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Red Flags to Look for in Reviewing a Lease and Dealing With the Landlord’s Gotchas Along with Suggested Solutions

By in 2018 - Volume 20 with 0 Comments

For over 22 years, Restaurant Realty Company’s agents and brokers have been involved with thousands of restaurant, bar, night club and related commercial building leases and the majority of these agents and brokers have owned a restaurant and/or managed one. There can be several potential sections in a lease that you need to be aware of that can be detrimental to your future tenancy as well as your ability to sell your business in the future.

These include the following which are discussed below:

  1. Use clause restrictions
  2. Options personal to the Assignor (Seller)
  3. Demolition clause
  4. Recapture provision
  5. Landlords participation in sublease spread or Landlords participation in the sales proceeds
  6. Non-disturbance clause
  7. Relocation clause and
  8. No cap on real estate tax increases in the sale of the property

1.Use Clause Restrictions

Problem: This limits the Tenant to the specific type of business the tenant can operate at
the site. These are frequently found in shopping center and other multi -tenant retail leases.
Specifically, for a restaurant Tenant that needs to change their concept including the name,
menu and other proprietary items in their operation if their current concept is not working
this can create an economic hardship and force the Tenant out of business.

Solution: Make sure to have a broad enough use clause to give you the flexibility to make
the necessary concept changes in the future if necessary.

2. Options Personal to Assignor (Seller)

Problem: This means that the Assignor (Seller) option(s) are only applicable for him and
the Assignee (Buyer) can’t assume these options. This is a major detriment to the Seller
being able to transfer his lease unless he has a long base term remaining.

Solution: Make sure options are not personal or confirm the Landlord is willing to offer a
new long-term lease to the Buyer with similar terms and conditions as the existing lease.

3. Demolition Clause

Problem: This is a deadly clause for the Tenant as it gives the Landlord the ability to give
written notice to the Tenant within a certain time period spelled in the lease (usually 6
months) to notify the Tenant they need to vacate the premises and their lease will be
terminated. In some cases, the Landlord is responsible for paying the Tenant their
unamortized portion of their leasehold investment.

Solution: Don’t sign a lease with a demolition clause or if you have to make sure the
Landlord has to give you a long notice period (several years) so you have time to recoup
your investment and get a reasonable return on your investment. At the minimum if you
accept this clause make sure the landlord has to pay you the unamortized portion of your
leasehold investment.

4. Recapture Provision

Problem: This means that if the Tenant is trying to sell his business and requests to have
his lease assigned to the Buyer the Landlord has the right to terminate the Tenants lease
and recapture the premises and the Tenants business value is wiped out.

Solution: Don’t sign a lease with a recapture provision or if necessary, have language
included that states Landlord will deal with this issue on a case to case basis prior to
Tenant formally asking for the Landlord’s consent for an assignment in writing.
Additionally, I have seen in some leases that if the Tenant requests an assignment and the
Landlord indicates to Tenant that they are going to exercise their recapture provision there is a rescission period whereby Tenant can remove their request for an assignment within so many days spelled out in the lease and maintain possession of the premises.

5. Landlords Participation in Sublease Spread or Landlords Participation in the Sales Proceeds

Problem:  In some cases the Landlord has the right in a sublease to receive the spread or in a sale the right to a portion or all the Sellers proceeds

Solution:  It is common on spreads on subleases to be shared either 50/50 between the Landlord and the Sublessor/ Tenant or the Landlord receives all the spread.  Spreads are the difference between what the Tenant/Sublessor is paying the Landlord in rent and what the Sublessee will be paying; i.e. the Tenant/Sublessor pays $2 sq. ft and the Sublessee pays $3 sq. ft and the $1 sq. ft. difference is the spread. Try to negotiate the spread on a sublease so the Landlord gets no more than 50% of the spread and you keep the remaining 50%.  For sale of the business proceeds don’t allow the Landlord to any of the proceeds of the sale and if necessary after you get back your original investment and costs of sale agree to give the Landlord a small percent of the profit (5 to 10% max).

6. Non- Disturbance Clause

Problem: If the Landlord goes into bankruptcy and/or is foreclosed on and losses the property the Tenants lease can be terminated and the Tenant can be forced out of business.

Solution:  By having a non-disturbance clause in the Tenants lease the Tenant will survive a Landlord’s bankruptcy or foreclosure.

7. Relocation Clause

Problem:  This frequently appears in shopping center leases and other multi-Tenant leases which gives the Landlord the right to relocate the Tenant to another location within the center. Although the Landlord is normally responsible for paying for the Tenant’s relocation costs this relocation can be detrimental to the Tenant’s business as he could be relocated to an inferior space which could negatively impact his business.

Solution:  If the Landlord insists on a relocation clause you should have additional language inserted in this section as indicated in the following sentence in italics.  If the Landlord exercises this clause and the Landlord’s suggested new space is not acceptable to you and the Landlord will not give you an additional space that is acceptable then the Landlord buys your business based on an advantageous formula to you to be negotiated up front as part of the lease.

8. No Cap on Real Estate Tax Increases in the Sale of the Property

Problem:  In many cases the Tenant has to pay his share of the real estate taxes for the space he occupies. The formula for his share of the real estate taxes is usually prorated based the size of their space relative to the size of the entire building. i.e. If the Tenant occupies ten percent (10%) of the entire building then the Tenant will pay ten percent (10%) of the real estate taxes for the entire building. If the building is sold during his tenancy for a higher price than the Landlord paid for the building the real estate taxes will be reassessed based on the price the new Landlord paid for the building. Unless the Tenant has a cap (limit) for real estate tax increases in their lease the increased real estate taxes is passed on to the Tenant which could be substantial and potentially force the Tenant out of business.

Solution:  Make sure you have language in your lease that should the ownership of the building change during your tenancy that your increase in property taxes is capped at a level you can live with.

Restaurant Realty has been involved with thousands of leases throughout its history. Feel free to contact us to use our expertise to minimize becoming a victim of the negative lease points discussed above.  For more information about how we can assist please contact Steve Zimmerman at steve@restaurantrealty.com

 

 

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About The Author
Steven Zimmerman, CBI, M&AMI, CBB, FIBBA

Steve is the Founder, Principal Broker and Chief Executive Officer of Restaurant Realty Company. Steve has personally sold/leased over 1000 restaurant, bar or club businesses, sold many commercial buildings and completed over 3,000 restaurant valuations since 1996. His real estate experience also includes sales, acquisitions, management and ownership of numerous properties throughout California including restaurants, hotels, apartment buildings, single family houses, an office building and a multi-use retail building. Steve is also the author of Restaurant Dealmaker – An Insider’s Trade Secrets for Buying a Restaurant, Bar or Club available on Amazon. Prior to starting Restaurant Realty Company Steve had over 20 years of restaurant experience and was President and Chief Executive officer of Zim’s Restaurants, which was one of the largest privately owned restaurant chains in the San Francisco Bay Area. READ FULL BIO | HIRE EXPERT WITNESS - LEARN MORE