Sellers of commercial real estate generally loathe dealing with flippers.  What constitutes a flip?  A flip occurs when the “original buyer” enters into a purchase contract and then assigns the purchase agreement to the “ultimate buyer” prior to the closing.  First, the original buyer/flipper, if successful, makes a profit that the seller believes they should be pocketing.  Second, if the flipper cannot close the transaction on its own, a higher probability exists that the sale will not close at all, resulting in a waste of seller’s time, resources and money. This article examines ways in which a seller can defend against its property being tied up by a flipper.

In order for a buyer to profit from flipping by assignment, the flipper must be able to assign the purchase agreement to the ultimate buyer. The right for an original buyer to assign the purchase agreement is not inherently harmful to a seller.  In fact, prior to the closing, most original buyers (who are not flipping) assign the purchase agreement to a new entity formed by the original buyer solely for the purpose of acquiring and owning the property.  Such newly formed entities are often created to shield other assets from risk or to satisfy a lender’s requirements for the property to be owned by a single purpose/single asset entity.

Crafting a Protective Assignment Provision for Sellers

A well-crafted assignment provision allows the original buyer to assign the purchase agreement to a new entity formed by the original buyer solely for the purpose of acquiring and owning the property, and prohibits the original buyer from flipping the purchase agreement to an unrelated third party for a profit.

In order to protect against the flip, Sellers should craft an assignment provision in the purchase agreement that:

1. Permits assignments by the original buyer to an entity owned and controlled by the original buyer (or, if the original buyer is an entity, to an entity owned and controlled by the owners of the original buyer).

2.     Prohibits assignments by the original buyer to an entity not owned and controlled by the original buyer (or, if the original buyer is an entity, to an entity not owned and controlled by the owners of the original buyer).

3.     Prohibits, if the original buyer is an entity, the transfer of ownership interests in the original buyer as a subterfuge to avoid the restriction provisions described in paragraph 2, above.

4.     Prohibits the original buyer from entering into an agreement to sell the property prior to the closing.

It is wise for a seller to start negotiations with a strong “anti-flipping” assignment provision.  If the assignment restrictions are objectionable to the original buyer, the seller can quickly flesh out the original buyer’s true intentions regarding the acquisition.  Also, as with all negotiations, the parties can always agree to modify the “starting” assignment provisions in a manner that makes sense for the transaction.

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

When acquiring commercial real estate, it is important to conduct due diligence to ensure there are no surprises that will affect the value or use of the property.  One aspect of the due diligence process is considering obtaining an ALTA Survey.  The two main reasons for obtaining an ALTA Survey are (i) to satisfy the title insurer’s requirements for the issuance of ALTA title insurance coverage for Survey Risks (defined below), and (ii) to specifically locate both record and non-record matters that affect the property, which can be critical for evaluating whether or on what terms to proceed with an acquisition.  This is particularly important when the preliminary title report raises many or difficult-to-locate easements or other similar exceptions, or when the facts on the ground seem complicated.

An ALTA Survey is a survey prepared by a licensed surveyor in accordance with detailed standards adopted by the American Land Title Association (ALTA) and the American Congress of Surveying and Mapping (ACSM).  An ALTA Survey maps the property’s boundaries, the location of the improvements on the property, including buildings and other structures, fences, utility lines and installations, trails, paths and roads, etc., and the location of all access, utility and other easements recorded against the property.

For commercial real estate, title companies typically require an ALTA Survey before they will commit to issue title insurance covering the following “Survey Risks:”  (1) encroachments, boundary line disputes, or other matters or circumstances that would be disclosed by an accurate survey and inspection of the property; and (2) easements or claims of easements not shown by the public records.  In some states, and for certain property types, a less detailed (and less expensive) form of survey, or an improvement location certificate, may suffice to obtain title insurance coverage for Survey Risks.

When to conduct an ALTA survey?

