By Jason Aster, KBA Lease Services
The burden of inflationary increases, like the ones currently hampering the economy, should be shared fairly by both tenants and landlords. Yet such increases in operating costs are often passed on to tenants through additional rent provisions in a lease.
If you’re negotiating a new commercial lease or a significant lease modification, you have an opportunity to protect your interests and negotiate a cap on how high costs can rise in a given year. Here’s how to approach these negotiations.
Agree on what expenses can be controlled
As part of your lease, your landlord will typically require you to pay for certain operating expenses. Some of these expenses the landlord will consider noncontrollable, including taxes, insurance, and utilities.
Others are theoretically in the landlord’s control, like what maintenance or security service they hire, though there are nuances — if the selected team is unionized, for example, the landlord might argue the union rates are noncontrollable.
Determine a cap for increases in controllable expenses
Once you’ve reached an agreement on how to define controllable expenses, you can negotiate a cap on how high those expenses can rise each year.
There are several ways to determine the specifics of how the cap calculation will work, some of which are more beneficial to you and some of which your landlord would prefer.
Landlords are most likely to prefer compounding caps which, as the name implies, compound quickly over time like an interest rate to the landlord’s benefit.
Cumulative caps are less aggressive. A cap of 5% per year means your controllable expenses shouldn’t exceed 15% in the third year of your lease.
You can also base caps on controllable expenses defined in your lease, or controllable expenses you paid previously. If you base caps on expenses defined in the lease — say, 105% of controllable expenses — your costs may be higher than what you paid the previous year. If you cap expenses at 105% of what you paid in controllable expenses last year, you might pay less than the total cost because of caps you had in place.
Scrutinize your lease and Operating Expense Reconciliation Statement
After you’ve negotiated a cap on controllable expenses, you need to ensure landlords have correctly applied caps to the right expense categories and are using the right calculations.
Your landlord likely works with dozens of different leases, all with individually negotiated provisions, caps, and unique definitions of controllable expenses that can increase the possibility of errors and overcharges.
It’s your responsibility as a tenant to scrutinize your lease and OpEx statement to ensure the correct caps have been applied, the calculations are accurate, and you’re paying exactly what you owe.
By taking these steps when negotiating a new lease, you can relieve some of the inflationary pressures on your organization, ensure a fair deal with your landlord, and uncover potential cost savings in your OpEx statement.
Jason Aster is managing director of KBA Lease Services.
Comments