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What a Commercial Tenant Should Know About Leasing Space

July 4, 2013
Susan Halas - Contributing Writer (wailukusue@gmail.com) , Maui Weekly

Consumer Affairs I

What a Commercial Tenant Should Know About Leasing Space

Susan Halas

Article Photos

Leasing commercial real estate on Maui is not for the faint of heart. Be sure to compute all costs and remember that while the base rent is fixed by the lease, CAM is based on actual expenses and is likely to rise.

As Maui's economic outlook continues to improve, more business people may be thinking about commercial leasing. Therefore, the Maui Weekly would like to share some important information about the process.

Some prospective tenants may have lived on the Valley Isle only a short time and others may not be aware of the complexities of standard commercial leases. There are important differences between residential and commercial contracts and the level of protection offered to consumers in commercial leasing is also very different.

The following is a short checklist that potential commercial tenants might want to keep in mind.

1.Use a commercial Realtor

Be represented by a licensed professional; Find a tenant's agent who is a good fit and understands what you want to do and how much you have to spend. If it's a commercial transaction, use a commercial Realtor. Customarily (but not always), the commission for leasing of commercial space is paid by the landlord.

A good place to find a commercial Realtor is at the Maui Commercial Round Table Website. The letters CCIM after a Realtor's name signify he or she has completed difficult advanced courses in commercial real estate. (See mauicommercial.com/members.php for more information.)

Likewise, don't use a residential contractor to make commercial tenant improvements.

2.Don't expect full disclosure

Understand that commercial leases are usually drawn up by landlords. The landlord does not need to make full disclosure or any disclosure. In the eyes of the law, a commercial tenant is deemed to be sophisticated person capable of knowing if a prospective space legally meets the requirements for its intended use.

Many commercial tenants are not aware of all the legal requirements, and they also underestimate the length of time it will take to obtain permits, make improvements and obtain a certificate of occupancy. No matter how much so-called "free rent" is included in the deal, it is often does not allow enough time to get the doors open.

3.Due diligence is critical

Don't rely on the oral assertions of the leasing agent (who represents the landlord) on the suitability or compliance of a given property for your intended use. Due diligence is critical--Don't skip it and don't skimp. Be prepared to pay the necessary fees to have experts verify the space you are eyeing meets the code requirements and does not have expensive violations or costly maintenance issues. Parking, disability compliance and many other factors can come into play. All of these can be expensive to mitigate and are likely to be costs that the tenant will have to pay.

4.Know the meaning of triple net

Most commercial leases here are triple net, meaning they have three parts--the base rent, the common area maintenance (CAM) fee and the tax. The total cost is inevitably higher than the base rent alone might make it seem. Read the lease, understand it and don't sign one without understanding all the costs. (See "Consumer Affairs II: A Short Introduction to the Triple Net Commercial Lease" for some tips on understanding a triple net lease.)

5.Tenant Improvements Belong to the Landlord

Remember that tenant improvements, fixtures that are actually attached to the building, belong to the landlord if you move out. No matter what you paid for them and no matter how new or old they are, unless your lease says differently, if you depart, all those upgrades stay behind.

6.Skipping out

Be aware that Maui is a small place. Tenants who exit in the middle of the night are remembered and the word will spread.

7.Negotiating

The time (the only time) to negotiate is before signing. Perhaps you think this is obvious. It is not.

Consumer Affairs II

A Short Introduction to the Triple Net Commercial Lease

"Consumer Affairs I: What a Commercial Tenant Should Know About Leasing Space" on page one of this issue explained that a triple net lease has three parts: the base rent, the common area maintenance (CAM) fee and the tax.

The first number is the base rent per month. If it is $1 per square foot per month, and the space for lease has 500 square feet, the base rent is $500 per month.

The CAM is the tenant's pro-rated share of the owner's operating expenses. A whole laundry list of charges can be included in the CAM. Typically, it includes the owner's insurance, maintenance, property taxes, security and management costs. The CAM usually does not include utilities. This number is often padded. Be sure your lease says when and where you can have access to actual documents used to compute the CAM in the event of a dispute.

Be aware that while the base rent and the subsequent increases are fixed by the language of the lease, the CAM can and usually does float upward. These are actual costs: If they go up, the tenant pays retroactively.

If the CAM is 30 cents per square foot for 500 square feet, that's another $150 per month.

To compute the third number, add the base monthly of $500 plus $150 CAM for a total of $650. Multiply this sum by 4 percent to find the gross excise tax (GET) that goes to the State of Hawai'i. In this case, that's another $26 dollars.

The real cost is always higher

So the actual total cost per month for this 500-square-foot unit is actually $676. Multiply by 12 to get an annual rate. Multiply by the number or years in the term to get the cost for the whole time period. Adjust downward a little bit for any "free rent" and then divide by the number of months in the entire term of the lease to find the true monthly cost to the tenant.

It's all in the lease. Always include the probable increases to the CAM in your estimates of what the total cost of the space will be for the life of the lease.

If you ask for an "option to renew" and the landlord's agent thoughtfully writes it in with the phrase "at market," it means no matter what your base rent was in the old lease, the landlord is free to revise it upward--sometimes dramatically upward--in the next lease, unless the language of your old lease's option to renew clause says differently. This is not just a technicality--this is important to the success of your business. In a market that is going up, it is almost always better for the tenant to take a long lease and stabilize the fixed costs for as many months as possible.

Now add the appropriate number of zeroes (since the space is under consideration will probably be larger than 500 square feet), plus the cost of tenant improvements, professional services and inevitable pricey delays, and you'll have a better idea of the tenant's real costs.

The numbers get big

No matter how small or rundown the premises under consideration are, most prospective tenants find that the total costs to lease commercial space here are shocking--so shocking that one wonders that there are any small grocery stores, noodle shops or mom-and-pop ventures left.

Maui is truly one of the world's most challenging business environments. Rents on Front Street in Lahaina are on par with those in Times Square.

Maui is small, friendly and teeming with millions of visitors, but commercial real estate is not for the faint of heart.

We are coming to the end of a relatively brief interlude (2008-12) where the tenant had some wiggle room. Going forward, the Maui commercial space market seems to be returning to its preferred modus operandi, which says if this tenant fails, it won't be long before somebody else fills the space.

Caveat emptor.

Editor's note: The writer is a licensed Hawai'i real estate broker.

 
 
 

 

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