Partner Andrew P. Shelby's article on how to avoid commercial lease disputes is published in the Midwest Real Estate News' RE Journal. The full article can be read below.
Rent is one the largest recurring expenses for many businesses. As a result, disputes about commercial leases pose the potential to have significant impacts on businesses. And commercial lease disputes can hurt the land owner or property manager too. For example, from the owner’s side, conflict about a lease can tie up property while halting or delaying receipt of revenue. The point is that disputes are costly and distracting for both sides.
Thus, prudent business practices require efforts to avoid commercial lease disputes before they arise. One key to doing so is advance planning, or really advance predicting—that is, predicting issues that may lead to disagreements and reaching accord on them before discord rears its head. This article recommends several ways that businesses and landlords or property managers can work to avoid commercial lease disputes before they happen. Each recommendation arises out of at least one dispute that resulted in extensive litigation.
1. Make Sure Every Aspect of the Deal is in Writing
Of course, most businesses know the adage that, with respect to real estate, a deal is not a deal until it is in signed writing. But significant disputes can arise when the parties enter into a written lease, but omit from the writing some portion of the parties’ agreement—even a minor detail. The omission of a small aspect of the deal need not be the result of a sharp practice by one side to the negotiations. Instead, it can happen by mere oversight by both sides. Or some aspects of the parties’ agreement can be omitted from the written lease because the parties don’t think the issue is important enough to warrant inclusion. Alternately, omissions can occur because the parties are eager to sign the lease without working out all of the details, so they agree to agree on some aspect of the deal later.
However, omissions can lead to disputes when one party denies the existence of the side agreement or the parties are unable to reach an agreement on something they decided to leave open for later negotiation. What’s the solution? Make sure every part of the deal is reflected in the written lease. Do not leave anything out under the auspices of agreeing to agree on it later or dealing with the issue in a subsequent amendment. This is so even for minor issues, which may, after the passage of time, turn out to be not so minor after all.
2. Think About Use Clauses with an Eye Toward Business Growth
Commercial leases can include use clauses that restrict the uses that may be made of the leased premises. For instance, leases can include prohibitions on using certain equipment in the space, using it as a call-in center, performing medical procedures or, in retail spaces, competing with other nearby tenants. Disputes can arise when a tenant’s business fits within the permitted use of the space at the time that the lease is entered into, but changes at a later time as the business evolves.
As a result, when entering into a lease tenants should think prospectively to ensure that any use clause covers the business’s current activities as well as forecasted or possible extensions and growth of the business. Indeed, the last thing a business wants is to implement a new business plan or form a new department only to discover that its operation is prohibited by the lease. Overly restrictive use clauses can harm property owners too, for example, by decreasing occupancy rates as tenants elect to find alternate space to grow their business.
3. Ensure There is Clarity on Common Area Expenses and Calculations
Common area expenses and calculations frequently engender disputes, in part because the way that common areas are measured and costs are allocated can be byzantine. One key to avoiding disputes about common area expenses and calculations—for both sides to a lease—is understanding the allocation of expenses and having clear estimates and detailed schedules of expenses. Indeed, having clear expectations about calculations, expenses and increases help avoid disputes for both sides.
Further, tenants can consider negotiating for the right to audit common expense amounts and allocations. While property owners and managers may think that audits would give rise to disputes, in practice, audits can alleviate conflict. In particular, the open flow of information between the parties can build long-term trust, which may make them more likely to compromise and seek out mutually beneficial solutions to expense disputes.
4. Be Cautious with Conditional Obligations
If the lease (or any of its terms) are conditional, both parties should make sure that the conditions and contingency plans for the occurrence or non-occurrence of the condition are fleshed out in the lease—particularly where neither party can affect the occurrence of the condition. For example, the parties might agree that the tenant’s rent rate will be affected by the size of an adjacent parking structure that is under development by a third party. If the third party’s plans for the structure change dramatically, then one party to the lease may have its expectations significantly altered.
As another example, the parties to a lease may agree that the tenant’s rental term begins upon the completion of a planned infrastructure development. In this example, the occurrence of the condition is outside of either party’s control. Thus, if the infrastructure project lags behind, then it could leave a landlord with empty space or a tenant with nowhere to operate. And, what would the parties do if the infrastructure development is cancelled or changes materially? Without clarity in the lease, significant disputes can arise. The lesson is that disputes can be avoided by clearly setting forth the conditional nature of any such promises and attempting to agree in advance what will happen if the conditional event does not occur, occurs late or early, or occurs with some type of changes.
5. Avoiding “Unrelated” Business Problems Caused by a Lease
Not all disputes and disruptions caused by commercial leases are between the parties to the lease. Disputes can arise with third parties as well. Thus, both sides to a commercial lease should ensure that nothing in the lease will conflict with larger-picture strategic plans for their respective businesses. As one example, each side should view the lease’s transfer provisions with an eye toward future mergers and acquisitions. The last thing either side wants is a deal with a third-party to be held up or called off because of inflexibility in a lease’s terms.