When a commercial lease agreement nears its expiration, tenants generally have two options: stay in their current space or find something new. If you choose to stay in your current space, know that renewing a commercial lease by simply exercising your renewal option is not the best decision for tenants.
Over time, business needs change and market conditions fluctuate. Thus, the terms you agreed to five to ten years ago may not be the most favorable for your organization today. When it comes time to exercise a commercial lease renewal, consider going to market, creating leverage and backup plans, and renegotiating the terms of your lease (think: rental rate, tenant improvements, and amenities) with your landlord first.
Continue reading to learn more about lease renewal options and why it’s in your best interest to negotiate your terms when it’s time to renew.
What Is a Lease Renewal Option?
A commercial lease renewal option allows tenants to renew their lease agreement within a certain window of time, typically six to 12 months prior to the expiration of the lease.
Usually, the lease renewal option is extended at “fair market value.” This value typically aligns with comparable transactions, but is not less than the base rent for the last year of your lease. The challenge with “fair market value” is that the landlord and tenant may not agree on what is fair. Sometimes, renewal options are based on a predetermined schedule set when the lease is first signed.
Commercial lease renewals are often viewed as easy to deal with and allow tenants to quickly move on. But that’s generally because some tenants don’t understand the process or are intimidated by negotiations. Many times, tenants choose not to hassle with their landlord, so they elect to avoid the process and exercise their renewal option. However, when this happens, tenants miss out on potential savings and favorable terms that can add value to the space.
Why You Shouldn’t Renew Your Commercial Lease As-Is
While most commercial lease agreements include lease renewal options, there are several reasons why tenants should not renew without negotiations. Here’s why:
- Lease renewal language in most commercial lease agreements is not tenant-oriented.
- Your commercial lease renewal and other agreement language could be anywhere from five to 10 years old, depending on your lease term. When it comes time to renew, your organization may require modifications to the terms of the lease or premises that weren’t part of the initial lease agreement.
- As a tenant, you should want to know the exact renewal lease terms before extending your lease for another three or five years, again “fair market value” is subject to interpretation.
Benefits of Negotiating Your Commercial Lease Renewal Option
When you solicit the help of a tenant-focused real estate advisor and enter negotiations with your landlord, your landlord realizes you’re poised to look at alternative locations and that you expect your landlord to compete for your tenancy. Here are several benefits to discussing commercial lease renewal terms.
1. Lower Rental Rates
The commercial real estate market is always fluctuating, which means there is potential to secure a lower rental rate. While no one can guarantee lower rates, it’s always a possibility and it’s worth having your real estate advisor discuss it with your landlord. Also, the tenant improvements from your initial lease term have been fully amortized, which is not taken into consideration with an increase in rent applied in the renewal period.
2. Allowance for Office Improvements and Renovations
A landlord will most likely be willing to make cosmetic alterations such as installing new carpet and paint to accommodate a new tenant. To keep long-term tenants, landlords very often have to make larger investments, including modifying the suite, which may include demolition and construction costs.
During commercial lease renewal negotiations, your real estate advisor may be able to secure certain tenant improvement allowances from your landlord to improve your space—not only bringing your workplace a fresh look, but also helping to improve operations, and employee attraction and retention.
3. Improve Shared Facilities
Use your commercial lease renewal negotiation period as an opportunity to discuss health and safety improvements with your landlord, as well as other common area enhancements throughout the building.
If there are specific amenities that you’d like to see implemented or improved in the common areas of the building, ask for them. These requests could be things like improved security, updated parking, or the use of more sustainable materials. Negotiating is also your chance to learn what your landlord’s plans are for more “fun” amenities, such as new cafes or social lounges (and if there are no such plans, now is the time to ask for them).
4. Flexible Terms and Conditions
In the past, commercial lease agreements would rarely include terms and conditions that discuss flexible lease options, such as expansion, contraction, renewal, and early termination rights. However, with more people adopting flexible work policies, we expect to see such provisions included in leases more often. If you’re interested in discussing flexible options, speak with your real estate advisor to develop a plan and potential lease terms to present to your landlord.
How to Negotiate Your Lease Renewal Option
Negotiating a commercial lease renewal or lease extension with your landlord can be complicated and time-consuming without the right expertise. Not sure how to negotiate your lease renewal option? Consider some of these tips for lease negotiations:
- Meet with your real estate advisor well in advance of your lease expiration notice date to evaluate your business needs and form your negotiations.
- Understand current market conditions, comparable transactions, and alternative spaces to use as leverage when negotiating your lease terms.
- Address major issues first, like evaluating the premises and rental rates, before diving into less important details like parking.
Think twice the next time your commercial lease expiration is approaching. Don’t fall into the lease renewal option trap. Realize that it’s a quick and easy solution, but will also cost you and your organization money in the long run. Make the right decision for your company and negotiate lease terms when it comes time to renew.
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