A sublease occurs when the original owner does not lease the premises to you, but there is another person or entity in between you and the landlord. That is, the property owner rents to someone else, and then that person rents to you. Subleases are common in both commercial and residential properties. However, there are some special considerations that you should be aware of when entering into a commercial sublease.
For businesses, lease obligations can make or break a company. This is particularly true for startups and expanding businesses. As a result, it is imperative that you know and understand what you are getting into before you sign a sublease agreement. Tenant obligations and landlord expectations vary a great deal depending on the type of property you are renting, the business you are performing, and in some cases, even the temperament of your landlord.
While there are many similarities between commercial and residential leases, there are some extremely important differences as well. These differences apply to subleases in equal force in most circumstances.
In residential leases, the tenant’s needs are generally the same—having a place to eat, sleep, and be comfortable. These requests require very basic essentials such as heat, water, and pest control. A business’s needs can vary significantly based on the type of activity and the size of the company. It is critical for leaseholders to negotiate the terms of the lease in a way that will fit their business. The same recommendations apply to those who sublease, but negotiation abilities are often not as readily available in sublease arrangements.
As commercial leases are often long and have significant monetary obligations if the contract terminates early, subleasing to another business often makes sense. For example, if a company falls on hard times and needs to downsize, it may not need the leased space any longer. The business may have decided to change geographic locations or may need to increase the space necessary for the company and simply no longer requires the space.
The termination fees associated with an outstanding lease may make discontinuing it impractical. In fact, it may be cheaper to continue renting an empty building instead of paying the termination fees. In some cases, the “termination fee” is really just the remaining rent for the rest of the lease period. In those situations, subleasing to another business cuts down on the monthly obligations associated with the contract.
As the leaseholder is motivated to find a tenant quickly to reduce expenses, some sublessees can find extremely well-priced commercial real estate for their business. However, they may need to make some concessions regarding the space, such as not being able to make as many alterations as they otherwise would have done to the property.
Most subleases involve small to medium-sized properties. The properties are often part of a larger configuration, such as in the context of a mall or shopping area. However, this is certainly not always the case.
Sublessees face some risks by using a sublease instead of an outright lease with the landowner. Maintaining the lease is often vital to the success of your business, so you should take some time to do some research and engage in due diligence regarding the sublessor and their arrangements with the landowner.
It is a good idea to have your own copy of the original lease so you can fully understand and appreciate the terms that apply to the sublessor. In most situations, those terms will apply to you as well. Pay particular attention to conditions that may trigger a default of the lease or the landowner’s ability to terminate the contract. Take care to notice any restrictions regarding subleasing as well. In some commercial leases, the landlord may have the capacity to void the contract if he or she does not approve of the sublessor or its particular type of business.
If possible, you should review the underlying lease before entering negotiations with the sublessor. You may not realize certain terms or restrictions that would affect your ability to do business in that location without a thorough review of the lease.
There are situations where the sublessee continues to pay rent as required, but the sublessor does not meet its obligations regarding rent or other issues. In those situations, the landowner often has the right to remove you from the premises despite the fact that you are meeting all of your obligations. It may also trigger a remedial right to alter the terms of the lease as well. In some circumstances, you may be able to negotiate with the landowner for a direct contract, but this is not always the case.
You can often avoid these situations by requesting to review the sublessor’s financial records. You may also want to specifically inquire as to why the sublessor wants to sublease the property in the first place. Certain responses may trigger red flags. If the sublessor refuses to provide any financial information, that may also be a warning sign.
As a sublessee, you should ensure that you have negotiated specific terms of the commercial sublease agreement to protect yourself. For example, you should have the right to pay the landlord rent directly in the event of default from the sublessor. This provision is often referred to as a “right to cure” clause.
Be sure the agreement also includes a written consent form from the landlord regarding the sublease. This type of documentary evidence can help you to avoid potential disputes down the road.
To stop bleeding money when you cannot get out of your lease, a sublease may make sense. However, the desire to rid yourself of the financial obligations associated with the contract may cause quick decision-making without careful thought or thorough investigation. Taking time to understand your rights and responsibilities when you sublease can help you to avoid some of the most common pitfalls associated with subleasing space to another tenant.
It is important to remember that as the sublessor, you are still on the hook for the contract between the landlord and you. This is true regardless of whether your sublessee meets their obligations to you. For some—particularly those who are subleasing to avoid financial difficulties—this risk is enough to shy away from the entire sublease process. However, if you take certain steps to protect yourself, you may be able to decrease these risks.
Some commercial lease agreements explicitly disallow subleasing to other individuals or entities. It may also place restrictions on who can sublease or what type of business can be in that particular location. Do not start the negotiation process until you ensure that a potential renter can occupy the space without violating the underlying lease. Failure to take these extra steps can terminate the rental agreement and result in incurring those termination fees that you are attempting to avoid, or even litigation.
Finding someone to sublease from you is often the most challenging part of a sublease agreement. The person who subleases from you is often not permitted to adjust the space to their needs like they would if they were renting from the landowner. This can be off-putting to potential renters, and can dramatically decrease the number of businesses or individuals who would be interested in the property.
Setting the rent below the price that you are paying is often the only way to attract businesses to the property. Nonetheless, even renting below market value can decrease month-to-month costs. Pricing to attract businesses while also avoiding leaving money on the table is sometimes a challenge. Knowing the market for a particular industry or location is extremely important for sublease pricing.
In some circumstances, your landlord may let you out of your lease without incurring additional expenses if he or she has another interested party for the property. Therefore, be sure to let your landlord know ahead of time that you are planning to sublease the property. You may get lucky and be able to avoid the entire process.
Finding a quality tenant for your sublease agreement is paramount. Difficult renters, or those that do not pay their bills, can completely undermine the goals you are trying to achieve in the sublease process.
Reviewing financial statements can be a good way to vet potential renters. Do some additional research regarding the company and their particular industry as well. Your due diligence ahead of time can prevent serious monetary problems down the road.
While there are some significant risks to subleasing, there are some important benefits to consider as well. Consider the following advantages to subleasing commercial space as a tenant:
Like every business decision, there are some drawbacks to subleasing commercial space as well. Consider the following potential problems:
A commercial sublease can be a great option despite its potential drawbacks. Whether you are the sublessor or the sublessee, taking extra precautions to protect yourself can remove much of the risk from this type of transaction.
You can use the legal documents and resources at LegalNature to help with this process. Check out our commercial sublease agreement help guide and head to our commercial property documents section to get your sublease paperwork started.
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