An ALTA survey will identify and locate:

• Buildings, fences or other improvements from neighboring properties that encroach onto the property being acquired;
• Buildings, fences or other improvements located on the property being acquired that encroach onto neighboring properties;
• Buildings, fences and other improvements located on the property being acquired that encroach onto existing easements (utility, access, etc.) located on the property being acquired;
• Existing record easements that might have an adverse impact on the use or future (re)development of the property being acquired; and
• Potential easements or claims of easements not disclosed in public records but indicated by facts on the ground that might adversely impact the property being acquired.

An ALTA Survey is not legally required and is not always necessary. It is important to balance the potential risks against the expense of due diligence. For example, if you are acquiring a 30-year-old apartment building in a well-developed urban area, a visual inspection does not raise any concerns about potential boundary disputes or encroachments, and the preliminary title report does not disclose any easements or other record matters of concern, you might feel comfortable forgoing an ALTA Survey and title insurance coverage for Survey Risks. In some cases, you may be able to convince your title insurer to provide coverage for Survey Risks based on a less expensive form of survey or on an improvement location certificate. In general, how detailed and how expensive a survey you need is a question best answered after a site inspection and review of the preliminary title report.

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

Tenants often need to finance furniture, fixtures and equipment (“FF&E”) that will be used at the premises. In order to do this, a tenant must grant its lender a first priority, perfected lien against the FF&E. A careful review of applicable commercial lease provisions is necessary to ensure that (i) tenant is not be prohibited from financing its FF&E, and (ii) landlord is not committing itself to a costly relationship with tenant’s lender.

Subordination of Liens

If the lease or a statute creates a landlord’s lien against tenant’s FF&E, the lease must be modified to either (i) subordinate the landlord’s lien to the lien of tenant’s lender, or (ii) terminate the landlord’s lien. The lease should also require landlord to sign lender required documents evidencing the waiver. Without these modifications, tenant may not be able to find a lender willing to finance its FF&E.

Landlord Waiver

As a condition to financing FF&E, lenders require landlords to execute an agreement referred to in the real estate industry as a “landlord waiver.” A landlord waiver agreement requires landlord to give the lender access to the premises after tenant’s default to remove the financed FF&E from the premises. Landlord should be wary of lease provisions requiring landlord to execute lender’s standard landlord waiver agreement. Instead, landlord can agree to a lease provision requiring it to execute a commercially reasonable landlord waiver agreement. With this provision in place, landlord can negotiate requirements for tenant’s lender to:

1.   Pay past-due rent and rent until lender completes its removal of the FF&E.

2.   Remove FF&E within a specified period of time following tenant’s default under the lease.

3.   Indemnify landlord and provide insurance, naming the landlord as an additional insured.

4.   Repair damage caused by its entry and removal of the FF&E.

5.   Prohibit the lender’s sale or auction of the FF&E at the premises.

6.   Describe the FF&E in the landlord’s waiver

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

If a profit can be made from assigning a lease or subletting the premises, who should keep the profits?

The landlord owns the property and believes it is entitled to receive all income and profits earned from the property.

The tenant realizes that if market rents fall during the lease term, it will remain obligated to pay the higher lease rental rate and will not receive rent concessions from the landlord.  Since it bears the downside risk, the tenant believes it should retain any upside profits from an assignment or sublease.

The battle line is drawn:  Who is entitled to keep the profits?

Landlord’s Mistake

Whether a tenant has a right to some or all of the profits is a matter to be resolved by negotiations, but a landlord should never seek 100% of the profits.  If the landlord retains 100% of the profits, a rational tenant will limit its losses by assigning the lease or subletting the premises at a rental rate equal to or less than the lease rental rate. A tenant will not fight for profits if there is no motivation to do so. If Landlord hopes to profit from an assignment or sublease, it must share a percentage of the profits with the tenant.

