“I don’t need my lease anymore, what do I do?” We hear this more and more from businesses affected by the current environment.
Generally, there are three (3) main “doors” to seeking relief from an existing lease obligation:
Depending on your situation, one or all of these strategies may be helpful to you. As always, surrounding yourself with a team of solid commercial real estate professionals and an experienced attorney is absolutely essential.
Commercial lease relief is a by-product of the current economy and its affect on space usage. Rent/Lease costs are usually #2 or #3 in a business’s operating expenses. It’s an enormous part of the balance sheet on an annual basis. Getting relief from this obligation is essential for any businesses not occupying or able to use their space.
For offices, people are working more remote/at home, but the economic pressures on businesses are forcing many organizations to reconsider how much space they need as they reduce their workforce requirements in the near-term.
Many retail businesses use storefronts and physical locations to amplify their online businesses, but in some cases it was their only way of transacting prior to the crisis. Many of these businesses are now learning how to “go digital” for the very first time. Lastly, for those 90%+ reliant upon in-person transactions (restaurants, salons etc…) many of these businesses have shuttered their doors either due to shutdown orders or worse outcomes of this crisis.
So what can be done if you have space and don’t need as much of it (or any of it) now? Well, ultimately commercial leases are contracts. The truth is that they are not easily broken, revised or amended after they are signed. Most leases are fairly “Landlord” friendly in the sense that they outline many remedies for the Landlord in there are issues but not many for the Tenant. This is the way of the world in commercial leases, as Landlords take on significant costs and risk in signing leases. However, there are strategies and areas you can leverage as a Tenant to get relief from your obligations.
Let’s start with Subleasing and Assignment
A sublease is a subordinate lease document where the tenant becomes a “sub-landlord” who actually leases their space to a “sub-tenant.” This is a rabbit hole; we’ve even seen deals where clients have been a sub-sub-sub tenant. It happens when corporations split, sell, or for any other reasons.
The simple way to look at it is this: Any sublease deal you do will be at YOUR cost as the Tenant to sublease. In this case, you’re just like the landlord. You will pay any marketing costs to lease your space, broker commissions, and any improvements on the space your potential sub-tenant may need. SOMETIMES you have a short enough term left that the Master Landlord (building owner) gets the value of any years beyond your actual lease term (think: you have one year left in your lease, but the sub-tenant you have found is willing to sign a 5-year lease). In this case, your master landlord may kick in for those 4 years of value.
Here are a few things to remember on a sublease…
- All costs are your costs. The Landlord is not going to help you release your own space. In their mind, they have a lease and you’re paying the rent, and your documentation will reflect that. They also likely feel like they have a contract and have associated costs with the existing deal. Just prepare yourself to weigh the costs of improving the space for a sub-tenant against keeping the space and finding a different prospect.
- Your landlord has to review and approve. Once you have a prospective sub-lease tenant, there is usually a review fee charged by the landlord to assess the viability of the sub-tenant. The final decision and approval lies with the master landlord. Yes, they can charge you a fee for review and then say no. That’s how it goes: it’s their building and they assess credit on their own. Look for terms like, “not to be unreasonably withheld” to save you some trouble. (Again, not a lawyer, but a good one helps!)
- The process can be excruciating and slow. Landlords are not motivated to help you do your sublease. Oftentimes they have vacancies of their own they are also marketing against your existing space. If you do manage to get a deal in excess of what you’re currently paying, don’t expect to make any money. Landlords build “profits” clauses into most leases to allow them to collect the difference between your rate and any sublease rate, so your “great” deal doesn’t get passed along. Be aware of this and market and lease your space for what you’re paying (or less) and just skip the hassle.
- Remember to use an attorney, and know one thing: while your sublease document may be short, you are accepting EVERY term in the master lease that your sub-landlord executed. This will be non-negotiable. So, make darn sure you read it and have an attorney explain it fully.
- Get the master landlord involved early. If you need additional term than the sub-landlord can offer, it can help the deal and potentially provide you with additional value or concessions.
So, to summarize: Yes, you can sublease, but you have to pay all the costs of marketing, leasing, commissions, improvements, landlord review fees, legal fees, time lost, AND you cannot make money on it, AND the landlord can say no. Cool. Your best bet here is to plan the best as you can on the front end, since subleases are so difficult to get done.
