Best Practices to Inspect a Potential Commercial Real Estate Property

Whether you’re leasing or buying commercial real estate space, it’s a costly – and complicated – endeavor. And as with any long-term arrangement, it’s important to do your homework and protect your company’s best interests. That’s why a careful, thorough property inspection is an essential part of the transaction. By ruling out any potential problems and giving your company a better idea of the space’s limitations or requirements for repairs, a property inspection will weed out unsuitable options and help inform your lease negotiation process. 

While you can certainly inspect the property on your own, it’s always helpful to have a professional property inspector to give you an unbiased look at a potential space. Either way, there are plenty of strategies to inform yourself before you make a commitment.

What to Keep in Mind Prior to the Inspection

During the initial walkthrough, take note of the exterior grounds of the property. Parking lot conditions, markings, landscaping, concrete quality, layout, accessibility, lighting, and general condition of the space. While you won’t know the integrity of the foundation or structural elements, look for signs of damage, wear, cracks, etc.

During the walkthrough, have a member of your team accompany you to take notes whether you conduct your own inspection or hire a professional inspector. It helps to have your own information to compare your findings with that of the owner and the inspector to ensure nothing gets overlooked during the negotiation process. 

What to Look for During the Inspection Process

A thorough commercial real estate inspection should check every aspect of the property, including:

  • -Structural elements, from the condition of the roof, flooring, walls, and foundation
  • -Utilities like HVAC, fiber connection, electrical, and plumbing systems
  • -Local and state codes and regulations have strict guidelines, so ensure you’re up to speed on your area’s specific requirements so you can make your own assessment – and ask the right questions
  • -Condition of external and public-facing capacity, like parking, sprinkler -systems, sewage, public access, and garbage removal
  • -Fixtures, paint, ceiling condition, and window integrity
  • -Accessibility features for wheelchair access, common areas, restrooms, lobby condition, emergency exits, and elevators and escalators 

Look for signs of wear and tear in each room and aspect of the space. Signs of water damage, mold, structure problems, building access, aging concrete, and even the condition of utility connections outside and around the building can be major headaches during the length of the lease. 

How to Conduct Your Own Inspection

Much like the previous section, you’ll want to take a careful look at the property during your walkthrough, but if you choose to conduct your own commercial property inspection, there are a few more things you should know.

First, you’ll want access to the property and time to be thorough. It’s unlikely that the property owner will allow you to dig deep without their own representative onsite, but having the opportunity to spend adequate time at the property without the pressures of someone over your shoulder will be invaluable. If you’re seriously considering a property, request an allotted time to walk through and have complete access to the property during the inspection. It’s important to take your time and be uninhibited from sales and marketing speech in order to get a clear, complete picture of the condition of the property. 

Second, taking meticulous notes and photos of anything that’s no up to par. That could mean missing paint, damage to the parking areas, signs of wiring issues or fixture damage, mold beneath sinks or in utility areas, or scuffs on flooring or walls. Not only will these allow you to demonstrate areas for improvement should you take custody of the property, it’ll give you leverage during the lease negotiation process. 

Finally, even if you don’t bring in a professional property inspector, it’s worthwhile to provide your findings (and documentation of damage) to a third party. That could be a trusted consultant, your commercial property broker, or a property attorney. If there’s something that looks off, but it outside your area of expertise (such as analyzing electrical or HVAC systems for integrity and condition), you should bring in an experienced commercial property inspector for a second opinion. 

How to Process Your Inspection Information – and What Comes Next

Once the inspection is complete, you’ll have all the information you need to start the lease negotiation process with the property owner or real estate manager – especially if you’re purchasing a property. By inspecting the details and potential shortcomings of a property, a lower sale price may make up for outdated utility systems and necessary repairs. 

In lease negotiations, your results can be viable leverage to improve your lease terms or convince ownership to make the needed repairs before you put ink on paper. Because issues with a property can negatively impact your finances and operations, it’s important to obtain a clear and comprehensive inspection before negotiations begin. 

No matter the direction you take, a building inspection gives you a clear picture of the quality and condition of the building so you can make a more informed decision about the rental or purchase before committing to a long-term solution. 

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

How to Secure a Commercial Real Estate Loan and Tips to Get Approved Fast

Whether you’re looking to establish your first physical location or expand into a larger or additional space, you’ll likely need financing for a commercial real estate loan. Much like home mortgages or home equity line of credit, a commercial real estate loan can be used to make a purchase outright, fund needed improvements on a space you already own, or invest in specialized equipment to continue to grow your business.  Despite the nature of this loan, meant strictly for businesses, it resembles your typical residential mortgage in structure and terms, but is mostly dependent on a few key factors specific to your business. 

However, securing these types of loans can be difficult – and takes more effort than your typical, modern home loan. 

If you’re seeking a commercial real estate loan, there are several steps you need to take to even apply – let alone inform yourself on the ins and outs of the industry. Here’s what you need to know before getting started:

Explaining Commercial Real Estate Loans

Just as with residential real estate loans, not all commercial loans are created equal – or suit every business. Each loan type carries its own terms, rates, and approved usages. Before taking on a commercial real estate loan, you need to do your homework and find the right loan product for your needs.

Interest-only Loans

Interest-only loans, also known as balloon loans, are designed for businesses expecting a major financial windfall in the future. These types of loans carry a smaller interest rate with the expectation of a large final payment at the conclusion of the arrangement, which is typically between 3-7 years. 

Long-term Fixed-interest Mortgages

Most commercial real estate loans work in much the same way as a home mortgage loan, but with shorter terms. Commercial real estate loans rarely extend to 20 years compared to a home loan’s standard 30 year agreement and tend to sit between 5-10 years in length. There’s also a tougher credit score requirement, requiring business owners to have at least a 700 credit score, a demonstrated minimum of one year of success in business operation, and a 51% occupancy of the property in question. 

Refinance Loans

As with residential mortgages, companies can choose to apply for refinance loans to adjust their interest rates based on market conditions. While there are fees associated with this, companies looking toward the future can save in the long-term and accrue a smaller amount of debt over the lifetime of the loan. 

Hard Money Loans

Most business owners seek financing from traditional banks, but hard money loans come from private investors who may have other requirements and terms than FDIC-insured financial institutions. These loans tend to be based on the value of the commercial property and not by the credit scores or finances of the applicant. Hard money lenders want a quick return on investment, so don’t expect the lengthy repayment terms found at a traditional lender – nor the interest rates and upfront costs. 

Bridge Loans

A softer, more lenient version of a hard money loan that offers lower interest rates (typically between 6-9%), bridge loans provide better terms over a longer period. Approvals don’t take as long and funding comes much faster, but companies and business owners need to demonstrate exceptional credit scores and be able to demonstrate projected business growth as well as a 20% or greater down payment. 

Construction Loans

The upfront costs of land, material, and labor in a new construction are hefty, which is why a construction loan might make sense for companies looking to build and start fresh. These typically last between 18-36 months and end with a long-term mortgage once construction is complete. 

