” are hidden in this so-called boilerplate. Have your summary of terms (or letter of interest) from the bank right next to you as you read the loan documents from beginning to end.
Then focus on the following five areas to prevent the mistakes borrowers most often make.
1. Check the facts: Is the borrower’s name and entity correct? At a minimum, check loan term (maturity), interest rate, names, payment amount, amortization, addresses and collateral description. Make sure references to interest rate, loan term, payments and other key loan terms match up with your summary of terms. Are the right properties or fixtures being included as collateral? Pay particular attention to “financial covenants,” such as maintaining a certain net worth or cash balances or ratios, and the timing of financial reporting. Be sure that the loan documents give your business time to cure problems if these requirements are not met during the loan term.
2. Review the possible defaults: There might be several places in the documents that list loan defaults, such as failure to pay by a certain time or failure to perform other loan terms. If any of the defaults seem like a real risk (now or during the loan term), then you should discuss this with your banker so you
are not backed into a corner from day one. Ask for a cure period for every default, and avoid having the loan declared due as the first remedy by the bank. Some common events leading to default are failure to pay, death of a key person in the business, or sale of the business or its major assets.
3. Representations and Warranties: Borrowers are usually asked to make numerous statements of facts or beliefs in the loan documents, called representations and warranties. Some of these can be very broad or include facts that the borrower may not actually know. It is important that you read carefully and feel comfortable that each statement is correct and within your knowledge. It is OK in many instances to limit these statements to the best of the borrower’s (your) knowledge.
4. Loan or Credit Agreements: One important loan document is a loan or credit agreement that contains the loan terms specific to your operations. Ensure the bank has not tied your hands with regard to your main line of business, such as prohibiting certain contracts or transactions. Often banks require their consent before allowing certain actions to occur. Be sure that key business activities are not restricted, or you have authority to act up to a certain limit before the consent of the bank is required. Ideally, the bank will have no say in key business decisions, but if it does, require the bank to act within certain time frame so it will not handicap your business activities.
5. Check for Other Terms: If something seems odd or overly restrictive, now is the time to get these things explained in plain language by your banker. Don’t be put off with phrases like “That’s just what the loan docs say, it never really happens that way.” Loan documents are enforced by the actual language that is included. It is extremely important that you understand everything and correct any inaccuracies. If the banker is not able to explain certain issues or change loan terms, then you will need to weigh the risk of this issue occurring against your need for the loan.
You may think that the loan docs are just a necessary evil that should be accepted the way they are to reach the end goal of cash. However, there is no substitute for actually reading all of your loan documents and understanding the actual terms. Even better, allow a lawyer knowledgeable with the customary compromises agreed to by banks and borrowers to give your loan documents a careful legal review before signing on the dotted line.
Nancy A. Park is of counsel at Best Best & Krieger LLP in the Sacramento office where she works with clients in both the private and public sector, focusing on real estate transactions, finance and business contracts. Ms. Park represents private and public real estate entities, lenders and borrowers, landlords and tenants, and large and small businesses. She can be reached at email@example.com or 916-551-2849.Read More