Running a business will sometimes require you to rent an office space to operate. While there are currently many businesses that can operate and run from home, not all industries have that accessibility.
Buying an office space can sometimes be too expensive for the business owner, especially if they're starting with a low budget. Thankfully, there are many landlords eager to rent their space through a lease agreement.
If you're one of those landlords who are looking to draft a commercial lease agreement, keep in mind there are many different factors surrounding a rental property.
First, you must meet the landlord and tenant laws of the state your property is in. Moreover, you must ensure that your lease agreement offers reasonable terms that ensure the tenant's needs are met.
The following blog post will walk you through the specifics of a commercial lease agreement. By the end of this article, you will have a better idea of how commercial leases work and how you can start working on them yourself.
Let's start with the basics. A commercial lease agreement is a written document where you'll outline all the terms surrounding the rental of your commercial property.
Your commercial property can be:
Once you rent your property to someone else, they will have the legal right to use it to do business in accordance with the lease terms.
In most cases, signing a commercial lease agreement will grant the tenant the right to operate any kind of business in exchange for rent, although there may be some particular business niches that the landlord may not want to have on their property.
A commercial lease agreement will also outline a landlord's rights and responsibilities as the owner of the property. Both the landlord and tenant must comply with the terms of the lease agreement to ensure a healthy rental relationship until the end of the lease term.
In essence, every lease agreement will outline basic clauses like:
As long as the tenant pays their monthly rent and complies with all of the terms of the agreement, they will be able to use the property to do business as they please.
Both the landlord and tenant can decide to hire a commercial real estate agent to ensure the rental process goes smoothly, although this isn't required in most states.
Commercial lease agreements give the landlord flexibility when it comes to stating terms. In that sense, there are currently four different types of lease agreements you can draft for your tenant.
You will choose the type of commercial lease depending on how the tenant pays rent and/or other operating expenses. Let's review each one.
In this type of commercial lease, commercial tenants are responsible for paying everything surrounding the property's operating expenses (besides monthly rent).
These operating expenses include:
Here, all of those operating expenses will be factored into the rent, so it's logical for those rental prices to be higher than with other lease types.
Overall, this type of commercial lease is more landlord-friendly, as they won't have to worry about paying for anything. Moreover, landlords can add some additional clauses if they want to reserve the right to pass down increases in the future.
Net leases are considered to be a "middle ground" option for the landlord and tenant. Here, the operating expenses of the commercial properties won't be factored into the rent.
Instead, the tenant must make two payments; one payment to cover base rent, and another to cover their pro-rata portion of the unit's operating expenses.
The three "net" operating costs the tenant must cover include:
Keep in mind that "common area maintenance" includes any costs surrounding utilities and regular operating expenses.
Currently, there are three different types of net leases, depending on the landlord's needs:
You can expect a modified gross lease to be a hybrid between the last two lease types we mentioned. Here, the landlord and tenant share the operating expenses.
Both parties are free to negotiate how they will share these expenses, although most of the time, the tenant pays for rent while the landlord covers property taxes and insurance.
In other cases, the tenant starts out paying only base rent and then starts sharing the operating expenses with the landlord later.
There's no right option when it comes to this type of commercial lease. Both parties must come to an agreement and stick to it.
Percentage leases are mostly used for retail spaces, and they're fairly simple.
Here, the tenant will be responsible for paying base rent and a monthly percentage of their company's gross revenue while it's operating on the rental space.
We have two winners in this category. Both the percentage lease and the triple net lease are the most commonly used ones, as they benefit the landlord more without necessarily affecting the tenant.
In strip malls and shopping centers, the percentage lease is more common, whereas the triple net lease is more common in the rest of the commercial areas.
Still, you shouldn't go with the type of commercial lease that everyone uses. You must go with the one that fits your needs the best, as long as these needs are reasonable.
You may notice the term "price per square foot" whenever drafting a commercial lease agreement. If you download a sample commercial lease agreement online, you may also find it.
Normally, the "square footage" of a property is used to measure its dimensions. In the real estate industry, landlords use this to calculate rental or purchase prices.
The calculation is easy. It goes like this:
If you were renting 3,000 square feet for your unit, for example, and you were asking for $20 per square foot yearly, you would get $60,000 in annual rent. Now, if you divide that amount by 12 (for the 12 months a year has), you would get $5,000 as your PPSF, which you can ask for your monthly rent.