Blanket Loans

Blanket loans are designed for companies with multiple properties or plans to purchase them. These are common among franchises, small chains, and businesses with a viable need for multiple locations. These allow business owners to consolidate financing options for convenience and allow for sales of individual properties without fear of penalty against the loan’s arrangements. 

Applying for Commercial Real Estate Loans

Used primarily to either purchase or renovate a building, commercial real estate loans require that the property is owner-occupied, meaning that you can’t take out a commercial real estate loan if you’re leasing space. Because lenders consider the value of the physical property as collateral against the loan, you’ll need to actually own the building (or intend to purchase it) in order to secure the loan. 

However, there are some particulars and exceptions. If you’re sharing space with another business and own the building, you can take out a commercial real estate loan – but your primary business will need to occupy at least 51% of the space. 

Next, you’ll want to determine the type of commercial real estate loan you’ll need. This depends primarily on the type of business, the property itself, and your current and projected finances. 

What Commercial Real Estate Lenders Look for in Applicants

Before applying for a commercial real estate loan, you should inform yourself and your financial team about the requirements that a potential lender will expect during the application process. Here’s how to prepare:

Business Finances

While a commercial real estate loan may look like a residential mortgage or equity loan, the requirements are much more strict – and undergo more scrutiny. Because small businesses are more volatile and subject to more risk as a result of market conditions, the loan terms, and associated interest rates, may be higher than that of a more established company. 

Lenders will look at a company’s debt service coverage ratio, which analyzes a business’ annual net income versus the total annual debt. A ratio of 1.25 or better is standard. For example, should a company apply for a $1,000,000 commercial real estate loan, they’ll need to demonstrate the ability to generate a net annual income of at least $1,250,000. 

In addition, lenders will check your company’s business credit score to determine your ability to repay your loan and your previous history with debt and credit. Lower scores, as with personal credit scores, will determine the interest rate, payback period, and the required down payment. 

Most lenders require a FICO Small Business Scoring Service (SBSS) score of at least 140 – but there are exceptions for companies with collateral or higher personal credit scores. 

Personal Finances

There are multiple factors for small business owners to consider before applying for a commercial real estate loan, including each partners’ personal credit history and current scores. Businesses should take an honest accounting of stakeholders’ personal credit defaults, any foreclosures, liens, legal actions, and more before applying for a commercial real estate loan. 

Property and Collateral

In most commercial real estate loans, the property itself is treated as collateral. The lender attaches a lien to the property, giving them the ability to seize the building due to lack of payment. As mentioned above, these types of loans generally require the business to occupy at least 51% of the building. If that’s not in your company’s real estate equation, an investment property loan may be a better option.

As with most property-based loans, the terms are primarily based on credit score, net income, and property value. Lenders will allow potential borrowers a maximum value based on the loan-to-value (LTV) ratio and calculate the total loan based on that number. This is usually between 65-75%, which would mean your company must provide the remainder of that percentage as a down payment on the commercial real estate loan. 

How to Qualify for a Commercial Real Estate Loan and What to Expect from the Application Processing 

It’s no surprise that commercial real estate loans require a substantial amount of documentation. If you’re preparing for an application, you’ll need to meet – or exceed – the following threshold:

  • – Credit reports on all major stakeholders and the company itself
  • – Up to five years of tax tenures and financial records
  • – Projected finances throughout the life of the proposed loan
  • – Certification of corporation or LLC
  • – An independent appraisal of the property in question
  • – A complete business plan for the growth of the company, the use of the building and its benefits, and a breakdown of stakeholders’ qualifications and expertise.

Hard money lenders, and traditional lenders considering applicants with tight finances or poorer credit scores, will be more strict with borrowers. If your company has a subpar credit score or can’t secure funding from private or traditional lenders, here are some other options:

  • – Consider an SBA 504 or 7(a) loan, which is guaranteed by the U.S. Small – Business Administration
  • – Look into grants from non-profit organizations, local business development administrations, or SBA-issued grants
  • – Eliminate debt and improve your credit score
  • – Bring on additional investors or partners
  • – Consider personal or business collateral to demonstrate assets
  • – Look at private investment, angel investors, or a peer-to-peer lending group
  • – Offer lenders a larger down payment or higher interest rate

While commercial real estate loans are notoriously difficult to secure, being prepared for the application process at the outset – and bringing in your financial team and a commercial real estate broker – will go a long to demonstrate that your company has done its homework and is prepared to take on the financial burden of a monthly loan payment. 
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Want to learn about your financing options? Check out Lendio. As a trusted partner of OfficeSpace.com, Lendio matches you to the best options and help you choose the small business loan that’s right for you. It’s that simple. No jargon or complicated processes. Get started now.

 

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

A Guide to Commercial Real Estate Insurance for Your Business

In most major markets, commercial real estate leases in heavily-trafficked neighborhoods can explode a company’s monthly overhead. Besides the cost of the space itself, you may be on the hook for utilities, shared common area costs, security, supplies, and staff. But one cost that’s easily overlooked may be the most important: commercial property insurance.

For those in manufacturing, retail, and non-profits, this is a critical aspect in protecting your business from unforeseen accidents and incidents. While each industry (and the accompanying assets associated with each business) demand different costs for commercial property insurance, it’s important not to overlook this facet of commercial real estate leases. And as with auto or home insurance, it doesn’t hurt to shop around before securing a policy. 

Before you start your search for a suitable commercial property insurance policy, you should inform yourself with the ins and outs to ensure you know what to expect from your specific business requirements and to protect your company from undue burden.

Explaining the Basics of Commercial Property Insurance 

As with residential insurance, commercial property insurance covers a wide variety of danger and accidents, but it’s not a blanket protection. Most commercial property insurance policies cover common accidents, like theft, water damage, natural disasters, vandalism, and fires, but most importantly, these policies insure your property and resources within the building itself. In addition, they protect property your customers and employees bring into the store, signage, and branding items located within. However, it doesn’t protect you against lawsuits, so business owners should invest in general liability insurance to protect yourself against expensive legal fees related to your business. 

Who Should Secure Commercial Property Insurance?

Any business with a physical location should invest in commercial property insurance to protect the building itself, but even those who own their business and work from a home office should purchase commercial property insurance as well. 

Whether you have a commercial real estate lease or own the building outright (or are paying a mortgage), you’ll need commercial property insurance to cover the building. If you’re renting the property, the owner will transfer liability to you based on the square footage included in the lease. Before you can even sign a commercial real estate lease, you need to provide proof of commercial property insurance showing coverage amounts and the scope of the policy. 

Breaking Down Costs and Benefits

Depending on the value of your assets, including specialized equipment, computer systems, furniture, etc., your annual rate for commercial property insurance will differ. However, small businesses, such as coffee shops, boutique clothing stores, and bookstores, can expect to pay between $500-1000 per year. These rates are based on the construction materials of the building, distance to a local fire department station, and the nature of the business. Also, like residential property insurance, the rates will differ based on the value of the property and its contents- the larger your business, square footage, and the more valuable your assets, the higher your deductible will be.

