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Subleasing has pitfalls for the unwary
As the local economy continues to improve, we’re seeing industrial, office and retail spaces being snapped up as soon as they hit the market.
Office rents in downtown Grand Rapids are on the rise. It can be challenging to find the right location for a new store or boutique. Quality industrial space is so difficult to find that real estate brokers say new construction is needed — now.
It’s little surprise, then, that we are seeing an increase in subleasing. Companies able to find available, reasonably priced space are signing leases for their current and future needs, then turning around and subleasing the portion of the space not immediately needed. Tenants looking to get a toehold in this market can find that a sublease may be the best option.
Clients regularly call and ask me to send over the firm’s standard sublease form — and are surprised when I tell them there is no such thing. Just as every lease is different, every sublease is going to be very different because it will be based on a unique underlying master lease.
Subleases are complex because they involve three parties: the landlord, the sublandlord and the subtenant; and two documents: the master, or original, lease and the sublease. To further complicate matters, there is no direct contract between the landlord and the subtenant.
Whether you are a sublandlord or subtenant, there are a number of things to keep in mind to ensure a successful sublease:
The basics: The sublease will cover the basics: a definition of the space, rent, taxes and insurance. It will also cover the term or length, which should be the same or less — but never longer — than the term of the master lease. The sublease will also identify the use, which must be permitted under the master lease. For example, if you are planning to sublease a portion of an office building for a dental office, be sure that is allowable under the master lease. The sublease will also specify what maintenance services will be performed by the landlord, the sublandlord and the subtenant, and clarify how the cost will be passed down to the subtenant.
The details: Subtenants should carefully review the site plan to ensure the space they are renting will work for the use they have in mind. Is there ample parking? Do you have access to your space? Will your patients have access to a restroom? Sublandlords need to make sure they properly define the space. By defining space as “exclusive” (used only by the subtenant) or “common” (used by you and the subtenant), you affect not only the rent calculation, but potential exposure to liability. Don’t define as “common” space that which is used solely by the subtenant.
Non-disturbance: If lenders are involved, the subtenant will want a subordination, non-disturbance and attornment provision. These ensure that the landlord will recognize the sublease as a direct lease in the event of a default and termination of the master lease. Landlords may be reluctant to agree to these provisions when the subleased space is only part of the leased premises and could affect the marketability of the remaining leased premises.
Insurance: Make sure both parties are insured as required under the master lease. The subtenant will want a covenant from the sublandlord that it will not breach the master lease and will indemnify the subtenant for any damages resulting from a breach. Both sublandlord and subtenant should require “waivers of subrogation,” which prohibit an insurance company from seeking restitution for damages caused by a party.
Default: As a sublandlord it is important to make sure your subtenant does not have a longer period to cure a breach than you have under the master lease. Under a sublease, you remain liable for your obligations under the master lease and could be liable for defaults and damages caused by your subtenant if not cured in a timely fashion.
Kelly M. Clum-Matthysse is an attorney at Warner Norcross & Judd LLP who concentrates her practice in real estate with an emphasis on commercial real estate sales, acquisitions and leases. She can be reached at email@example.com.