What are profits? (It’s all in the definition)

Landlords like to broadly define assignment and sublease profits as any income derived by the tenant from the property in excess of the rent paid under the lease.  Tenants desire a more nuanced definition that excludes the tenant’s expenses from the calculation of profits.  Tenant’s expenses might include (i) brokerage commissions and marketing expenses, (ii) concessions provided to the assignee/sublessee, including any improvement allowance, (iii) rent paid to the landlord from the date tenant vacated the premises until it derived income from an assignment or subletting, (iv) the unamortized cost of the improvements to the premises made and paid for by tenant; (v) the value of furniture, trade fixtures and equipment included in the deal, and (vi) attorneys’ fees.  What, if any, expense items are allowed will vary based upon the outcome of negotiations.

Another issue for the parties to resolve is whether the tenant’s expenses (i) will be reimbursed to the tenant in full before profits are deemed to exist, or (ii) will be amortized over the term of the assignment or sublease (the latter being better for the landlord since profits will be distributed from the get-go).

This article is part of our commercial lease “battle line” series.  There are hundreds of battle lines drawn for the skirmishes fought between a landlord and tenant when negotiating a lease. Behind each battle line is the prospect for economic gain or loss that places the landlord and tenant at odds.  Understanding the motivations and economic concerns of both the landlord and the tenant facilitates compromise and helps the parties get the deal done.

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

A cellular carrier’s lease form or the form of an independent cell site developer (both are referred to as a “carrier”) is prepared by and strongly biased in favor of the carrier. The desire of a landlord to earn easy income from a cell site lease should not cloud reason and the need to modify the carrier’s lease form. The extent of the modifications and concessions obtainable by a landlord depends upon the desirability of the property and alternative sites available to the carrier. But, it’s a balancing act. Landlords who push too hard may lose out to a neighboring property; Landlords who don’t push hard enough may end up with unanticipated and unacceptable expenses, liabilities and burdens.

Carriers require contingency time periods after the agreement is signed to conduct feasibility studies and obtain permits. To accommodate these contingencies, some carriers structure their agreement as an option to lease to be exercised by the carrier once the contingencies have been satisfied. Other carriers simply prepare a lease which contains feasibility and permit contingencies.

Under either structure, the agreement should require the waiver or satisfaction of contingencies prior to a specified outside date. If the carrier does not waive the contingencies by the outside date, the agreement should terminate and be of no further force or effect, except for provisions which survive termination, such as indemnities and covenants to satisfy mechanic’s liens.

There are two types of cellular antennae leases: the first is a rooftop installation; the second is a cell tower installation (constructed directly on your land). While this checklist covers issues applicable to both lease types, some issues may be applicable to rooftop leases and not cell tower leases, and vice versa. Also, although this checklist is thorough, it is not exhaustive and there may be other issues of concern applicable to particular transactions or cell site locations.

Rent and Other Income/Payments

Key Money/Processing Fee

Negotiating a cellular antennae lease can be time consuming and expensive, requiring more time and legal fees than expected for a lease that generates a similar level of income. Because of this, the landlord should ask for key money or a processing fee that is payable concurrently with the execution of the lease agreement.

Feasibility/Permit Contingency Period Compensation

Request compensation for the time period covering the carrier’s feasibility study/permit contingency period.

Monthly Rent

Negotiate a clearly defined rent commencement date and a mechanism for automatic rent increases, preferably on an annual basis.

Co-location Rent

The use of a site by more than one carrier is often referred to as “co-location.” Carriers are not adverse to co-location, but they will negotiate protections so that their signal transmission is not adversely impacted by other carriers’ antennae. Landlords can increase their income stream from co-location by (i) retaining the right to co-locate other carriers on their property, and/or (ii) obligating the carrier to pay landlord a portion of the co-location rent it receives from other carriers.

Utilities

The carrier should install utility meters and pay charges directly to the utility companies. If utilities are not separately metered, the carrier should be obligated to pay for its fair share of utilities.

Pro-rata Share of Operating Expenses

Generally, carriers do not pay a pro rata portion of building or project operating expenses.

Taxes

The carrier should pay personal property taxes and increases in real estate taxes associated with its improvements and installations.