To protect against accidental fires, water damage, flooding, and other natural disasters as well as man-made damages like vandalism and theft, commercial property insurance is an essential – and sometimes mandatory, as stated above – aspect of owning and operating a business of any size or scope. 

What’s Lessors Risk Insurance – and Why Does it Matter?

Lessors risk insurance is only applicable for building owners who maintain a minority of the property’s square footage and sublease the remaining area to other occupants. While building owners require commercial property insurance from tenants, lessors risk policies are an essential component of owning and operating a commercial building. These policies are less expensive than commercial property insurance, but still insure the property and its assets. 

What to Keep in Mind When Shopping for Commercial Property Insurance

As previously mentioned, commercial property insurance only covers certain aspects in the insurance world and shouldn’t be used as a blanket protection. If you’re about to start a business or open your first physical location, keep the following additional policies in mind to maximize your protection going forward:

Property Insurance

Whether you own the building you occupy or are leasing a space, you likely own several thousand dollars worth of business property, including computer systems, tools, equipment, and inventory to ensure continuity of business. Property insurance protects these assets against fires, theft, and other forms of damage. Optional features of these types of policies may also cover the loss of earnings as a result of incidents – which should be strongly considered by those seeking commercial property insurance policies. 

General Liability Insurance

This is the most basic and essential insurance policy in the commercial world, offering protections against damages and legal fees related to bodily harm or property damage to a third party on or off your company’s physical territory. General liability insurance is a crucial addition to commercial property insurance and should not be overlooked when considering a new facility for your company. 

Commercial Auto Insurance

For any company with vehicles under its name for employee use, commercial auto insurance is essential. Any vehicle that transports employees, assets, or proprietary information should be insured under these policies to protect against theft, accidents, and acts of God. Even if your company compensates employees for mileage and gasoline for their personal vehicles during business hours, you should invest in non-owned auto liability insurance in the event that an employee doesn’t have adequate insurance in the event of an incident. 

Business Owner’s Policies

These policies, otherwise known as BOPs, offer a bundle of business-related insurance policies, including business interruption, commercial auto, liability, crime/theft, and property insurance. Your rate will depend on your needs, but these are packaged to ensure business owners receive the best rate without having to invest in multiple policies from different providers. 

Professional Liability Insurance 

A professional liability insurance policy protects the company against any failure to render professional services – and isn’t included in a general liability insurance policy. Lawyers, accountants, consultants, and any other professional services provider should invest in this type of policy in addition to commercial property insurance. 

Data and Computer Systems Insurance

When a company collects privileged data, it has a legal responsibility to protect it. Should a data breach occur, this type of insurance would protect the company against damages and legal costs associated with any data loss, breach, or accidental disclosure of such information. 

Directors and Officers Insurance

This policy type protects employees at the highest levels of the company – C-level employees – against actions that could affect the profits of the company itself. Should their performance or actions while employed by the company demonstrate a legal risk or expose the company to a lawsuit, this policy would protect the company against damages and cover legal costs. 

No matter where you decide to set up shop, it’s important to factor in the costs of insuring your commercial real estate lease and property in order to protect your company from accidents, theft, and lawsuits – no matter your industry or area of focus.

Explaining LEED-Certified Buildings – and Why You Should Consider Leasing Space in One

There are an infinite number of factors to consider when looking for office space. First and foremost, you’ll want a space that properly serves your employees and clients or customers now and into the future, but the secondary factors (parking, access, available utilities, etc.) can be incredibly important. But what most business owners don’t always place at the top of their “must-have” list is environmental factors – namely, LEED certification. 

LEED-certified buildings provide numerous benefits to building owners, tenants, and the communities they occupy. Here’s why you should consider seeking out a LEED-certified building for your next office space.

What LEED Certification Means – and Why It Matters

LEED, or Leadership in Energy and Environmental Design, is one of the most prominent green building rating systems in the world. Established in 1994 under the U.S. Green Building Council (USGBC), LEED is the industry standard for sustainability in materials, design, and construction, helping engineers, architects, landscapers, construction managers, and building owners establish a baseline for eco-friendly buildings and demonstrate progressive improvements beyond the bare minimum.

According to the USGBC, LEED-certified commercial buildings have returned over 80 million tons of waste from landfills across nearly 80,000 LEED-certified constructions around the world. 

Explaining the Differences Between LEED Certifications and Accreditations

There are four designations for LEED certification: Certified, Silver, Gold, and Platinum. These certification levels differ depending on a scoring metric that rates construction materials, design, utility capabilities, and renewable/reusable energy. Without getting too deep into the details, LEED buildings should be healthy for occupants and the environment in which they occupy. 

As for accreditation, LEED offers two different tiers for individuals seeking to build or design LEED-certified buildings: LEED Green Associates and LEED AP Credentials. LEED Green Associates hold professional expertise in environmentally-sound building practices, whereas LEED AP Credential holders have specialized knowledge of LEED principles across residential, commercial healthcare, education, interior design, and community planning. 

What Types of Buildings Can be LEED-Certified?

Any building owner can apply for LEED certification across five different categories: Building Design and Construction (BD+C), Interior Design and Construction (ID+C), Building Operations and Maintenance (O+M), Neighborhood Development (ND), and Homes (H). 

Building Design and Construction (BD+C)

Within BD+C, certified building designations contain an additional 10 LEED rating systems, which serve as guidelines for both new constructions and major remodels and renovations. Any type of building can apply for this designation, but due to the large scale of requirements across a broad spectrum of criteria, these certifications are among the most difficult to attain. 

Interior Design and Construction (ID+C)

Designed for tenants who occupy a certain portion of a commercial building, this certification is meant to encourage tenants to consider sustainable, non-infrastructure features during the buildout phase. These can include insulation, energy-efficient windows and doors, low-flow sinks and toilets, energy-friendly appliances, and reused or reclaimed building materials.

Building Operations and Maintenance (O+M)

Used by building owners and landlords to monitor and analyze maintenance, utility, and operations costs compared to LEED standards for environmental performance. Large-scale buildings and properties with multiple buildings on a campus (such as hospitals, schools, retail malls, and warehouses) fall into this category. 

Neighborhood Development (ND)

LEED-certified neighborhoods combine smart and sustainable growth, eco-friendly urban design, and green building principles for entire communities with a focus on the future. 

Homes (H)

Designed with single and multi-family homes in mind, but are limited to structures with three stories or fewer, LEED for Homes is based on the Environmental Protection Agency’s (EPA) Energy Star for Homes initiative. LEED-certified homes have energy-efficient heating and cooling systems, modern insulation and building materials, and incorporate energy-saving techniques like recycled rainwater, solar energy systems, and energy-saving solutions like smart lighting and thermostats. 

The Benefits of Leasing LEED Certified Buildings

There are clear benefits for building owners to build or renovate their properties to LEED certifications. From long-term savings in building materials, potential for tax rebates, lower utility costs, and less frequent maintenance requirements, there’s a lot to like in a LEED certified space. But what about the benefits for tenants? Why should a business seek space in a LEED building over the alternative?

