Tenants often wait until the last month to begin the office lease renewal process – with disastrous results.
It’s 10:00 am on a Friday morning. Your Office Manager carries in an envelope and places it on your desk. You open the envelope to find a renewal proposal from your landlord’s real estate broker. The commencement date on the renewal is March 1st… and today is February 3rd.
What do you do now?
In tenant representation it is very common to meet business owners that have run out of time to negotiate their lease renewal. On one hand this is understandable given the torrent of action items and to-do’s on their plates. Running the business takes priority – renewing the office lease does not. This is one strong argument for hiring a tenant representation broker to assist with real estate needs. Your broker will act as an out-source real estate department for your growing company – and make sure you are on top of the important deadlines associated with it! So, how far out should an office tenant begin the renewal process for their lease? (hint: it’s more than one month)
Lease Renewal Timeline
We generally recommend tenants begin working on the office lease renewal at least 6 months prior to expiration. This allows sufficient time to review vacancies & geographic preferences, tour buildings, and negotiate the best deal. One important item to note is that the tenant really does not know at the beginning of the process whether they will be renewing their current lease or relocating to a new building. It is important to remain open to all possibilities throughout the process, and have time remaining to keep all options on the table. The overall strength of the market can be a factor of course. In a strong landlord’s market it can be challenging to tour spaces and expect a landlord to hold it for your commencement in 6 months. However, under normal circumstances this is a reasonable request in many markets.
Below is a typical timeline for an office lease renewal or relocation:
Notice above that the process can take up to 26 weeks, and it is quite possible for some items on this list to take longer than planned. The complexity of the work required to build out a new space will be a key contributing factor here as well. If the tenant locates a suitable space to relocate which will not require intensive and costly demolition and construction, 6-8 weeks of this timeline can be trimmed down. Significant construction brings with it the potential for delays due to permitting, inspections, material shortages, and unplanned issues that can arise during the project. The key takeaway is that tenants should be allotting 18 weeks at a minimum and up to 26 weeks for the complete process.
Next Steps With One Month Remaining
Now, back to our fictional business owner with less than one month before his office lease expiration. His options are, unfortunately, limited. The obvious next step is to contact the landlord’s broker to negotiate the rental rate. With only 4 weeks remaining on the lease term the broker knows the business owner is not intending to relocate. The lack of time remaining strips essentially all leverage from the tenant in this negotiation. The broker, who knows the current market conditions and trends, will tell the tenant the best they can offer and insist this is a good deal. The tenant will review the numbers and in the vast majority of cases, sign the renewal proposal. Occasionally the tenant will feel the new proposal figures are unfair or misaligned with the market and consider relocation. With such little time remaining they will most likely need to occupy their space after the lease expiration. Now would be a good time to talk about the holdover lease provision.
The Holdover Provision
Nearly all commercial leases for office space will include a section addressing holdover by the tenant. This covers the scenario in which a tenant chooses to occupy the premises following the lease expiration date, becoming either a tenant-at-will or tenant-at-sufferance depending on the wording of the provision. The triggering of the holdover provision in the lease typically means three important things for the tenant:
- All other parts of the lease agreement remain in full-force
- The landlord maintains the right to evict the tenant with little or no advance notice
- The tenant will be required to pay a premium in excess of their usual rent payment
This last point is the one that will have the most immediate impact on the tenant. So the question is – exactly how much is this rent premium? This number will vary depending on the market where the tenant conducts business, and how well their office lease was originally negotiated. Generally the holdover amount is between 125-200% of the tenant’s rental obligation.
This means that a tenant with a monthly rent payment of $3,800 will owe the landlord between $4,750 and $7,600 for the privilege of remaining in their office space past the lease expiration – per month. And the landlord may have included language in the lease stating that no proration of the holdover rent will be permitted. If this is the case the tenant will owe up to double their usual rent obligation for the month, even if they occupy the space for only 2 weeks of that month.
Given the high cost of the holdover provision, many business owners elect to sign the renewal proposal and move on to more pressing matters. This decision could prove to be even more costly in the long term.
In conclusion, most office tenants under-estimate the time required to properly conduct a lease renewal or relocation. They wait until very little time remains on their current lease, or until the landlord’s broker contacts them with a proposal. It is important to remember that time equals leverage in this situation, and waiting on the landlord to reach out is not the best approach. The tenant will ultimately be forced to accept above-market rental rates, miss out on tenant improvement dollars and rental abatement credit they could have negotiated, or pay holdover in order to buy enough time to relocate. As a business owner the best approach is to work with a tenant representation broker that can keep you up-to-date on important deadlines, and make sure you have 18-26 weeks to work the process.