A commercial lease is one of the most important agreements a medical or dental practitioner will enter into. Typically, landlord-provided leases are drafted heavily in favor of the landlord. As a tenant, it’s important to understand the key elements of landlord-drafted leases, and negotiate (and perhaps remove) any provisions that may be overly burdensome in order to protect and increase the value of your practice. The following discusses key provisions often included in landlord-drafted leases.
Personal Guarantee:
Signing a personal guarantee makes the business owner personally liable for the lease payments and potentially other lease obligations, even in the event of a business bankruptcy. As the result, the personal guaranty may result in a business owner having to also declare personal bankruptcy if he or she cannot pay such debt. When signing a lease, therefore, it is critical to understand what you are personally liable for.
The following is an example of a personal guarantee provision:
Guarantor does hereby unconditionally guarantee to Landlord the due and punctual payment of all rent, property taxes, utilities, and all other obligations, including reasonable attorney fees (sometimes referred to herein as “Obligations”), to be paid by Tenant under the Lease.
Tip – Seek to remove any personal guaranty provisions. Your leverage to do so will be dependent upon factors such as how long you’ve been in business, how strong your business financials are, and the desirability/demand for the leased space. Also, understand and consider the magnitude of the potential liability that you are asked to guaranty. If the lease term is short, and the payments are not too large, and if your personal financial position is good, the magnitude of the potential risk will be much smaller than a high-priced, long-term lease.
Exclusivity Clause:
Exclusivity clauses are important as they will ensure that you will be the only dentist or medical practitioner on the premises (thus you won’t need to worry about competitors potentially being in the same office complex). While Washington law provides that contracts “in restraint of trade or commerce” are unlawful, case law has held that a simple restriction on competition within a limited geographical area—like a single shopping center or mall—is reasonable. The following is an example of an exclusivity clause:
During the term of this Agreement, Landlord shall not enter into any lease or sublease regarding space in the Complex with any tenant engaged (or to be engaged) in a dental practice, and Landlord shall specifically prohibit in any lease or sublease concerning the Complex the use of such property for the operation of a general dental practice.
Sublease:
A sublease is a transfer of the right of possession for a period that is less than the full term of the underlying lease (sometimes referred to as the “Master Lease”). The parties to the sublease are the original tenant and the subtenant. This provision is important if you intend on subleasing your space to another practitioner. For example, a dentist may choose to sublease part of the space to an endodontist, but can the landlord withhold consent? Some landlords will include a sublease clause which requires the landlord’s review and approval of the subtenant.
Tip – Landlords will often want to have the right to grant approval. Consider at least adding a clause that “such consent will not unreasonably withheld.” Although, this clause may be somewhat vague legally, at least it will not give the landlord an unfettered right to withhold consent for any (or no) reason.
Assigning the Lease: Assigning the lease means that the tenant will transfer the entire lease agreement to a new tenant. The lease language typically requires the landlord’s “prior written consent” which allows the landlord to withhold consent for any reason. As noted above, the lease should provide that the landlord’s consent to an assignment “shall not be unreasonably withheld.” The lease should provide the tenant flexibility in the event that the tenant decides to sell his or her practice.
Demolition and Sale:
A demolition clause allows the landlord to terminate the lease in order to demolish the building, while a sales clause allows the landlord to terminate the lease upon a sale of the building or complex. More recently, landlords are including clauses permitting them to terminate the lease if they decide to demolish or sell the property. It is important when negotiating a lease to have the landlord agree to remove these clauses or at a minimum, agree to provide substantial notice in the event that they choose to demolish or sell the property. Additionally, it is sometimes also possible to negotiate other lease terms that would reduce tenant disruption and relocation costs (such as reduced rent for a number of months).
Signage:
The landlord will generally want control of signage and may be concerned about aesthetics and compliance with local ordinances. Accordingly, most leases include a provision that restricts a tenant’s ability to display a business sign without the landlord’s approval.
Be sure that you are aware prior to signing the lease of any signage ordinances and landlord limitations, as these may affect your visibility to potential patients. If possible, get the landlord to approve your desired signage in an exhibit to the lease, which should be included at the time the lease is signed. Remember – after the lease is signed, your leverage to seeking lease approval is mostly gone. Also, consider retaining a lawyer to advise on any signage ordinances.
Option to Renew or Extend:
An option to renew is critical, as it can be costly and difficult to relocate an established business. Additionally, you may lose many patients once the practice relocates. As a result, it is important to negotiate renewal options at the outset of a lease.
Improvements or Alterations:
Commercial tenants, specifically dental practitioners, almost always need leasehold improvements. Such improvements are referred to as “tenant improvements” or “TI’s.”
TI’s are usually negotiated at the outset of a lease. Often, particularly in long-term leases, the landlord may provide an allowance for TI’s, and such cost may paid back over the course of the lease, or in some other fashion. The more likely that the TI’s are to benefit future tenants, the more likely it is that the landlord will be willing to pay at least some of the cost.
What you should do:
- Determine specifically what is to be done, which party will bear the costs for the TI’s (or whether the cost will be split), and when (and to whom) payments should be made. Get estimates in writing.
- Determine who will be responsible for hiring contractors. It’s important to understand that if you must use the landlord’s contractors, these contractors may be more costly than contractors you might be able to retain.
- Determine all aspects of the buildout. For instance, if a receptionist station is to be built, what type of material will be used? How large will it be?
- Whether you will have the right to take any portions of the build-out with you. See the next section on “trade fixtures.”
Unless there is an agreement to the contrary in the lease, permanent improvements typically become part of the property owned by the landlord and must be left at the end of the lease term.. If the landlord is building the office space, it is critical that detailed plans are provided by the tenant to the landlord.
Trade Fixtures:
A “fixture” is propertywhich has been annexed to and has become a part of realty, but which retains its separate identity and may be removed and become personalty again. For example, trade fixtures include chairs, equipment and tools. Generally, Washington law allows the tenant to remove trade fixtures. You will want to be sure that the lease does not extinguish the right to remove fixtures, such as dental chairs.
Escalation Clause:
Commercial leases often include a rent escalation clause in which the base rent is multiplied by a percentage derived from a specific index. The Consumer Price Index is a commonly used index. As indexes may be unpredictable, it is best to outline the specific amount in the contract or include a cap on the adjustment so that even if it is based on the index, it will not be greater than a specific amount. The following is an example of an escalation clause:
The Tenant understands that the Rent amount will increase One (1) year into the Term, beginning on May 1, 2017, and shall increase on an annual basis thereafter on the 1st day of May for each year. The annual rent increase shall be based on the monthly rent of the previous annual lease period plus an adjustment based on the change in the United States Department of Commerce Consumer Price Index for the western region in which Washington is located. However, in no event shall the adjustment be less than Three Percent (3%) or more than Six Percent (6%).
Final Notes
As lawyers for medical and dental office leases, we advise and represent clients in securing office leases and help protect their long-term interests. It is critical to negotiate all key lease aspects – including tenant improvements, signage, and lease extension options – at the outset of a lease; otherwise, all negotiation leverage will have been lost.
MDK Law Attorney Nahal Nabavinejad represents and advises individuals and small and medium sized business clients in a variety of commercial litigation, estate planning, and transactional matters
This blog contains general information and is not intended to provide specific legal advice or establish an attorney client relationship. This blog should not be used as a substitute for legal advice from a licensed attorney in your state.