1. Healthier, Cleaner, and More Productive

LEED buildings are designed to allow outdoor air into the building, improving indoor air quality and lowering dangerous Volatile Organic Compounds (VOCs) in office spaces. This limits allergens, dust, and pollutants from entering your workspace – which means healthier, happier employees. 

An EPA study has shown that Americans tend to spend about 90% of their time indoors, which has shown to make a significant impact on the health, productivity, and performance of an individual. Certain features in LEED-certified buildings can boost employee productivity, such as mindful lighting designs, fitness centers, relaxation and meditation rooms, natural lighting and features, and improved access to outdoor spaces and views. In fact, a recent study by the USGBC shows that 85% of employees say that access to sunlight and outdoor spaces boosts their workplace happiness

2. Reduced Utility Costs

LEED buildings are much more energy efficient than buildings without these standards. Designed to utilize less electricity and water, LEED buildings offer tenants significant savings in operational and utility costs over the lifespan of your commercial real estate lease, but some can even provide immediate savings on utility costs thanks to renewable and smart utility systems. 

3. Potential for Tax Benefits

Depending on your location, LEED-certified buildings can provide occupants tax rebates in addition to zoning allowances. Meant to promote green activities, governments on the local, state, and federal level sometimes offer tax incentives for those companies who choose a LEED building over a non-certified property. 

4. Eco-Friendly Brand Recognition

There’s a definite bragging right to occupying, building, or owning a LEED-certified building. From the government to investors, customers to clients, and media to passersby, showing the world that your company is mindful of its environmental footprint is an easy PR win that will save you money. 

Not only are LEED-certified buildings environmentally-friendly and offer companies cost-saving opportunities, but they’re becoming more and more sought after in commercial real estate. For property owners, the process to become certified is costly and time-consuming, but offer significant upside after the initial investment. For tenants, it’s a sign to the world that your company has taken steps to minimize its environmental footprint. Over the life of the building or the commercial lease agreement, it’s good for everyone’s pocketbooks, too.

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

How to Gain More Flexibility in Long-Term Commercial Real Estate Leases

For most businesses, agreeing to a long-term financial commitment is only positive if it means additional and sustained income. But a commercial real estate agreement is the opposite – a monthly expense that needs to be paid in order to keep the lights on. 

Spanning anywhere between 3-20 years, a commercial real estate lease agreement is a significant investment. While most leases include clauses for early termination (for a fee), it’s important that companies pursue the greatest amount of flexibility in a long-term real estate commitment to protect themselves from changing market and economic factors. 

Why Landlords Refuse Short-Term Lease Agreements

Despite the fact that most companies can’t accurately predict business cycles further than 2-5 years, property owners always seek a longer lease term in order to maximize the value of their real estate asset and secure a predictable cash flow. 

There’s also the financial burden of taking on a new tenant. Taking into account cleanup costs, architectural fees for new buildouts, and landlord improvements to make the space suitable for a new tenant, it doesn’t make financial sense to commit an upfront investment for a short-term tenant. 

Exploring the Different Options in the Lease Negotiation Phase

Established businesses with long-term projected growth and prosperity can benefit from longer lease terms, which tend to offer more agreeable monthly terms, additional perks, and more generous tenant improvement allowances. But there’s always a chance that things will change, which is why you’ll want to protect your company’s interests with the following conditions during the lease negotiation phase:

Right to Assignment and Sublets

In the event of a rapid expansion, merger, acquisition, or if the absolute perfect property comes onto the market midway through your lease agreement, having a right to assignment (in which the original tenant would assume responsibility for a sub tenant) or sublet (where the landlord assumes responsibility for a sub tenant) clause in your contract will allow you to sublet the property to another company without breaking the terms of your lease agreement. 

Renewals and Extensions

Renewals and rights to extensions built into your lease agreement allow you flexibility in retaining a space after the term of your lease expires. Due to the hefty costs of relocating, not to mention the logistical nightmares of moving offices and maintaining continuity of business, it makes more sense to provide yourself the ability to keep the same space. Even if the market demonstrates more favorable properties, your landlord is always seeking more attractive tenants with deeper pocketbooks. After all, if it isn’t broken, don’t fix it. 

Early Terminations and Contractions

Early termination options give tenants the ability to end their lease agreement after a certain point, but requires them to give the landlord written notice in advance of the termination date – usually between 6-12 months. But these termination clauses won’t come without a cost. Landlords will demand, at a minimum, a certain percentage of the remainder of the lease and for leasing commissions and tenant improvement allowances. 

Contraction clauses allow companies to downsize their square footage in advance of the conclusion of their lease agreement. This allows companies to pare down their occupancy in the event of layoffs, changing market conditions, or in preparation of moving a company to another more suitable location. 

Flexibility in Expansions

Every business hopes to grow and expand their operations. In the hopes that it happens, it’s important to anticipate a growing staff over the course of a long-term commercial lease agreement and avoid stacking desks atop one another. Building owners usually grant a certain version of an expansion option to tenants, which are commonly chosen from the following:

Right of First Offer

Including a “right of first offer” clause in your commercial lease agreement mandates that the landlord must present a newly available space or expansion to the tenant before putting it on the market to third-parties, allowing tenants the ability to expand their square footage under the same roof. 

First Right of Refusal

This clause requires landlords and building owners to provide the same deal made with a potential third-party tenant to the current tenant for equal space. Triggering this clause would preempt any third-party deal and allow the current tenant to expand into the space advertised for the same terms agreed upon by the landlord and the third-party. 

Fixed Expansion Options

Also known as hold options, these stipulate that a tenant has a predefined amount of time to exercise an option on an adjacent or neighboring space once it becomes available before the landlord places it on the market for third-party availability. 

Other Alternatives to Space-Related Issues

Thanks to the democratization of the workplace and the reach of connected business communication systems, companies have begun holding off on an expansion of office space in return for flexible working conditions, shifting employees to remote or work-from-home situations to avoid overcrowding and in order to save money on expansions. 

Temporary or shared office solutions have also been a major advantage for companies with space shortages. Monthly plans through shared office providers give companies the ability to remain in contact with their employees, give them adequate desk space, and even schedule meetings in these shared conference rooms. For companies with space requirements or looking ahead to a major expansion, these short-term alternatives can prove invaluable to businesses on the move. 

Negotiating for more flexibility in your lease agreement can be a major hurdle in the process, but protecting your company’s interests in the long-term makes the effort well worthwhile. When you sit down with the landlord’s representatives, try and incorporate some of the above options in order to limit your risks and protect your company against uncertain market conditions and unforeseeable economic circumstances. 

 

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

The Final Steps of the Lease Process: What to Expect After Submitting Your LOI

No matter your industry or area of business, you know one thing by now: a deal isn’t done until the ink is dry. If you’re working toward a new office space, the complexity involved in exploring, touring, negotiating, and finally getting to the point of making a decision is unmatched. Whether you’re relocating, expanding, renewing an existing lease, or making a major redesign of your current home, your broker has taken every step toward offering the best terms on your behalf based on market conditions and your company’s leverage against a landlord. Now’s the time to complete the deal and get things finalized. 

