Commercial leases often contain the option of additional or “renewal” terms to extend the lease term. Reviewing and understanding this provision in your lease can help maximize your lease rights, whether you are the landlord or the tenant. This post focuses on the importance of a well-drafted renewal option provision, and the need to monitor critical deadlines.
Mechanics of Renewal Options
Understanding the mechanics of renewal options is important. Some parties prefer automatic renewals, while others favor the delivery of notice to exercise renewals. There can be one or more renewal options. Several factors can influence how to best structure the renewal option provision, such as current and anticipated market conditions, landlord concessions, tenant incentives, business planning, and your administrative ability to monitor deadlines, to name a few.
At a minimum, the parties should determine whether or not the lease will automatically renew. If the lease does not automatically renew, the tenant should require the landlord to provide the tenant with a reminder notice to remind the tenant that the deadline is approaching for the tenant to renew the lease. Providing the reminder notice should be a condition precedent to the tenant forfeiting its renewal options; otherwise, a material business term that was negotiated up front can be lost due to a missed deadline. The reminder notice is generally disfavored by the landlord because it adds an administrative burden, but this should not dissuade a tenant from making the request. The tenant already has an administrative burden of having to exercise the renewal (even after the reminder notice is given), so the additional burden to the landlord seems a fair compromise.
In leases with automatic renewals, the renewals can typically be avoided if a party provides timely notice to the other party of its intention not to renew the lease. Failing to timely provide a cancellation notice under a lease with automatic renewals can be just as costly as failing to provide a renewal notice under a lease that does not automatically renew.
As you can see, the importance of monitoring deadlines applies with equal force in each instance. Regardless of the structure chosen by the parties, “post-closing” due diligence is recommended shortly after executing the lease, which includes calendaring all critical dates under the lease.
Don’t Go Unnoticed
A party exercising a renewal option (or preventing an automatic renewal from occurring) must not only meet the deadline, but must also be sure to provide proper notice as required under the lease. For example, leases tend to require that notice be properly addressed through specific means, such as personal delivery, overnight courier, etc. The address where the notice must be sent is not always the same address where rent is sent. The notice provision may also require that the notice be sent to parties other than the landlord or tenant, such as a broker, attorney or lender.
Failure to miss a renewal notice deadline can also result in forfeiture of any purchase option available under the lease. This can be a harsh result if the rental rates were influenced by the renewal option(s) and/or purchase option, or if any rent was to be applied to the purchase price upon exercise of the purchase option.
A future post will address how to define rent adjustments that are triggered when a lease term renews.