Many landlords calculate their rental prices based on the PPSF method since commercial spaces are often combined or divided. However, keep in mind that the amount of rent will also depend on whether you're renting Usable Square Footage or Rentable Square Footage.
The Usable Square Footage is the space that the tenant is allowed to occupy and use to do business. On the other hand, the Rentable Square Footage is any space considered a "common area" that all tenants can access and maintain.
Finally, remember that, depending on your lease type, you should also factor in operational expenses.
Technically speaking, you don't need a commercial lease (depending on the state). However, it's highly recommended that you get one. If you hire a real estate agent, then they may also suggest the same.
Keep in mind that a written commercial lease will allow you to define many different terms of your lease, including the security deposit, the base rent, the payment of property taxes, and more.
If you don't leave any of these things in writing, then you risk the tenant avoiding these responsibilities, and since you didn't leave anything in writing, then you may not be able to make a legal complaint, as there's no evidence of what you agreed upon.
A commercial lease is beneficial for both parties involved in the lease term, as it ensures that their rights are considered. Most landlords and tenants have disputes from time to time, and by having a written lease, they can use it as proof to settle these issues.
If the tenant makes leasehold improvements without notice, for example, and the landlord explicitly said in the lease that they couldn't do that without permission, then they have the right to file a complaint or evict their tenant.
Written leases also help the landlord to outline special terms like subleasing. In essence, a lease binds the landlord and tenant to their obligations and also protects them in case of any dispute.
Unlike residential property leases, there are a few more clauses that landlords should consider for their new tenant. In most cases, here's what you'll need to include in your lease:
We'll expand on this list later.
In most cases, commercial leases are either fixed or periodic. You may choose the option that best suits your needs.
Here, the landlord will specify a specific date for the end of the lease. Once the lease ends, the landlord can decide if they want to make a lease renewal agreement or not.
It's important to note that the terms of the lease, including rental payments, can't be changed until the agreement term ends (unless a clause in the lease specifies any party can adjust some clauses).
In a periodic lease, the term will renew every month or year. These are also known as month-to-month and year-to-year leases. While the lease can renew itself indefinitely, both the landlord and tenant have the right to terminate it as long as they provide enough notice.
Many people prefer periodic leases, as they offer more flexibility to both parties involved. In the case of the landlord, they have more flexibility when evicting their tenant, changing the lease terms, and even raising the rent as long as they provide enough notice.
Let's expand on the information we just mentioned. Here's everything you should know about drafting a regular commercial lease in most states:
Specify the basic information about the parties involved in the lease. This includes the landlord's and tenant's names, contact information, and other relevant factors.
Include the legal description of your commercial space, including its type, square footage, address, and more. You should also include whether the tenant has access to special services like cleaning, security, parking, and more.
Here, specify how the tenant can use the property for their business activities. You must also point out anything that's not allowed in either the rented space or common areas.
Some common activities that aren't allowed in commercial spaces include after-hours noise or smoking.
Include information surrounding the lease type you chose, the length of the lease, and the term dates.
If you want to allow your new tenant to sublease your property or not, you should specify it in the lease.
Outline every factor surrounding the base rent, including the payment frequency, late fees, and how both parties will be sharing the operational expenses (if applicable).
You must also specify any terms surrounding rent increases. Make sure you review your state's rules surrounding increases.
Some states give the landlord total freedom to increase the rent as much as they want and as many times as they want, whereas others have limits on when and how much they can increase the rent.
Most landlords ask for a security deposit to cover unforeseen expenses. It's given by the tenant to demonstrate their "good faith" in complying with the lease terms and not damaging the property.
If the tenant, by any chance, breaks the lease, damages the property, or does anything that can affect the landlord or their property in any way, then they can use a portion of the security deposit to cover these damages.
Make sure to outline the amount of the security deposit and what you will use it for.
As mentioned before, operating costs include utilities, insurance, and taxes. Specify the person who will be responsible for covering those expenses or if both parties will share them.
Both the landlord and tenant can request to make improvements to the property, as long as there's a clause in the lease that specifies this right.
Most of the time, the landlord and tenant can make improvements as long as they provide proper notice. Not providing notice can lead to legal consequences for any of the parties involved in the lease.
