Negotiating the operating costs as rent
Thursday, March 19, 2015
When it comes to negotiating commercial leases and renewals, there are aspects of operating costs that can indeed be changed to the tenant's favor (although most commercial real estate professionals may tell you otherwise).
The landlord wants to make sure that tenants pay for all the operating costs for the property — there's nothing unusual about that. But when we do operating cost reviews for groups of tenants in a building, we frequently find that the tenants are subsidizing capital improvements that the landlord is using to increase property value.
Begin by looking at what you're paying for. The majority of commercial lease agreements may stipulate the key components of the operating costs for which the tenants need to pay. Typical examples include general maintenance, painting, lawn cutting, snow removal, property insurance and so on.
Almost every lease agreement has an operating cost clause that typically defines these common area-maintenance charges in a short- or long-term manner. From a tenant's perspective, longer is better than shorter because it creates certainty.
We remember noticing in one property that the property manager's salary was included in the operating costs paid by the tenants. The landlord, however, refused to reveal the amount of that salary. After forcing their hand, we discovered the salary was ridiculously high. It wasn't the category or fact of the salary itself was inappropriate — just the amount.
Tenants should also understand that proportionate share counts. If a tenant occupies 7 percent of a commercial property, he can typically be required to pay his proportionate share — 7 percent — of the operating costs as additional rent.
However, not all tenants use or consume operating costs proportionately. For example, would a hair salon or a bookstore use more water? Be aware of clauses that allow the landlord to distribute costs of vacant spaces that the landlord should be paying onto all other tenants occupying the property — effectively causing you to pay more than your proportionate share.
In some cases, a slothful or cash-strapped landlord may have skimped on regular maintenance, but after the property is sold to a more reasonable landlord, several years' worth of deferred maintenance has to be caught up on — at the expense of the current tenants.
If you're trying to budget costs for the year, and your overhead rents are important to you, you may want try negotiating a 5-10 percent cap on operating costs so that your landlord can only raise them that maximum amount annually.
Over the years, we have conducted many operating cost reviews. Typically, we get a phone call from one tenant who is disgruntled and wants to challenge the landlord. It's more cost-effective for that tenant to get his neighbors together and share in the cost of an operating cost review.
Although some lease agreements state that the landlord provides the tenant with access to financial operating cost records, many other leases do not. Some leases build in a 90-day or one-year statute of limitations, drawing the line on how far back the tenants can go.
As a tenant, you have rights. The landlord is acting as a steward of your money. Operating costs should not become a profit center for the landlord.
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