For most commercial real estate transactions, you’ll want to work through a commercial real estate broker to help facilitate the search and negotiation process before presenting a letter of intent (LOI) to the landlord, which should be the final step before signing a contract on a new space. But there’s much to know about the murky middle ground between an LOI and putting pen to paper. 

Next Steps: Finalizing the Leasing Process

There are several steps you’ll need to perform before signing any legally-binding documentation related to leasing a commercial real estate space. Here’s where to start:

Preparing Your Lease Documentation

You’ll want to ensure your financials, business plan, and leasing documentation is secure and finalized before submitting a letter of intent and moving forward with the leasing process. There are multiple factors included in this, not limited to:

Letter of Intent

While it’s not a legally binding agreement, signing a letter of intent shows both parties that you’re tentatively agreed upon specific lease terms and ready to move forward in the leasing process. 

Lease Documentation 

Having a legal professional experienced in the commercial real estate world is a critical aspect of any lease agreement negotiation. Before signing anything that could be seen as legally binding, you’ll want your own legal counsel to review and negotiate any potential pitfalls on your behalf. Even when terms, clauses, or amendments are proposed on either side, you’ll want counsel to review the entire document for changes before making a decision. 

As a tenant, your counsel’s responsibility will be focused around mitigating risk. Whether it’s during the negotiation phase, throughout the length of the lease agreement, or upon exiting or amending an existing agreement, you’ll want to bring in legal help to ensure your interests are accounted for. Adding to clauses, amending, deleting or removing, or renegotiating existing clauses are standard for the lease negotiation process, as are negotiating toward step-down clauses.

Step-down clauses can be a common ground between difficult or restrictive clauses on the part of the tenant and protecting the landlord’s interests. For instance, some lease agreements, especially if the tenant is a small business with an unproven track record over a long period of time, require personal liability guarantees, but this requirement is commonly negotiated down to a certain maximum dollar amount during a set period of time. 

Design/Buildout Specifications

  • Development, Approval, and Request for Proposal (RFP)

Before moving forward on any changes to the property, you’ll want to source a talented and capable project manager and designer. Once the design plans are underway, you’ll want to inform this team on the goals and desired outcomes of your project. 

Outside of any structural changes you’ll be needing, you should document and assess furniture, finishings, and minor touches to present the final costs to the landlord and city authorities and obtain permits necessary to complete the construction itself. 

Finally, you’ll want to start the bidding process to secure contractors. The more detailed you are in the scope, goals, materials needed, and finishes you can provide, the more accurate your potential contractors will be in their bidding process and therefore help you avoid headaches down the road. 

  • Bid Review and Analysis

Once you’ve submitted documentation to contractors, permitting authorities, and the landlord, you’ll want to organize a bid review team in order to analyze and weigh each bid before making a final decision. Before this process begins, however, it’s helpful to agree on an internal criteria for bids to streamline the decision-making process. Everything from timeline to budget should be on the table, but the finer details regarding subcontractors, liability insurance, and permitting need to be included in the conversation. 

  • Contract Administration and Tenant Improvement

Now comes the time to approve and finalize all contractors, subcontractors, suppliers, and bids. You’ll want to keep a close eye on their progress to avoid unforeseen overruns and delays, so building in a regularly scheduled meeting with all stakeholders is a good idea to ensure things run smoothly. 

Lastly, holding tenant improvement quality/cost control audits throughout the build out process will help your team ensure your goals are met within budget and in a timely manner. 

  • Project Completion and Tenant Occupation

The final stage of the process involves overseeing final details, navigating bureaucracies, managing close-out inspections, and signing off on the new construction. You’ll want to secure a Code of Compliance certificate, run a cost reporting analysis for the project, and audit the total budget of the project compared to the bid. A contractor’s defect liability will only last so long, so checking to ensure the project has reached its completion with all of your goals achieved, it’s time to do a final inspection and ensure the work is completed. 

With legally-binding agreements as complex as a commercial real estate lease agreement, it’s common to experience residual issues relating to the deal long after the paperwork is signed. That’s why it’s  important to keep your team on-task and focused on achieving your common goal – and keeping your tenant broker and legal team abreast of any developments before, during, and after the ink is dry. 

 

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

Office Building Classes and What You Need to Know

Anyone who’s had a few different homes throughout their life knows there’s a difference between a college dorm and a 5 bedroom estate in the suburbs. The same is true for office spaces. But when searching for new office space, your time and attention is limited, making it important to know more than pictures can show.

Of course, anyone knows a luxury or high-end building when they see it, but real estate professionals take a different standard when rating their top prospects, which come in four different office building classifications: Class A+, Class A, Class B, and Class C.

While it’s easy to distinguish between the quality of these properties based on the traditional grading system, it’s important to remember that determining these distinctions is more of an art than an exact science.

What are the Different Office Building Classes and How are They Determined?

As we mentioned above, there are four classes of rating systems for commercial real estate listings. Before we dive into the differences between the different classifications, let’s take a minute to discuss the factors involved in establishing them:

How are Building Classes Determined?

There are multiple factors that help real estate professionals determine the class of an office building they need to categorize before the listing can go forward. But it’s also important to remember that there are no industry guidelines for building classification. In fact, BOMA (Building Owners and Managers Association) generally resists the publication of building classifications for specific properties, though most real estate professionals base their judgement on current market availability and comparisons to similarly sized properties above all else.

Other characteristics include, but are not limited to:

Building construction material quality and age
Finishing materials and design
Maintenance and upkeep
Capacity of essential services for current and future growth (HVAC, electrical, Internet, maintenance, upkeep, elevator, lobby, power backup, parking, and common area spaces)
Access to major freeways or public transportation
Security
Ceiling height
Location
Construction and common area improvements (either current or ongoing)
Amenities and secondary features (cafes, day care, cafeterias, dry cleaning, copy and mail services, fitness centers, etc.)

Explaining the Differences Between the Classifications

The four rating classifications for office buildings help potential tenants, landlords, investors, and real estate brokers easily compare buildings within a certain market, but they don’t provide a global rating for comparative building spaces. For example, there’s a considerable difference between a Class A building in Boise, Idaho and Manhattan. That’s why it’s important to remember that these properties are rated relative to comparable markets rather than a larger scale, where they may not hold relevance.

Class A+

As you might imagine, Class A+ buildings are the cream of the crop in the commercial real estate market. They offer the finest available materials, best building standards, greatest array of facilities and amenities, easily accessible transportation, prime locations, and stunning views. These properties are typically few and far between, expensive, and highly sought after within their specific markets.

Also referred to as “trophy buildings,” these properties are unique in their technology, design, or sheer prestige. Sears Tower in Chicago, the Empire State Building in New York, or One World Trade Center in Lower Manhattan are examples of Class A+ buildings in the United States.