There are many other clauses and factors you can include in your commercial lease agreement. Remember the key is to include everything needed to ensure a healthy rental relationship, as long as these extra clauses are compliant with federal and state law.
Some common additional clauses people include in their leases include:
Tenants have the right to request a renewal once the lease ends if they want to stay. In most cases, the landlord can agree to extend the lease in exchange for a particular rent price.
On the other hand, the tenant also has the right to request to purchase the landlord's property for a particular period during the lease. Again, the landlord can either approve or refuse this request.
The right of refusal applies when the landlord's property gets put for sale and then goes under contract with a new buyer. In these cases, the right of refusal gives the tenant the right to purchase the property for the same price.
Most of the time, tenants are given between 30 and 60 days to secure a financing option for purchasing the property.
HVAC expenses tend to be high, so it's important to specify who's responsible for covering them during the lease. Moreover, the tenant has the right to request an HVAC system inspection before they sign the lease if they're responsible for maintenance.
Here, you can specify some terms for terminating the lease under special circumstances unrelated to not complying with the lease.
If the landlord, for example, wants to terminate the lease because they will sell the property to another person, then they would have to pay the tenant for leaving the premises.
On the other hand, if the tenant wanted to terminate the lease early for any reason, they would pay a penalty instead of paying for the lease's full term.
These clauses are up for negotiation.
You must specify the state laws on which you're basing the entirety of the lease agreement. If your commercial space is in California, for example, then your governing law would be California's state laws.
Having the landlord and tenant sign the document is the first step in making the agreement legally binding. However, it's always recommended for both parties to sign everything in the presence of a notary public or a 3rd party witness. This is to protect both parties in case of a dispute.
A landlord's responsibilities for a commercial lease can vary depending on the case. Typically, these responsibilities will be the following:
Inspecting the Property
The landlord must ensure that their space is the right fit for the tenant's business needs. If the tenant wants to operate a restaurant, for example, the landlord must ensure that the building complies with local building codes, as well as federal/state laws.
Evaluating Tax Obligations
Depending on the lease, landlords can have their tenants pay a portion of the property taxes. In this case, the landlord would be the one responsible for specifying the amount of that portion.
Assessing Property Use
As mentioned before, landlords have the obligation to outline what the tenant can and cannot do with their property. Landlords who own multi-unit spaces, for example, should not rent spaces to businesses that the tenant considers competition.
Choosing a Reasonable Lease Term and Type
In most cases, the landlord is responsible for deciding the lease type and term, although some people allow the tenant to make a counteroffer.
In any case, you should always offer reasonable lease terms so that you increase the chances of having a good tenant that will comply with everything.
Making Repairs
Depending on the lease, the landlord may be responsible for the upkeep of the commercial space or making repairs. Sometimes, however, landlords decide to have their tenants cover maintenance and repairs.
On the other hand, the tenant's responsibilities include, but are not limited to:
The key to a healthy leasing relationship is to always be clear and specific with your expectations and rules. Once both parties come to an agreement, they can sign the document, and you can then start the lease.
Remember that the more specific you are with your terms, the better. Some factors you can also address in your lease include:
Regardless of the state you're in, the landlord or tenant may have the responsibility for ADA compliance. ADA refers to the "Americans with Disabilities Act."
In most cases, both parties have an equal legal responsibility to make accommodations, although there are some special cases. If a tenant, for example, is currently operating a business that's:
Then, the ADA requires the tenant to remove any barriers, widen the entrance doors, and install ramps if needed. Even if this isn't the case, the landlord should make their business space accessible to everyone.
Drafting your commercial lease agreement for the first time can be overwhelming, especially if you're not getting help from anyone.
Thankfully, DoorLoop has all the resources you may need for your rental purposes, including commercial leases, residential leases, and more!
Make sure to go to DoorLoop's rental forms page, look for the template you need, or fill out the download form, and get started!
These real estate forms were created by reputable attorneys in the US, so rest assured that they will be perfect for all your leasing needs.
That's all there is to know about commercial leases. Remember that every state has its particular rules surrounding rentals, especially for commercial spaces.
If you want to ensure you're following the law, review your state's laws surrounding commercial rentals. You can also download one of DoorLoop's templates to have an easier time filling those out.