Termination Payment

A negotiated amount paid by the carrier if it exercises a right to terminate granted to it in the lease (See Term – Termination Rights, below). One way to structure the termination payment is as an amount equal to (i) the monthly rent for the remainder of the term, or (ii) the minimum monthly rent for a set number of months, for example a termination payment equal to six months of rent. Landlord can increase the effective amount of the termination payment by requiring a written notice of termination a specified period of time (e.g., 90 days) prior to the effective date of the termination, with the carrier being obligated to pay monthly rent through the termination date.

Leased Premises; Construction; Maintenance; Removal/Restoration

Defining the Leased Premises

Carrier lease forms loosely define the area leased and grant broad discretionary rights to the carrier to modify, alter and expand the leased premises throughout the entire term. It is important for a landlord to rein in and control the carrier by negotiating a precise definition of the premises.

• Description. Legal Description (cell towers) or diagrams (certain cell towers and roof top leases). Equipment shed location. Size/height restrictions.
• Design/Camouflage. Requirements, if any, should be agreed upon and documented.
• Interference with Signals of other Carriers.   (1)  The carrier should agree not to interfere with the radio frequencies of any existing carriers so long as the existing carriers continue to operate within their respective frequencies.  (2)  Landlord should agree not to enter into future leases with carriers whose operations interfere with the carrier’s established radio frequencies. (3)  The carrier should agree to use good faith efforts to resolve interference problems between its transmissions and the transmissions of other carriers.
• Utility Easements. Rights to run wires, cables and conduit from antennae to a power source should be specified.
• Backup Batteries.  Are they required? Backup battery systems may contain mercury or other harmful chemicals. The lease should make the carrier responsible for compliance with environmental compliance, notification and remediation laws, rules and regulations.
•  Access Rights/Easements. Particularly for rooftop antennae, access rights to roof must be documented. Important questions to answer include whether unfettered access will disturb other tenants and whether access should be limited or restricted for non-emergency situations. If landlord requires access nearby the antennae to repair or maintain its building or property, the carrier should be obligated to turn off the antennae to protect workers from the harmful effects of radiation generated by the antennae.
• Use “for no other purpose”. It is important to specify that the use of the property is for construction and operation of a wireless communications facility, including a tower, antennae, cables and related structures, and for no other purpose.
• No Exclusive Rights. Landlord should make clear that it has the right to co-locate other carriers on its property. The right of a carrier to co-locate other carriers on its equipment should be coupled with an obligation for the carrier to share co-location rents with the landlord.
• As-Is. Landlord should not make representations or warranties. (Or, if made, they should be limited in scope and duration).

Permits, Plans and Construction Concerns

• Permits. The lease should provide that landlord will cooperate with the carrier in its efforts to obtain zoning variances, conditional use permits and construction permits, but such cooperation should (i) be at no cost or expense to the landlord, and (ii) not require landlord to limit its rights to otherwise use or develop the property.
• Plans and Construction. Certain aspects of the carrier’s plans, including camouflage design, engineering plans the attachment and anchoring of the antennae, and roof and structure penetrations, should be subject to the landlord’s reasonable modification and approval. The carrier must (i) install its equipment in a manner that does not invalidate the landlord’s roof warranty, and (ii) be required to repair of leaks, if any, caused by its installations. The landlord should retain the right to deny its consent, in its sole and absolute discretion, for any improvements or alterations that increase the size or visual impact of the carrier’s improvements.

Maintenance

The lease should clearly provide that the carrier is responsible for the maintenance, repair and replacement of the leased premises and its equipment.

Improvements and Removal

Some carrier lease forms limit removal and restoration obligations to aboveground improvements (excluding structural steel, foundations and underground installations) to the extent “reasonable,” without any obligation to restore damage to landscaping. Upon termination of the Lease, the carrier should agree to (i) remove all of its personal property, trade fixtures and equipment from the premises prior to the expiration of the term, and (ii) restore the leased premises to its original condition, normal wear and tear excepted, at its sole cost.

