Signing a lease for your business can be a really exciting time. But, before you put start to move boxes and show off the new digs, make sure you thoroughly review what you’re signing. Here are 5 things in a commercial lease you should pay attention to.
1. A “Personal Guarantee”
Essentially, a personal guarantee is an obligation by an individual to cover the debt if their company can’t pay the rent.
Most people think if they form a company, an LLC or a corporation, that they won’t personally feel any financial pain if something goes wrong (like if the company can’t pay its bills). But, if you sign a personal guarantee, as a tenant, that means the landlord can come after not only the money your company has, but also your personal assets as well.
So, if you sign your lease with a “personal guarantee” you are more or less giving up the corporate protections you worked to secure with the formation of your company. In other words, a personal guarantee undermines the “limited liability” protections inherent in an LLC or corporation.
The reason this is such a problem is commercial leases are often the biggest expense that a company incurs. A typical commercial lease can cost between a half million to a million dollars over the course of several years. You don’t want to be stuck holding the bag if your company can’t cover the bill.
2. “Default Provisions”
Leases typically are written in favor of the landlord and include rigid default provisions.
Tenants need to be careful and make sure the landlord provides the opportunity to fix minor issues that may arise. For example, let’s say you’re a couple days late on rent because of a bank error. If you have a strong lease, the landlord may have grounds to kick you out and come after you personally for the rent. Landlord-friendly leases don’t have any provisions for the tenant. So if you miss your rent by one day, that could cause a huge problem for you.
However, if you ask the landlord when negotiating the lease to provide an opportunity to fix an issue (this is what’s called a “Cure Provision”) you may have the chance to make it right.
3. An “Acceleration Clause”
An acceleration clause is a fancy of way of saying: if you, as the tenant, break your lease, the landlord can come after you for the rent you haven’t paid for that particular month, as well as the rent for the remainder of the lease.
For example, say you have to move your business. You have two years left on your current five-year lease. The landlord could demand all the rent from you for the remainder of the two years, payable as soon as you break the lease. This is why it’s called an acceleration clause, because they’re accelerating the debt that you owe them to the point in time when you default on the lease.
The landlord could possibly sue you for all of the remaining rent, which would bankrupt most small-to-medium sized companies, and if you have a personal guarantee on top of that, then it could personally bankrupt you.
4. “Duty to Mitigate”
A duty to mitigate is the landlord’s obligation to take reasonable steps to limit the amount of damage, if the tenant breaches the contract.
In North Carolina, every contract has an implied duty to mitigate. So the party who does not break the contract has an obligation to limit the amount of harm that’s caused by the other party’s breach.
However, in a lot of commercial leases, landlords attempt to waive their duty to mitigate. Courts in North Carolina have upheld these provisions, even though the default rule would otherwise require the landlord to mitigate its damages.
In practice, this means that if you break the lease as a tenant, and the lease waives the landlord’s duty to mitigate its damages, then the landlord doesn’t have to try to find a new tenant who can pay the rent you were paying before. In other words, the landlord has absolutely no legal obligation to limit the harm. Every month that goes by, you could be on the hook for the full amount of the rent.
By contrast, if there was a duty to mitigate, the landlord would have to make an effort to relet the space. As the tenant, you’re financially responsible for the difference between the rent paid by the new tenant and the rent you were paying under the lease.
5. Who Pays for Certain Costs
There are different types of commercial leases. Before signing a lease, make sure you determine which type yours will be.
Gross Lease: This is where the tenant pays one fee and everything is included in the price. Sometimes the tenant will agree to pay other add-ons, like utilities, but there are few hidden costs.
Triple Net Lease: This is where the tenant pays not only rent, but also their proportional share for things like taxes, property insurance, and the maintenance of common areas. The landlord basically passes on all of its costs to the tenant. If you’re signing a triple net lease, you’ll want to do some investigation to know how much to budget for these added expenses, which can be substantial.
Read before you sign, seriously.
Don’t sign a lease that forces you to pay amounts that are unfair to you and your business. Do your research on the front end and have an attorney review it before signing, because if you’re not careful you may be signing up for expensive payments down the road.
Contact an Attorney at Spengler & Agans
Contact our attorneys below to review your commercial lease or other business agreements before signing. Spengler & Agans offers a flat-rate legal checkup for startups and business needing a broad, overall legal review of their business and business practices.