Property management Legal Briefs

Leasing Green

Incorporate sustainable practices into tenant-landlord contracts.

Commercial real estate property owners and tenants are adopting sustainability programs that affect various aspects of their business operations. To implement such programs, property owners and tenants must look at their real estate, both existing and future, to determine what changes are necessary or desired to further their sustainability goals. Since most corporate commercial real estate in the U.S. is subject to lease agreements, standard lease provisions may need to be modified to incorporate green concepts from both a tenant’s and a landlord’s viewpoint. Leasing specialists also can learn which provisions should be modified to provide both parties with enough flexibility to implement these concepts.

Operating Expenses
Landlords of existing buildings should re-examine their operating expense provisions to maximize potential recovery of green retrofitting costs. These provisions allow landlords to pass through the costs of operating the building to tenants.

For existing buildings, such provisions rarely cover the additional costs that may be necessary to achieve or maintain a Leadership in Energy and Environmental Design Existing Building Operations and Maintenance certification. When entering into new leases, landlords should consider modifying what constitutes a permissible pass-through operating cost. For example, the operating expense clause could cover “any and all costs incurred by landlord in achieving or maintaining a LEED EBOM designation.”

In addition, the LEED EBOM requirements are likely to change over the term of the lease. As a result, landlords may seek to include permissible pass-through language that covers any additions, supplements, or modifications to LEED EBOM guidelines at lease commencement.

For tenants, existing lease forms often permit a landlord to pass through capital costs that are intended to reduce operating costs. It is through this language that some landlords may seek to have tenants pay for costs related to retrofitting the building with green features, which should reduce operating costs.

Tenants also may want to avoid paying any costs relating to certification or commissioning a retrofitted building. Such changes should make the building more desirable and may lead to the landlord’s ability to recapture such costs in the form of higher rents from new tenants.

Alterations
The alterations provision is another standard lease clause affected by LEED EBOM retrofitting. This provision governs a tenant’s ability to make structural or nonstructural changes to its space. The clause provides for a fair amount of landlord control and consent, although sizable tenants often can make numerous nonstructural changes without landlord involvement.

As such, landlords should include some general protections governing the alterations process to ensure that a future LEED EBOM designation is not adversely affected. One such protection is an acknowledgement from the tenant that any alterations must be consistent with the landlord’s then-existing sustainability practices and any then-existing LEED EBOM requirements. Another is to require tenants to hire a third-party LEED professional to oversee the design and construction of the alterations.

Tenants may be motivated to modify their existing space to incorporate more green features. Current standard lease language may prohibit them from doing so. Many traditional leases require a tenant’s alterations or improvements to be made with new materials, which is often antithetical to green design and construction that favors the use of recycled materials. Thus, even cosmetic alterations may require the landlord’s consent.

Casualty
Casualty provision requires the landlord to rebuild the premises upon certain casualties, subject to the receipt of insurance proceeds and other conditions. However, most leases require the condition of such restored premises to be the same as existed prior to the casualty. Also, many casualty clauses provide the tenant with termination rights if the restoration has not occurred within a particular time frame.

However, for a landlord considering LEED EBOM, it may make sense to restore the building to an improved, green standard with an extended restoration schedule before any termination rights become effective. As such, landlords will want to modify casualty provisions accordingly so that they can make such an election without tenants’ consent.

The same standard language also will not work for a tenant who is likewise motivated to use the opportunity to rebuild its interior to an improved, green standard. However, tenants who are unable to use their leased space due to a casualty may not welcome a landlord’s extended restoration schedule needed to meet LEED EBOM requirements. The tenant’s other alternative — lease termination — may not be a desired outcome, especially if the tenant enjoys below-market rents or a good location.

Rules and Regulations
Green issues permeate tenants’ day-to-day operations as well. Therefore, it benefits landlords to supplement the standard lease rules and regulations that govern tenants’ operations in the building to cover sustainability concepts. Specific rules might include the requirement that tenants adopt or adhere to a building recycling program; guidelines for trash collection, storage, and separation; adherence to exterior maintenance programs; use of lighting controls; daylighting measures including closing shades on the south side of the building to avoid overheating the space; and turning off lights and equipment.

However, since standard lease language provides that a landlord may modify the rules and regulations at any time, existing tenants often are most affected, especially if the landlord undertakes some measures to implement a sustainability program. Under most traditional lease language, a tenant’s breach of the rules is tantamount to breaking the lease. Thus, tenants should ensure that the rules are applied to all tenants equally. Tenants also need notice and sufficient cure periods to ensure that minor violations of the rules don’t actually trigger a lease default. Finally, any language whereby repetitive breaches trigger a default should be removed so that the landlord cannot use such violations as an excuse to terminate a lease or dispossess the tenant of its leased space.

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