Term

Feasibility and Permit Contingencies/Rent Commencement

As discussed above, some carriers tie up the cell site locations with an option to lease, which when exercised, triggers the commencement of the term and the monthly rent obligation. Other carriers structure the feasibility study/permit contingency period as part of the lease term. If a lease structure is used, the lease should clearly state when the monthly rent obligation starts, which could be upon issuance of building permits, “x” months following the issuance of building permits, or the commencement of construction.

Duration of Term/Options to Extend

The term of the Lease is typically 5 years, which automatically renews for a specified number additional option terms of 5 years each. The options to extend will be deemed to be automatically exercised unless the carrier notifies the landowner of its intention not to renew prior to the commencement of the succeeding renewal term.

Termination

Carriers require the right to terminate the lease under certain circumstances. Landlords should negotiate a termination payment in the event the carrier exercises a termination right, other than as a result of landlord’s default, interference by other carriers, or damage and destruction of the premises. Generally, the carrier will retain the right to terminate the lease upon: (i) the termination, expiration or withdrawal of licenses, permits, easements or other approvals, (ii) the determination by the carrier, in its sole and absolute discretion, that it is unable to use the site for its intended purpose or that the site is no longer economically viable, (iii) any time prior to commencement of construction, (iv) interference with the transmission of its radio frequencies by other carriers on the property, (v) the premises are damaged or destroyed, or (vi) default by landlord and the failure to cure the default within a specified period of time.

Assignment and Subletting

Assignment and Subletting

Carriers will generally require a right to assign without the landlord’s consent. Carriers will resist any limitation placed on their right to assign because of the administrative burden of complying with consent requirements. The carrier should be required to provide notice of an assignment and remain liable under the lease following an assignment. The assignee should be required to assume, in writing, the carrier’s obligations duties and liabilities under the lease.

Subletting

Similar to assignments, the carrier may require the right to sublease (co-locate other carriers) without landlord’s consent.  See discussions above regarding co-location (Sections I.d and IIa.ix)

Miscellaneous

Compliance with Laws

Clearly provide that the carrier is required to comply with all federal, state and local laws, rules and regulations concerning the carrier’s equipment, antenna and transmissions. Some carrier leases require the landlord, at its cost, to keep its building and property compliant with Federal Aviation Administration (“FAA”) and Federal Communication Commission (“FCC”) for marking, lighting and monitoring. The carrier, not landlord, should be obligated to comply with FAA and FCC requirements triggered by the carrier’s improvements in operations.

Right of First Refusal to Purchase

Some carrier leases contain a right of first refusal provision requiring the landlord to offer to sell its property to the carrier on terms and conditions that the landlord is willing to accept from a third party. For many reasons, such a provision is unreasonable and burdensome and should not be agreed to by landlord.

Rental Stream Offers

There are companies that purchase rental streams from cell site leases at a discount. Carriers require the right to match offers acceptable to the landlord, enabling the carrier to buy down its stream of lease payments at the discount offered by a third party. This is a requirement of most carriers in the landlord should negotiate reasonable time periods and requirements applicable to this right.

Redevelopment and Relocation

In connection with the improvement or (re)development of the landlord’s property, the landlord should have a right to relocate the carrier’s antennae and supporting equipment and facilities to another.  Which party bears the cost of the relocation is subject to negotiation.

Default and Remedies

Carrier forms are notoriously deficient in landlord protective default and remedy provisions. Specific issues related to default and remedies are beyond the scope of this checklist.

Damage and Destruction

Similarly, issues related to damage and destruction are beyond the scope of this checklist.

