Lease Agreements: Leveraging Key Provisions in the Fine Print to Mitigate Risk
By G. MARTIN IRONS, CPCU, CIC, ARM, technical development team leader and member of the Construction and Mergers & Acquisitions practice groups at The Graham Co.
Throughout the country, the "For Rent" sign has become a staple in commercial real estate. In many places, it is a tenant's market.
This makes it an ideal time to review the provisions of your lease to maximize the contractual risk management protection you receive from the landlord. Here are some key provisions to consider:
Mutual Property Damage Waiver
Many leases include a one-sided property damage waiver that benefits only the landlord. Under this type of provision, only you are required to waive all rights of recovery against the landlord for any claim for loss or damage to your property.
This waiver should always be limited to the extent the loss was covered by your property insurance--meaning you should not waive your rights to recover against the landlord unless the loss is covered by your property insurance.
In addition, request the landlord to waive their right to recovery against you for damage to the leased premises for which you could be liable. Without this provision, the landlord, or the landlords' property insurance carrier, would be entitled to subrogate against you for your liability for damage to the premises, which would expose your general liability insurance to additional losses and potentially increase your insurance premiums.
To prevent this increase, include a mutual property damage waiver that provides protection to you as the tenant.
Indemnification and Additional Insured Coverage
Nearly all landlords require the tenant to indemnify them and/or provide additional insured coverage. By requesting these provisions, landlords are trying to protect themselves from lawsuits brought by your employees or your business partners that may slip and fall in the leased premises.
By obtaining indemnification and/or additional insured protection from you, the landlord is attempting to transfer this exposure to your general liability insurance and avoid a potential increase in the landlord's insurance costs.
To protect your general liability loss exposure and minimize the potential increase in your insurance costs, try to delete the requirement to provide indemnification and additional insured coverage to the landlord.
Rent Abatement Provision
If the premises are rendered untenantable or unsuitable for use due to damage by fire or other perils, you as the tenant could still be obligated to pay rent. A rent abatement provision terminates your obligation to pay if the premises are damaged and can no longer be occupied.
Leasehold Interest Coverage
If you currently have a favorable lease agreement or are negotiating a favorable multiyear deal, review your current property insurance to make sure it includes leasehold interest coverage. Most leases permit the landlord to terminate the lease if the building is damaged by fire or other perils. If you are forced to lease alternative space, you may not be able to negotiate a new lease agreement with the same favorable monthly cost. This increased difference between your current rental costs compared with the rental cost of the new, alternative location can be insured by leasehold interest coverage.
Leasehold interest coverage can also insure the value of your undamaged leasehold improvements that you may have to forfeit in the event of the termination of your lease. If a leased property suffers substantial damage, the landlord would be insured for the damage to the building and you would be insured under your property coverage for the damage to your leasehold improvements.
However, if the building is only partially damaged but is not being rebuilt, your property insurance would only pay you for the actual damage to your leasehold improvement. For example, if you had $2 million in leasehold improvements and $1.25 million was damaged in a fire, you could be uninsured for the remaining $750,000 if the building is demolished and not repaired.
Leasehold interest coverage would protect you for the value of your undamaged leasehold improvements if the landlord terminates the lease as a result of a covered cause of loss.
Evaluate whether your current property insurance includes adequate leasehold interest coverage to protect both the rental expense differential that may exist if you have a favorable lease and the value of your undamaged leasehold improvements that you may have to forfeit in the event of the termination of your lease.
The fine print of a lease agreement can be modified to minimize the amount of potential risk the landlord may attempt to transfer to you. These provisions can be complex and should be reviewed with the help of your insurance broker or other expert to maximize your protection. With the current economic conditions, now is the ideal time to negotiate a lease that will be favorable not only in price, but also in the risk management protection provided to you.
July 1, 2009
Copyright 2009© LRP Publications