My commercial tenant's circumstances have changed. What do I need to consider before modifying the lease?
With the world-wide pandemic changing the way we work and live, many are working from home and are unsure when they will return to the office, if ever. Microsoft recently announced that it will not require workers to return to the office even after the threat of COVID-19 has passed, making other companies consider the necessity of office space. This poses a significant risk to office space owners. As a tenant may look to down-size its office space or end its lease, the landlord can opt to modify the current lease to meet the needs of the tenant while keeping the tenant in the space and paying rent.
First, the landlord could look at the status of the lease and determine if she wants to keep the tenant in the space. If the current lease is in the middle of the leasing period, the landlord needs to determine if the tenant has a right to terminate. If the tenant does not have a right to terminate, the landlord likely has considerable leverage when modifying the lease. The landlord could likely down-size the space rented but can increase the rent owed per square foot or increase the duration of the lease. If the tenant has the right to terminate, the tenant can end the lease, and the landlord will be left without a tenant. The landlord will likely need to make the new lease favorable to the tenant to keep him in the space. In uncertain time sometimes having a tenant on site is better than no tenant.
Second, the landlord might consider if he/she is willing to assign the lease to a third-party. This arrangement can help the current tenant down-size and reduce its rent payments while maintaining the current lease. However, the landlord will have increased obligations as there are now more tenants in the space. The landlord would likely enter into an agreement with the new tenant, assigning either a portion of the rented space or the entire space to the new tenant. The landlord needs to review the new tenant's ability to fulfill the lease. If there is a risk of defaulting, the landlord should consider requiring the new tenant to obtain a guarantor for its assigned portion of the lease. The guarantor can be a third-party or the current tenant. The landlord can also require that the current tenant pay for any fees or expenses incurred through finding, reviewing, and entering into an agreement with the new tenant.
A sublease is another option that allows a current tenant to down-size and reduce its rental payments. The difference between an assignment and a sublease is that a sublease is an agreement between the current tenant and the new tenant, not the landlord and new tenant. In a sublease, the current tenant remains liable for complying with the lease and will collect rent from the new tenant. The landlord can still require a guarantor and the payment of fees associated with the sublease agreement.
Lastly, the landlord should consider if she is willing to surrender part of the lease. Surrendering part of the lease releases the current tenant from payment for that portion of the space. This is an opportunity for the landlord to negotiate new terms of the lease. The landlord can require a higher rent per square foot, a longer lease term, a surrender premium, and repayment of any fees associated with the surrender. While this does not ensure that a new tenant will rent the space, this can lead to greater rapport with the current tenant and an opportunity to build relationships with different customers. In addition, before surrendering any part of the lease, the landlord needs to review her loan documents to ensure that the surrender will not bring the company out of compliance with the loan agreement and bring the landlord into default.
With current uncertainty surrounding the need for office space, it may be in the landlord's best interest to keep a current tenant in the space and paying rent. This will avoid abandonment and a potentially costly lawsuit. While the need for office space is uncertain, there is an opportunity that companies that choose to work in-person will need enlarged spaces to promote social distancing while at work. Keeping a tenant in the space and happy could lead to greater rental opportunities in the future.
The information contained on this blog is intended to be general information only and not legal advice. This blog topic is not intended to be fully comprehensive. For these reasons, we suggest you seek a licensed attorney to help you review your commercial lease documents. If you have any questions about the contents of this blog or if you need legal advice regarding your project, please contact the Beavers O'Connell Group at (720)538-0363 or contact the firm on BOG's Contact Us page.