In a commercial setting (as opposed to leasing residential property, such as a home or an apartment), one of the landlord’s main concerns is getting the property leased at the highest possible rate as the market will bear.
But often conflicting with this is his concern about getting paid. These priorities often make strange bedfellows.
Obviously, the landlord wants to get the place rented. In the past three years, commercial real estate has hit bottom and stayed there. Offices that were renting for $3.50 per square foot now sit vacant.
The realistic price for that office space is likely $2.25 per square foot, or even less. So what’s a landlord to do?
Well, this is what creates a tenant’s market and a quandary for the landlord. He or she’s got loans to pay off and investors demanding returns. Some landlords resolve this conflict by agreeing to rent space out at the lower rate — but only for much shorter terms than usual, say for one year as opposed to three or five years.
Okay, this solves his first priority – the owner’s got someone interested in renting an office that has sat vacant for months or perhaps even years. But the landlord also realizes that simply having an interested prospect does not equate to a good deal for him or her.
If the owner’s used a real estate agent, then he or she probably has to pay those commissions for the entire term of the lease up front, not while collecting rent. Now, the owner has another expense to add to his or her other overhead and still hopefully take some home cash.
Then he or she has a nightmare. What happens if this new tenant walks away or goes bankrupt like so many businesses are doing now? How does he or she continue to get paid?
He or she could (and likely will) require the new tenant to sign a personal guarantee of the lease. This definitely increases the likelihood that the rent will be paid. But if it’s not enough incentive, then what the landlord has with the personal guarantee is a right to sue someone else.
The landlord could also demand a much larger security deposit to be used if the tenant defaults. This can work well if the tenant starts missing payments.
However, if the tenant files for bankruptcy, there is a good chance that the bankruptcy court could rule that the security deposit belongs to the tenant/debtor, and that the landlord must turn it over to help the tenant pay its bills.
Another option is to ask for a letter of credit. Investopedia.com defines a letter of credit as, ―A letter from a bank guaranteeing that a buyer’s (or tenant’s) payment to a (landlord) will be received on time and for the correct amount. In the event that the (tenant) is unable to make payment on the purchase, the bank will be required to cover the full or remaining amount of the (rent).
Most letters of credit are irrevocable — that is, once they are issued, the tenant cannot pull them back. And since a bank will only issue a letter to clients they believe are good credit risks, the landlord gets an added vote of confidence in the new tenant.
Conversely, if the bank won’t issue a letter of credit, then the landlord should look long and hard as to whether he or she really wants to rent to someone a bank is reluctant to back.
Assuming that the tenant can get the letter, it will likely not be part of the bankruptcy estate and the landlord can draw against it for however long it will last. It’s an option that we may be seeing more of.
And, yes, I will do another column on leasing from a tenant’s perspective.©