Class A+ tenants can expect a greater allocation for onsite parking for both clients and employees, on-site cafes, restaurants, banking services, mail facilities, gyms, spas, communal areas, daycares, and more.

Class A

Class A buildings are known for their proximity to central business districts in their markets, often competing for high-level tenants with global name recognition. They tend to have high occupancy rates, few tenants with greater space or floor needs, and top-notch amenities few businesses can afford.

Restaurants, cafes, fitness centers, spas, atriums, day cares, and even retail shopping within the lobby floor are common in Class A buildings. But with no expenses spared, there’s a good chance a Class A building will also be adorned with tasteful decor, modern interior design aesthetics, and high ceilings with employee-friendly overhead lighting. For most markets, these properties are the best of the best and they deserve the higher costs associated with occupying (and enjoying) them.

Class B

Class B buildings tend to be within 10-20 years behind the most current developments in a specific marketplace, perhaps offering similar amenities, but suffer by comparison. Their maintenance, HVAC, and electrical capabilities may not be up to par in terms of current standards, as would the fiber optic and communications infrastructure, but still offer a valuable, competitive office space for most high-to-mid level clientele.

These facilities are routinely updated, improved, and remodeled to tenant expectations, making them an excellent value for potential tenants looking to impress their employees and clients without taking on a Class A-level commercial lease agreement.

Class B buildings are often located off Main Street, offer fewer security and parking opportunities, and require more routine construction and maintenance than a Class A building, but are functional, attractive, and capable of housing modern businesses of any stripe.

Class C

While there are no “Class D” or “Class F” buildings in commercial real estate, Class C tends to scrape each of the latter categories into one. Class C buildings are older (at least 20 years old) and are well-worn.

Multiple tenants over multiple decades have occupied each space, leaving the wear and tear that comes with generations of business taking its toll. They also lack modern expectations of lobby attendants, security, and concierge services, making them less attractive than modern constructions that have these amenities as standard items.

Any building lacking elevator services, lobby personnel, on-site parking, or HVAC will generally earn a Class C rating sight unseen. But for small businesses that rely on low overhead and competitive lease terms, Class C spaces can provide a great jumping off point for those just getting started.

What Potential Tenants Should Expect When Considering Different Office Space Classes

Competing for high class commercial real estate is important for companies seeking popularity on the street level, high visibility in major cities, and those servicing boutique clientele, but there’s an important aspect to keep in mind: these classifications are subjective and don’t always reflect the quality of service a company provides.

When searching for a potential new commercial real estate space, it’s important to consider your specific needs above all else. Classifications are secondary; the property’s capabilities in servicing your company’s specific needs should be considered above all else. While companies in legal, investment, or luxury industries should seek out higher class real estate to attract higher paying clients, most should focus on their overhead, a property’s amenities, and servicing both employees and clients to the best of its ability.

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

Understanding the Differences between Usable, Rentable, and Common Area Square Footage

Commercial real estate listings are, if anything, designed to be flashy and attractive. That means professional photography, easy-to-read bullet points, and – most prominently – total square footage. But landlords use a formula to calculate a tenant’s total rental rate that combines the listed square footage with how much space they’ll use in common and shared areas throughout the building – and that can be confusing for tenants looking to save as much as possible on their commercial real estate leases.

Before you commit to a lease agreement, you’ll want to understand the following terms: usable square footage, rentable square footage, and Common Area Factors. Knowing which is included in your lease can save you a considerable amount of money during the lifespan of your agreement and help you avoid paying for square footage you may actually never see – let alone utilize.

Usable vs. Rentable Square Footage

Usable square footage (USF) is defined as the total square footage a tenant occupies. Depending on the size of the tenant’s lease (square footage and number of floors occupied), the usable square footage may include restrooms, maintenance areas, and elevators across several floors. More commonly, any recessed sections or support columns are considered non-existent when landlords calculate usable square footage.

Rentable square footage (RSF) encompasses the usable square footage, plus a portion of the building’s common area. RSF is calculated by multiplying the lease rate per square foot by the listed square footage plus a percentage of all the shared or common areas in the building. While this includes areas your company will have access to like restrooms, cafeterias, elevators, stairwells, and lobbies, you’ll also be contributing to maintenance, building storage, and janitorial closets.

Common Area Factor

Common Area Factors, or add-on or load factors, are an increase in rentable square footage above usable square footage. Tenants share a percentage of the costs of shared areas throughout the building. These can include fitness areas, parking garages, utility rooms, cafeterias, restrooms, elevators, stairwells, storage and maintenance areas, lobby space, and communal areas like break rooms and even rooftop terraces or balconies.

Measuring Square Footage and Calculating the Differences

Usable Square Footage

This is the easiest to decipher, but more rare than the other types. It includes the actual square footage that your business occupies.

Measuring usable square footage is fairly straightforward. For a rectangular space, simply multiply the length of the room by the width. This can easily be done with a tape measure.

For more irregularly-shaped spaces (such as an L-shaped or divided space), dividing rooms by rectangular or triangular shapes and adding the multiple sums together will provide a more detailed account of total usable square footage in a commercial office space.

Rentable Square Footage

Standard tenants that don’t occupy multiple floors or an entire floor can calculate rentable square footage by adding the shared floor and building common factor to the rentable square footage, like this:

Usable Square Footage x (1 + add on expense percentages) = Rentable Square Footage

For example, if you’re trying to determine how much you’ll pay each month for a 4,000 square foot property at a market value of $1.75 per square foot, you’ll want to use the following formula:

Market Price per sq. ft. x RSF = Total Monthly Rent

In this example, you’d be paying $1.75 for each of the 4,000 square feet:

$1.75 x 4,000 = $7,000 per month

Common Area Factor (or Load Factor)

Common Area Factor, load factor, add-on factor, or core factors are examples of the common area space you’ll pay for while you occupy space in a commercial building. Landlords add all of the rentable space throughout the building (even elevator shafts, stairways, maintenance areas, and utility rooms), then subtract the total space contained within tenant leases to arrive at a shared common area between all tenants.

Calculating the load factor is relatively simple. Start by finding all the usable (USF) and rentable square footage (RSF) throughout the building, then divide RSF by USF to determine the load factor.

What’s a Loss Factor?

Loss factor in commercial real estate is the percentage difference between rentable areas within a building that tenants pay for and the usable area throughout the building.

When landlords advertise available real estate listings, they’ll often factor in the common area factor in their square footage disclaimer. For example, if your desired space is listed at 2,500 square feet with a 13% load/loss factor, your actual usable space will be 2,212 square feet.

How Do You Pay for Common Areas?

Your office space is more than the square footage you occupy. After all, having a lobby, elevators, cafeteria, stairwells, and restrooms do cost money.

Most commercial real estate lease agreements have some sort of common area factor built into the legalese, but some landlords institute a common area expense stipend on top of monthly rent and utilities.

What are BOMA Standards?