Insurance; Liability and Indemnification

•  Insurance. Require the carrier to keep appropriate amounts of insurance for (i) liability arising out of the carrier’s operations and activities on the property, (ii) property damage covering all of the carrier’s improvements and equipment, and (iii) workers’ compensation.
• Limitation on Landlord’s Liability.
  1. Carrier to Waive Claims for Damage to its Property. The carrier should all waive claims for damage to its property, even if caused by the landlord’s negligence. The risk of loss should be covered by insurance maintained by the carrier.
     • Waiver of Subrogation. The carrier’s insurance company must waive its rights of subrogation. If not waived, the carrier’s insurance company can step into the shoes of the carrier and sue the landlord for property damage claims covered by the insurance company.
  2. Carrier must Waive Rights to Certain Damage Claims. The carrier should waive and landlord shall not be liable for consequential, incidental or special damages. These damage claims should be covered by insurance maintained by the carrier.
• Indemnification. The carrier should agree to indemnify, hold harmless and defend landlord (and its agents, employees, representatives, and contractors) from and against any and all claims related to any act, omission, or neglect of carrier (and its agents, employees, representatives, and contractors) related to carrier’s use of or activities on or about the site or operation of the facility (including, without limitation, any claims related to radio or electromagnetic fields, radiation, or emissions created by the facility). The indemnification provisions should survive the termination, cancellation, or expiration of the lease.

Prevailing Party Attorneys’ Fees

Landlords should add an attorneys’ fee provision. Carrier forms do not include an attorneys’ fee provision for good reason. Without an attorneys’ fee provision, the cost for a landlord to contest a carrier default will often exceed the landlord’s potential recovery, which will result in most landlords not pursuing claims in court, a clear benefit to the carrier.

Lien-Free Completion of All Work

Carrier should be obligated to pay, when due, all claims for labor or materials furnished the carrier’s behalf and to defend the landlord and its property from and against any such claims. Carrier should provide the landlord not less than 10 days written notice prior to the commencement of any work in, on or about the premises, and landlord shall have the right to post notices of non-responsibility.

Late Charge and Interest on Past-Due Amounts

Provisions for late charges and interest on past amounts should be added to the lease.

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.

MindJet, the leading mind mapping software company, features Rick Angel as a MindJet Success Story for his innovative use of technology in the legal industry. Rick began using MindJet Mindmanager over 5 years ago as a tool to manage the firm’s transactions and to provide efficiencies for his clients. Mind mapping has been instrumental in the firm’s efforts to improve client services and decrease client costs.

Landlords often require a personal or corporate lease guarantee, a separate document executed simultaneously with the lease, which makes the guarantor liable for the tenant’s defaults. The landlord and guarantor have conflicting interests regarding the desired scope of the guarantee. Landlords want an unconditional and unlimited guarantee, holding the guarantor liable for all of the tenant’s defaults. Guarantors, on the other hand, want a conditional, less sweeping guarantee. Following is a discussion of bottom-line issues as well a a checklist with points to consider when negotiating a limited guarantee.

Set a Maximum Dollar Cap

The parties can set a maximum dollar cap on the guarantor’s liability. The amount of the cap generally bears some relationship to the landlord’s potential losses and the tenant’s creditworthiness.

Decrease Dollar Cap Over Time.  If the tenant does not default for a period of time, the landlord’s risk presumably decreases, and guarantors argue that in this case the maximum liability should decrease over time. For example, if the guarantor’s maximum liability is set at $500,000 for a 10-year lease, the parties can agree that the guarantor’s maximum liability will decrease by one-tenth ($50,000) with the passage of each default-free year.

Set a Formula-Based Liability Cap

Another option is to limit a guarantor’s liability by setting a cap based on a formula that will cover the landlord’s likely losses in the event of a tenant default. Generally, the formula includes lost rent, the amount of the unamortized tenant improvement allowance and brokerage fees, costs to restore the premises to the condition required under the lease, and attorneys’ fees and costs incurred in evicting the tenant. If, for example, the landlord estimates a maximum of 12 months as the time required to lease the premises following the termination of the tenant’s lease, the guarantor’s maximum liability could be set by adding:

• twelve months rent and common area expenses,
• unamortized tenant improvement allowance and brokerage commissions, and
• costs to restore the premises to the condition required under the lease.

Good Guy Liability

There are variations of the Good Guy Guarantee, but generally the guarantor will be released from liability under the guarantee if (a) the guarantor provides advance notice of tenant’s vacation of the premises (e.g., three months, which will allow the landlord time to market the premises), (b) the premises are delivered to landlord in the condition required under the lease, and (c) the tenant is not in monetary default at the time of the guarantor’s notice or the date on which the tenant vacates the premises.

