It May Be the Perfect Location Now, But Will You Still Feel That Way at the End of the Year?!?!

Do you own a small business and are getting ready to rent the perfect space?

I want to try and save you heartache, time and money… Read this before you sign the lease.

For almost a decade, I worked for a third party commercial management company.  One of my responsibilities was to ensure that our client (the owner of the building) was getting every dollar that was owed to them.  That meant I had to learn how to read and interpret commercial tenant leases, in order to figure out the most I could bill the tenant.  NOW, I am on the other side of the equation, giving you some advice that could possibly save you A LOT of money.

My first piece of advice, try and negotiate a “Gross Lease”.  This type of lease typically includes base rent, common area maintenance (CAM) fees, taxes and insurance (on the building).  It might also include other fees such as marketing, electric, water/sewer and HVAC.  These fees I just mentioned can be hidden in a lease and if you are not careful they can end up costing you thousands of dollars.  The benefits of a “Gross Lease” is that you normally have a fixed amount for each calendar year, and possibly the entire life of the lease.  Occasionally, you will have “steps”, which means the amount due will increase systematically.

The most common type of lease is called a “NET” lease.  This means that you will be paying a base rent amount, CAM, tax, insurance, and potentially all of the other charges I mentioned above.  The problem with a “NET” lease is that at the end of each calendar year the landlord (or their management company) is going to perform a reconciliation on each of these accounts.  Let me explain each in detail:

  1. CAM costs are those items that the landlord spends throughout the year for the operation and maintenance of the building.  This could include, but is not limited to housekeeping, security, landscaping, cleaning the parking lots, painting and fixing roadways and parking lots, minimal roof repairs, etc…  The landlord can put all kinds of items into this category and they will be listed in your lease.  At the end of the year, a total is calculated and then you will pay your prorated share.
    1. Prorated Share is calculated by taking your share of square footage and dividing it by the total square footage of the entire building. This is a very simplistic example and more often the calculation is a bit more complicated because the other leases for the building also have to be taken into consideration.  Of course, you are not going to have access to that other information and that is where the problems begin.

During the year, you will have been paying into the CAM escrow account with your rent payments.  Those payments will be applied to the amount you owe.  If you have overpaid, then you will get a refund.  However, that doesn’t normally happen and you end up with a bill for your share of the additional expenses that the landlord deemed necessary.

  1. Tax and Insurance costs are calculated in the same manner.  The total costs are multiplied by your prorated share, your payments are applied to your share of the expenses and you get a bill for the remaining amount.

Sometimes, you will have other expenses such as the electric, HVAC, water/sewer and marketing.  These expenses can be listed as fixed amounts or can be calculated like the CAM, tax and insurance in a Net Lease, which means that you may end up with an invoice to pay.

There is one more item that might be lurking unrecognized in your lease.  This is called “Percentage Rent” and it is calculated by taking your business’ sales for the year (you will be reporting these to the landlord monthly) and subtracting your sales breakpoint, which will be listed in your lease.  This amount will be multiplied by a percentage, also listed in your lease.  The final amount is the total that you pay your landlord.  This might be easier to understand with an example:

Let’s say your total sales for the year are $200,000.  In your lease, it states that your breakpoint is $150,000 and the percentage is 5%.  You would take $200,000 – $150,000 = $50,000.  Then you take the $50,000 x 5% = $2,500.  YOU WOULD OWE YOUR LANDLORD AN ADDITIONAL $2,500!!

My second piece of advice, understand what you are reading!  That means, get an attorney to review it and explain everything to you as well as consult with a CPA that is well versed in reading tenant leases.  It might be the perfect space now, but when you are receiving additional invoices to pay, you might not feel the same way.

Categories: General Business

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