The Building Owners and Managers Association (BOMA) provides the real estate industry an easily understood floor measurement standard for office buildings. Updated in 2017, the BOMA 2017 for Office Buildings: Standard Methods of Measurement offers landlords and brokers a mutual understanding on how – and why – certain shared or common areas are calculated into load factors.

Changes from the previous guide include calculations for:

  • Outdoor/patio/rooftop spaces
  • Fitness centers
  • Conference centers
  • Updated allocations for amenity and service areas based on tenant usage
  • Capped load factors may be applied on a tenant-by-tenant basis

When searching for new office space and comparing potential properties, considering the differences in USF, RSF, and common area factors in each lease can make a major impact on your bottom line. Depending on the number of amenities and your needed uses in a potential property, breaking down the different types of Common Area Factors between commercial real estate opportunities and how they add or detract from the value of the space itself. That’s why it’s so important to work with your tenant representation broker to ensure your team gets a detailed breakdown of each property’s cost/risk analysis.

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

How to Determine How Much Office Space You Really Need

Small business owners face the same challenges no matter the industry. Razor-thin margins, acquiring innovative talent, and competition around staffing and space restrictions. And while solving your square footage issues may seem daunting, it’s easier to calculate just how much additional space you may need.

Whether you’re expanding into a neighboring office space or moving your whole operation to a new facility, this guide should help you finally determine just how much office space you’ll need to expand, grow, and keep your budget in line with expectations.

Identify Your Needs

There’s no exact formula used to calculate just how much space a company needs. While the general rule of thumb is 100 square feet per employee and 175-200 square feet for executives and leadership, you have to take into account your workplace culture and the industry you’re in. For example, if you’re operating in biotech, medical, or any other industry that requires large equipment, you’ll need considerably more space per employee than a software startup.

Most modern companies opt for an open-style office layout, which has its pros and cons. On one hand, having everyone within easy access is crucial to team cohesion, but employees who require focused, intensive work environments may need more private areas in which to buckle down and achieve their goals – which is where a space with more private offices (or the ability to convert them into focus/quiet rooms) could be beneficial.

And if your company routinely accepts packages, vendors, partners, clients, and customers, you’ll want an adequate reception area to greet them while separating your workforce from outside distractions. Most open-office spaces don’t have dedicated reception areas, so you’ll want to factor in the cost of a build-out compared to other spaces you have in mind.

Find Available Space

Now that you’ve identified your primary needs in a new office space, the search can begin. But you’re busy with running the day-to-day of your company, so enlisting a go-to within your company to liaison with your real estate broker is not only a great way to delegate this task, but to involve your workforce more intimately with the search process.

Ask your team to gather a current list of cubicles, desks, shared spaces, equipment, and decor based on your current square footage. Then, based on your projected hiring goals, multiply those to more accurately estimate how much space your company will require over the terms of a commercial real estate lease. Not only will this help you determine what type of office space you’ll need, it’ll help you in the lease negotiation phase if you’re not willing to sign a long-term commitment.

Remember: private bathrooms, kitchens, and reception areas can contribute to as much as 30% of your leased space, so if you’re seeking a great space on a budget, opting for shared or common facilities will save you a considerable amount of money over the terms of your lease agreement.

Think Beyond the Headcount

While every business owner looks at the bottom line when making an investment, the non-tangibles can have a strong impact on future successes. Happy employees – especially in the startup phase – can have a significant impact on productivity and output, so considering individual offices, additional parking spaces, kitchen space, or impressive views can cost you more, but provide extra benefits beyond the number on the monthly rent check.

Tips for Finding the Perfect Amount of Space for Your Business

You Don’t Actually Need as Much Space as You Might Think

Depending on what level of employees you plan to hire, you may not need quite as much space as you’d think. If you’re planning to add several executive or senior-level employees, larger, more private spaces that accommodate meetings may be required. But if you’re adding headcount in the open office space (or “bullpen”), you may only need 100-150 square feet per additional employee.

Don’t Forget Remote Workers

Depending on the culture of your company, you may not need to expand as dramatically as you’d imagined. Should things get crowded (as they likely are in your current space), giving workers the option to work from home on regularly scheduled days can have a huge impact on morale and productivity, freeing up desk space and avoiding overcrowding. Just because your next space will be larger doesn’t mean the square footage needs to accurately adhere to your headcount.

There are Plenty of Ways to Save Space

Lunch and break areas, parking spaces, kitchens, and meeting rooms don’t necessarily have to factor into the equation – as long as you have a thoughtful alternative. If you’re operating in a high-density area, there shouldn’t be a reason why employees can’t utilize shared spaces throughout the building, take small team meetings off-site to a coffee shop, commute using public transit, and use shared kitchens. Take that into account when considering multiple options for office space.

How to Determine Your Needs for Common/Shared Spaces

While every office layout is different, the basic needs (as far as square footage is concerned) are generally the same. As follows, these are some basic guidelines when calculating your needs for common or shared spaces within your new office:

  • -Conference/meeting rooms: 15-30 square feet per person
  • -Quiet/phone call rooms: 25 square feet per person
  • -Open space/quads/work group areas: 100-150 square feet per person
  • -Lunch/break areas: 15 square feet per person
  • -Restrooms: 30-55 square feet per person
  • -Reception: 75 square feet per person

Now that you’re equipped with a good idea of how much square footage you may need in a future office space, it’s time to dig deep and do your homework to determine the pain points in your current office space and consulting with your team to identify “must-haves” and “like-to-haves” before beginning your real estate search. While no two spaces are exactly alike, keeping an open, but realistic mind during the process will significantly improve your chances of finding the perfect office space for your company’s current – and future – needs.

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.

A Complete Guide to Subletting Your Office Space

When a company enters into a long-term lease agreement, there’s a certain amount of risk involved. What if your company outgrows the space you’ve leased? What if business interests shift and your company needs to relocate to a more market-friendly area? Or, worse yet, what if the company folds entirely?

Rather than paying a termination fee, which can sometimes involve a significant portion of the remaining rent obligation plus forfeiture of the security deposit, some lease agreements allow for subleasing of a commercial real estate space to offset costs and avoid penalty charges.

If your situation involves any of the above criteria, it might be time to strongly consider subleasing your office space to another company. Here’s how – and why – you should sublease your office space.

Why You Should Sublease Your Office Space

There are several reasons for businesses to sublease an office space, but most have to do with financial implications. Breaking an existing lease is a costly endeavor and can lead to legal troubles most companies would seek to avoid, so subleasing a space to a responsible suitor is often the best option. That way, a business can avoid paying termination penalties and sacrificing the costs of a security deposit, passing along these costs to a third-party. However, subleasing means taking responsibility for a subtenant and doesn’t preclude your company from being ultimately responsible for the full monthly amount due to the landlord.

Here are some common reasons companies choose to sublease:

More Space Than You Can Afford (or Use)

While it’s important to consider potential growth when entering into a commercial real estate lease, it’s also possible that your company could wind up paying for space that it doesn’t ultimately need at the time. Until that period of growth comes, it’s beneficial to consider subleasing parts of your office space in order to pay for lost overhead. Even on paper, it makes more sense to recoup your investment on unused office space rather than letting it sit empty..

