long term commercial lease

[Jon A.]

We literally inherited a commercial tenant. He wants to renew with the following terms. his wording...(sic)

"5 and 4 5 years options"

(we'd be more comfortable with 15 years)

"the lease to be transferable in case i sell the business in the future"

(we don't want to be stuck with an unknown new tenant)

"maintenance outside on you guys and insaid on me exept if rain insaid you guys will take care of it"

(we're okay with this)

"i am not too comfortable with idea of yearly increase if you like we can do like mr ron said - 2 percent time 5 that is 10 to 12 percent every 5 years total of 50 60 percent incease in the and of the tearm"

(we want 3% per year or a CPI adjusted annual increase)

He is a good tenant. Pays on time complains very little. Rent is a little below market, but there are many empty commercial spaces in our town. The town is a bedroom community near San Diego. The space is right on the corner of the best intersection in town.

The sticking point is mostly the rent increases. He wants 10-12% adjusted every 5 years we want 3% or CPI indexed every year. This is significant over a 25 year span.

Are we being too greedy or is he trying to "get over" on us? Are we missing anything in his other requests?

Thanks for looking.

[Bill Gulley]

Originally posted by @Jon A.:

We literally inherited a commercial tenant. He wants to renew with the following terms. his wording...(sic)

"5 and 4 5 years options"

(we'd be more comfortable with 15 years)

"the lease to be transferable in case i sell the business in the future"

(we don't want to be stuck with an unknown new tenant)

"maintenance outside on you guys and insaid on me exept if rain insaid you guys will take care of it"

(we're okay with this)

"i am not too comfortable with idea of yearly increase if you like we can do like mr ron said - 2 percent time 5 that is 10 to 12 percent every 5 years total of 50 60 percent incease in the and of the tearm"

(we want 3% per year or a CPI adjusted annual increase)

He is a good tenant. Pays on time complains very little. Rent is a little below market, but there are many empty commercial spaces in our town. The town is a bedroom community near San Diego. The space is right on the corner of the best intersection in town.

The sticking point is mostly the rent increases. He wants 10-12% adjusted every 5 years we want 3% or CPI indexed every year. This is significant over a 25 year span.

Are we being too greedy or is he trying to "get over" on us? Are we missing anything in his other requests?

Thanks for looking.

I always blame lease terms on financing requirements since I know more about financing requirements than a tenant. :)

So, match lease terms to financing, if you don't have it financed, what are available terms if you were to finance it? Do loan terms adjust every five years (they could) 3 year or annually is more common. If your mortgage goes up you can't subsidize the additional cost for 4 years and then try to make up financing costs.

What are your terms and we'll hit on that.

Long term, 15 or 20 year, you'll need to decide, no real need to have short terms that are renewable, go long term and a buy out after 5 years. Lots of ways to agree there.

Long term leases can be assumable, "subject to owner's approval, such approval not being unreasonably denied" is standard language. Ask him, if he owned the building would he let a tenant sub-let his building to just anyone off the street? That is not customary to have a lease assumable by just anyone.

I'd suggest you use a different index, converting to 1 year T-Bills or New York Prime, that will float with economic changes.

Indexes can used in different ways as with financing. It can become rather complicated, but simple having caps where increases are carried forward that earns a rate of interest and adjusts later where actual payments may go up to a point and excess amounts while not payable are still assessed, accrue interest until the next rent amount adjusts then amortize the deferred amount over the next term together with any increase.

In numbers, say a cap rent was 500, first adjustment is 70 more, but you have a 50 cap. That leaves 20 to bear interest at say 5%, at the end of 3 years that amounts to 2.038/60 over the next five years is 101 a month to pay back that deferred amount. So, rent in the second term was 550, 3rd term raises by 20 buck plus the deferred amount of 101, new rent is 550 + 20+ 101= 671. now that's 10 years out. Might think of it as a negatively amortized loan, what isn't paid is accrued with interest and added later to pay for the deferral.

If he wants long term adjustments, fine, but you can't suffer from the economy either, so compromise and finance the differences to the payment changes so he isn't hit with short bursts of cash expenses, OTH he gets hit harder for deferring increases. At year 10, he is paying 25% more than his beginning rate.

Seems someone influenced his thinking, he doesn't seem unreasonable or sophisticated and no you aren't being greedy I'd say.

The real issue is the graduation of increases, any lag time in paying is simply an present value determination of amounts he lags behind in paying and it being made up in later years.

Maybe said another way, if you want 700 a month and want to pay 500, loan him the 200, charge him interest on it and set his payments off on paying that into the future, when he then pays the current rent plus he begins paying for the amounts he was loaned.

I don't like hitting a seller up with options in an offer, this or that or that, but in a long term lease with a tenant who is in there, you can give options, pay it this way or pay it this way or that way, each yield about the same thing to you but the differences can be in cash expended, loaded in the front, the back end or annuitized evenly over the term.

Be careful in setting caps and accruals as he can get hit with what I'd say would be significant increases. Accruals are also written as such so it becomes an obligation and you adopt long terms so that he can't bail out.

You can adopt a discounted buy out as well, say after 5 years, could be one year for each 5 year period avoided. Whatever.

Hope that makes sense as described, don't check my math, it's an illustration, LOL. :)