As far as marketing a space? Brokers hold the vast majority of both direct and sublease inventory. You are doing yourself a disservice by not hiring an experienced professional firm to market and lease your space. The bottom line is that the commission is a rounding error compared to the total remaining rent (in most cases) so don’t get all up in arms about it. Hire someone.
NOTE: Oh and did we mention we can offer our program to sub-landlords? YES, that’s right. For the same reasons you did not want to put up a deposit in your original lease you can offer. Otso as a sub-landlord. We can help you attract tenants to your space and assess financial strength while ultimately giving you more coverage against the risks of leasing. You’re the Landlord in a sublease scenario, so might as well do the best you can to reduce the risks of the deal for your business. Remember, every tenant feels like you do…that your deposit should be zero.
Here is how it works:
- Sign up for Otso and get your space onboarded free (seriously)
- You’ll get a secure link you can have prospects apply too that collects financial information online, in less than 5 minutes.
- Have prospects apply for 2-3 months rent. (The reports are free too)
- Review the financial report and if approved, we’ll issue you a guarantee for 2-3X what you would normally collect as a deposit.
- You’re covered for the rest of the term you’re leasing to the sub-tenant, for every instance of default your sublease document outlines.
Contact us to get your space onboarded, it’s fast and free.
Ultimately, you should want to push for a DIRECT lease, between your Landlord and the new Tenant. So, this brings us to the idea of “assignment”.
In an assignment situation, the master lease that a current tenant has executed and agreed to is literally assigned to a new third party (can be done at arm’s length for corporate entity needs, as well), and the original tenant (lessee) is relieved of their obligations. The new assignee takes over the terms (usually as-is), and the lease continues on as if nothing has changed.
Assignments are what you actually want. They are supremely difficult to get though since assigning a lease removes the previous entity’s obligation in most cases (unlike a sublease). Assigning a lease is much different than a sublease. In a sublease, the master landlord actually has two (or more) folks on the hook for rent payment: the tenant (sub-landlord) and the sub-tenant. So, landlords tend to favor this scenario to an assignment. For obvious reasons, landlords prefer to have multiple credit and recourse routes if something goes wrong, so subleases are preferred.
However, in some cases, the potential sub-tenant is stronger and the landlord would prefer an assignment. You will still pay for a review fee, but it’s the best deal for a tenant. You’re relieved of rent obligations and can walk the earth as a free business (smell that fresh air?).
Assignments are doable in situations where you have found a business that is “stronger” than you. Convincing the Landlord of this fact can be done with the idea that doing a direct deal with this prospect is “cleaner.” You will need to leverage your commercial broker for these negotiations, lean on them!
Now, let’s talk about door number two: Termination and Relief Negotiations.
One quick note, Landlord’s are generally not faceless/nameless “creatures.” They are ultimately human too (even the big ones) and over the past 8 months, we’ve been impressed by how practical the solutions have been from Landlords who are willing to work with their Tenants. There is no harm in asking for help! Just be prepared to outline the reasons why you need relief.
Use sales reports, financial statements and anything else the Landlord asks to shore up your request. They are often doing this too while working with their lenders. 90% of commercial property has debt on it so these Landlords also have a piper to pay.
Termination is tricky, straight up. It’s very unlikely you worked a termination clause into your deal on the front-end. Most Landlords are not very fond of them (for obvious reasons, most notably they cannot capitalize the full term of the lease). However, if you DO have something in there it’s clearly in your favor to exercise it. Most termination clauses outline both a significant notice period and a significant termination penalty, so be prepared to provide both.
The more likely scenario is that this is not the case and you are asking the Landlord to allow you to terminate the lease outright. You will need a commercial broker and an attorney to bolster your case but there are a few “musts” as part of any offer.
Remember, you’re balancing the fact that the Landlord has an existing contract with you that they are (assumedly) willing to enforce. They experienced costs to put you into that space as well. Your only real card here is providing the prospect of “money now” vs the risk that you stop paying rent and the Landlord is unwilling to chase or pursue default remedies. It’s costly to default and evict Tenants, most Landlords do not prefer this route. Be communicative and be patient.
Essentially, we’re trying to balance the mitigation of the costs of releasing a space, time involved vs potential default scenarios. You’re trying to convince the Landlord that termination of your lease is a better option… you need them to take the money you’re offering now and release the space.
Here are the five “musts” of any termination/relief negotiations.