The Need for Larger (or More Suitable) Space

This is the most ideal situation in which to sublet office space. If your company grows beyond its bounds and things are starting to feel cramped, it’s time to expand and move into a larger property. But breaking lease agreements can be expensive and complicated, making it more attractive for tenants to seek a subtenant to offset termination costs and provide financial flexibility when seeking a larger space.

Your Company Downsizes or Folds

Unfortunately, business realities can take hold, forcing your hand in order to offset costs when a company goes under. But if you have a provision in your lease agreement that allows subletting, you can help pay creditors with the monthly rent payments provided by a subtenant should your business fail.

Pros and Cons of Subletting an Office Space

Pros:

  • You’ll Offset Costs of Unused Office Space

The most common reason why companies sublet office space is to make the best financial sense of unused or otherwise unneeded space. After all, it’s a net loss to pay for square footage that your company simply isn’t using.

  • Flexibility in Finding Larger or More Suitable Space

If you decide your existing space isn’t suitable for the need or size of your business, subletting your old space in exchange for a larger and more efficient property allows you the flexibility in financing an expansion without breaking the terms of your existing lease agreement.

Cons:

  • Lease Terms May Restrict Your Flexibility

Depending on the terms of your lease agreement, you may only be able to lease a specific part of the building, space, or section of your office with the landlord’s approval. Ideally, a tenant would be able to sublease the entirety of the space they occupy, but that’s not always the case. Commercial rental codes, landlord preferences, and market conditions can throw a wrench in your subletting plans. Furthermore, certain lease agreements can prohibit you from subletting to companies or entities that have lower credit scores than yours, restricting you from subletting to a wide array of potential suitors.

  • Hidden Costs Can Bite You

As the original tenant, it’s ultimately your responsibility for damages to the property and any repairs needed at the end of the lease agreement. Furthermore, even if you recoup the security deposit, any further damages to the property will be on your dime, making you liable for any actions by the subtenant.

Depending on the nature of your lease agreement, you may be on the hook for any overages in utility costs incurred by the subtenant. Most lease agreements dictate specific limits in utility costs provided by the landlord; anything outside of those costs could show a stiff bill at the end of the lease agreement – and that’s on you.

How to Sublet an Office Space

Step 1: Check the Terms of Your Lease Agreement

Before you start looking for subtenants, you want to make sure you’re legally capable of subleasing the space you’re currently occupying. Most commercial lease agreements prohibit subleases outright, but those that allow subleasing require approval from the landlord before ink sets to paper.

This is also the first opportunity in which you should get your attorney involved in the process, as they’ll have better insight into your ability to sublease a space per the terms of your lease agreement.

Step 2: Search for Subtenants

Depending on the market, you’ll almost always be able to find a company looking to capitalize on a reduced lease, reduced rate sublet – but your best options might be right around the corner. Your neighbors in the building may be looking for a better option, a larger space, or an expansion opportunity, and because they’re already tenants to the same landlord, all parties might have an easier time getting what they want.

Next, your subtenants should be carefully screened and vetted before an agreement is made. Because your subtenant will be paying rent to you and not to the landlord, you’ll still be liable for the total amount of the monthly lease – no matter who’s actually paying the bill. That’s why it’s crucial that you do your due diligence in finding subtenants who are able to pay the full amount and are able to maintain the property as per the terms of your original lease agreement. In other words, it’s on you if the subtenant damages or neglects the property while subleasing from you.

Step 3: Agree on Reasonable Terms and Determine What to Charge

If your subtenant is in the same (or similar) industry as yours, you may have an easier time transitioning the property to their specifications. But if extensive renovations or upgrades are required, you’ll want to spell out who bears the costs of those improvements and who will be responsible for any stipulations in the original lease agreement should the landlord require you to restore the property to its initial condition. These can include utility costs, amenities, branding or signage, furnishings, and specialty upgrades.

Furthermore, determining costs and breakdowns of utility contributions is essential at the outset of a sublease agreement. While market conditions may suit your company favorably when considering a sublet, some lease agreements prohibit original tenants the ability to charge more than the original monthly rent amount in order to make a profit on the space itself. However, it’s common for tenants to require subtenants to pay the full amount of the original security deposit in order to protect themselves from damages incurred, which should mitigate potential risk.

Step 4: Finalize the Sublease

Once you’ve covered all your bases and consulted with both your landlord and your real estate attorney, it’s time to sign the agreement and finalize plans for your company to relocate and bring in a subtenant under your original lease agreement.

The Difference Between Sublets and Assignments

Subletting and assignments are two very different practices in commercial real estate, although they’re often confused.

Subletting involves the original tenant retaining the responsibility for the lease agreement with the landlord despite two or more parties being financially responsible for the monthly rent. Landlords tend to prefer these types of agreements due to that factor.

Assignments are more attractive to tenants, but riskier for landlords. With sublets, the responsibility for monthly payments remains with the original tenant, making them ultimately responsible for the subtenant’s contributions. With an assignment, the landlord must evaluate a new tenant, who must demonstrate financial stability and reliability in addition to the original tenant. However, assignments provide the landlord the ability to deal with only one tenant at a time, simplifying their oversight of the property and freeing them up to negotiate a new lease once the original agreement is complete.

With assignments and sublets, landlords and original tenants must consider several factors, including:

  • -Financial stability of potential new tenants
  • -Any changes in the terms of the lease agreement
  • -How much obligation the original tenant holds
  • -Costs of monthly rent and any overages to be paid to the landlord on behalf of the original tenant or subtenant

As with any legal agreement, any commercial lease agreement that prohibits subletting or assignment should stop any negotiations in its tracks. Ideally (at least in the eyes of the tenant), a lease agreement should specifically define the tenant’s ability to sublet or assign a commercial space and also define the landlord’s ability to refuse such an arrangement – and why.

Landlords often define the terms of a potential sublet or assignment using the following criteria:

  • -Retaining approval of proposed use of the leased space
  • -Legal and financial analysis of any fees incurred during the subtenant review period
  • -Business and industry review to verify potential conflicts of interest with other tenants

As long as your lease agreement allows for subletting extra – or the entirety – of your space, the decision lies between you, your landlord, and the subtenant. It’s a difficult process to filter out the appropriate subtenant, but a worthy time investment given the financial benefits to all parties. You save money on space you no longer need, the subtenant finds a suitable environment for near or below market value, and the landlord keeps collecting the monthly payment. But ensuring the situation is right for everyone is ultimately the responsibility of the original tenant, so be sure to do your homework before committing to any sublet agreement.

John is the VP of Sales at OfficeSpace.com where he leads broker relations and sales. Prior to being VP of Sales, he was the Regional  Director for the company. John has over 25 years of experience working in the commercial real estate industry. Before OfficeSpace.com, John was a commercial real estate broker for the Norman Company in Seattle, WA.