A Good Guy Guarantee does not cover all of the landlord’s potential losses. Therefore, it is often used in conjunction with a dollar or formula-based cap on the guarantor’s liability. In this scenario, the guarantor will be liable for the capped amount and rent from the date of tenant’s monetary default until the date on which the tenant turns over possession of the premises to the landlord in the condition required under the Lease.

A Good Guy Guarantee creates an incentive for the guarantor to be a good person and make sure the tenant vacates the premises in the condition required under the lease prior to monetary default.

Bad Acts Liability

Under a “Bad Acts Guarantee,” the guarantor is liable for so called “bad acts” such as hazardous substance contamination, grossly negligent or intentional damage to the premises, fraud, or misappropriation of tenant funds by the guarantor. As with a Good Guy Guarantee, a Bad Acts Guarantee is often used in conjunction with a dollar or formula-based cap on the guarantor’s liability and/or a Good Guy Guarantee.

Attorneys’ Fees, Costs of Collection

Attorneys’ fees and costs of collection incurred in pursuing recovery from the guarantor should not be credited against caps on guarantor’s liability. If this were not the case, a landlord could find itself spending more on attorneys’ fees and collection costs than the guarantor is obligated to pay, giving the guarantor a perverse incentive to litigate rather than pay under the guarantee.

Guarantee Termination, Tenant’s Benchmarks

A guarantee (or certain liabilities thereunder) can also terminate with the passage of time or if tenant hits a financial benchmark. Landlords want a guarantee because they are not confident that the tenant has the financial wherewithal to support the monetary obligations under the lease. If the tenant does not default under the lease or if the tenant’s financial situation changes for the positive, there may no longer be a strong rationale for requiring a guarantee.

Guarantee Termination at a Point in Time. Under this approach, if the tenant has not defaulted after a predetermined period of time, the guarantee terminates. For example, the parties can agree that the guarantee will terminate after the third year if the tenant has not defaulted under the lease.

Predetermined Financial Benchmarks. Certain predetermined financial benchmarks can be negotiated which, if met, will terminate the guarantee. Examples of benchmarks are:

• an agreed-upon net worth of the tenant,
• an agreed-upon level of tenant’s gross sales, or
• any other financial target the parties agree upon.

Basic Framework

While this article provides a basic framework for negotiations between landlords and guarantors, there are many other financial considerations and legal nuances that are beyond the scope of this discussion. Some of them are financial. Examples include the (a) application of the security deposit to reduce the guarantor’s liability, (b) joint and several liability – and potential limitations on such liability, and (c) the release and substitution of guarantors, which may arise upon an assignment of the lease or the removal and replacement of partners. Other considerations are inherent legal issues, such as defenses against enforcement, subrogation, bankruptcy, and local law issues. These considerations should be taken into account by both parties before entering into any guarantee.

LEASE GUARANTEE CHECKLIST:

1. The guarantee can be (i) limited, or (ii) unlimited.

2.  If the guarantee is limited, select one, two or all three of the following to include in the guarantee:

a.   Cap guarantee (choose one)

i.   Dollar cap.  Dollar cap can decrease over time if tenant does not default.

ii.  Formula-based cap.

b.   Good Guy Guarantee

c.   Bad Acts Guarantee

3.  Terminate a limited or unlimited guarantee, or portions thereof, if tenant (i) does not default for a specified period of time, or (ii) reaches financial benchmarks.

4.   Attorney’s fees and costs incurred in pursuing the guarantor should not credited against or subject to limitations on guarantor’s liability.

If you have any questions or comments, email Rick.

Disclaimer: This article is provided by Angel Law Offices for general education purposes only.  The information should not be relied on as legal advice, nor does it serve to create an attorney-client relationship. Laws vary from one state to another. For legal advice on a specific matter, consult an attorney.