Is your lease up for renewal? Are you considering a move? Do you need to expand? In any case, you need to be aware of all the potential costs of a lease to assure that you are getting the best economic lease terms possible for your budget and business plan.
“Building owners’ goals are to maximize revenue to their building. They will utilize the services of a broker and an attorney in negotiations,” states Stephanie Marino, first vice president in the Corporate Service Group in the Atlanta office of CB Richard Ellis.
“In order to assure yourself that you are getting a fair deal from your landlord, you need to do your homework and build leverage by working with an experienced broker and a real estate attorney.”
Smart Business talked with Marino about getting the best deal when leasing.
How do you go about determining the real cost of leasing?
The first step is to do your homework in the market. Determine your key business drivers: where you want to relocate, the type of property you are interested in, space requirements, the potential need for growth and parking needs. Then shop around and obtain all the information you can about any properties that meet your needs. This information helps you create leverage. The more leverage you have, the better you can negotiate. Keep in mind that a Fortune 500 company is going to have more leverage than a start-up company. You also need to know what concessions potential landlords are willing to give. Typically, if landlord A offers one month free rent for each year of lease term, landlord B will meet the same offer.
Are there costs that don’t belong in the lease category?
Generally, capital improvements to the building should be covered by the landlord. Since the rent amount is based on the landlord’s costs, make sure that he or she is obtaining at least three competitive bids for capital improvements. Rent may be based on inflated costs because the work was done by a profitable captive company of the developer.
It behooves the tenant to make sure that all categories of expenses are spelled out in the lease as well as who is responsible for each. Also, typically excluded from operating expenses are tenant improvements, commissions and most capital expenditures, unless they are required by governmental authorities or serve to reduce expenses (such as a lighting retrofit). Those types of capital expenses can be amortized over the useful life or as dictated by accounting regulations. Additionally, marketing expenses, legal expenses, any services that were reimbursed (such as separately metered electricity billed to individual tenants) and any tenant-specific items, such as locks or signage, are excluded. Some leases allow for tenant relations to be passed through if all tenants benefit. Other leases specifically exclude tenant relations.
What are base rental rates, and how are they determined?
There are four pools of money to consider. First is the base building/financing pool. This includes the base building construction, rate and financing. Next is operating expenses. Included here are taxes, utilities, insurance, common area maintenance, janitorial and repairs. You need to know who is responsible for what and what the management fee is. Is it competitive? Tenant improvements are the next pool. Is the developer proposing a ‘turnkey’ transaction? Are bids competitive? What carry costs and profit fees are added? Who controls the timetable? The fourth pool is the rental rate and concessions. Here is where knowing how many properties can meet your requirements helps. The more options, the better your leverage.
What operating expenses should be included in leasing costs?
It depends on the type of lease:
- Gross office lease Includes taxes, insurance, marketing costs, property management fees, engineers on-site, landscaping, utilities, trash collection, snow removal, maintenance and legal fees, among other expenses. The tenant writes one check per month to cover everything.
- Modified gross rental rate This rate is most used for single-story office buildings and warehouses. The annual rental rate includes taxes, insurance and common area maintenance. The tenant is responsible for everything else.
- Triple net lease The tenant is responsible for everything except a basic rate paid to the landlord.
Are there other areas that should be considered when negotiating a lease?
Rent escalation is here to stay, but is somewhat negotiable. The norm in the Atlanta area is 2.5 to 3 percent per year. In some areas around the United States, it can be up to 4 or even 5 percent. It is important to properly budget for annual increases. Parking fees can run from free to a premium. They are usually a small part of the overall cost and are negotiable. Options to renew or expand are also negotiable. Cancellation options are typically used in longer leases. You may want the option to cancel in three or five years on a five- or seven-year lease, but it may require you to pay for all unamortized improvements, commissions and a penalty, which would be a set amount equal to a (pre-negotiated) number of monthly rents.
STEPHANIE MARINO is first vice president in the Corporate Service Group in the Atlanta office of CB Richard Ellis. Reach her at (404) 504-5950 or Stephanie.firstname.lastname@example.org.