- Bring the cash. Be ready to pay at least six months rent as a penalty if you have more than one year of term remaining on your lease. It may take more. Remember this is lieu of 36 months+ in most cases. Again, it’s about mitigation of releasing costs.
- Notice. Offer your Landlord a scenario where you pay “more” now to terminate immediately or “less” if they reduce the term of the lease and ask you to pursue a sublease scenario.
- Preparation. Show them why you need a termination and are unlikely to be in a position to pay rent going forward. They may even ask you to apply for relief from gov sources.
- No emotion. This can be tough and emotional but do not let it get to you. It’s still a business and no one involved is doing anything “personal” to you. Remember, you signed the contract too and those obligations are real.
- Be Creative. Consider giving back a portion of your space or asking for free rent if you cannot get a termination. Any relief is better than none.
The Landlord may be more willing to look at non-termination relief options, here are a few we are in favor of as outlined by DLA Piper, a leading law firm in the US. Most of these outline strategies that assume you intended to “keep” your space, but can be useful even if you ultimately decide to sublease.
Lastly, it will take time. Landlords are rarely a single person/point of decision making. Using your broker and attorney can speed things up PLUS take any of the weight of emotion out of the negotiations. They do this for a living, lean on your team.
The last door here is the legal one. We want to make it clear that this should really be the door of last resort. Using an attorney to demand relief or terminate a lease takes any hope of a practical solution off the table. The Landlord will be forced to respond with their attorney. In our experience, the lease generally favors the Landlord. However, if you’ve tried hard to sublease and made practical and reasonable offers to the Landlord with no success it may be time to just let your attorney take over.
Full disclosure, we are NOT attorneys and this is NOT legal advice. You should be using a professional. We’re outlining some strategies we’ve heard and seen over the past few months that have had limited success. Your results may vary. Every situation and lease is different.
We covered this in our article at the beginning of this pandemic, but here are some common strategies:
Force Majeure: This is probably the one getting the most interest right now. Our view is that it is unlikely to be favorable to the Tenant…however, courts will decide.
Here is the definition as provided in most leases:
Force Majeure. Whenever a period of time is prescribed for the taking of an action by Landlord or Tenant (other than the payment of Rent or the Security Deposit), the period of time for the performance of such action shall be extended by the number of days that performance is actually delayed due to strikes, acts of God, shortages of labor or materials, war, terrorist acts, civil disturbances and other causes beyond the reasonable control of the performing party (each a “Force Majeure Event”).
Force Majeure V2. Any prevention, delay or stoppage due to strikes, lockouts, labor disputes, acts of God, acts of war, terrorism, terrorist activities, inability to obtain services, labor, or materials or reasonable substitutes therefore, governmental actions, civil commotions, fire, flood, earthquake or other casualty, and other causes beyond the reasonable control of the party obligated to perform, except with respect to the obligations imposed with regard to Rent and other charges to be paid by Tenant pursuant to this Lease (collectively, a “Force Majeure”), notwithstanding anything to the contrary contained in this Lease, shall excuse the performance of such party for a period equal to any such prevention, delay or stoppage and, therefore, if this Lease specifies a time period for performance of an obligation of either party, that time period shall be extended by the period of any delay in such party’s performance caused by a Force Majeure.
Notice this clause does not explicitly excuse rent payment. It’s also just an example, your lease is almost certainly different. Which is the kicker here. Landlords are going to argue that the pandemic is neither an “act of god” nor their fault and as such the FM clause doesn’t apply…but also EVEN IF IT DID, rent is still due. So you can see why we’re not a fan. Now, your lease may read differently. Again, engage an attorney to assess and hopefully you engaged one on the front-end before signing.
Ultimately, your Landlord is going to require rent and this won’t be settled until you get to court. If you have truly decided to move on and try to claim a clause like this just be ready for a fight. We are in favor of far more practical solutions (like doors one and two outlined in this very guide).
There are also major government programs to assist. Research and apply for these, they may be able to help
In summary, be practical, be creative and be open while communicating with your Landlord and we’re confident that solutions can and will present themselves. It’s an extremely challenging time to lease space as a business but eventually this too shall pass. If you need any advice, counsel or recommendations our team is happy to help and make introductions as best we can. If we can amplify your sublease efforts with our program, well we would love to do that as well.
Good luck, hopefully this guide is a starting point for your business. We know you can make this work 🙂