Potential Property Pitfalls at Lease Renewal Time

About to renew your lease? Avoid these pitfalls.

Security Deposit
If you are about to renew your lease, review this provision to protect what often is a large sum of money.  Focus on where the security deposit is held (for example, a segregated bank account would be better than granting the landlord the right to comingle the security deposit with other funds) and what occurs upon the sale of the property. Make sure that the landlord is not released from the obligation to return the security deposit until such time as the new owner acknowledges receipt of the security deposit. 

If your security deposit is a cash deposit, take steps to protect your investment if the landlord files bankruptcy or if the building is foreclosed upon by a lender. For example, one client provided a $100,000 security deposit and the landlord filed for bankruptcy protection.  A California bankruptcy court ruled that the tenant was an unsecured creditor, which meant at best it would receive pennies from the bankruptcy estate. The court also ruled that the lender that foreclosed upon the lease did not have to return the security deposit since the successor physically never had possession of the earnest money. 

The lease should provide that in the event of a bankruptcy or foreclosure any subsequent owner of the property will be required to recognize the deposit, regardless of possession of the funds.  A good alternative would be to consider using a letter of credit, which cannot be collected so long as there is no tenant default.  With a letter of credit, the risk of loss of a large sum of money is diminished in the event of the sale of the property.

Condition of Premises
If you are about to renew your lease, focus on maintenance and repair, particularly in areas where you have been spending more money than anticipated.  You may want to check if under the lease the landlord has met certain warranties and representations:  for example, in many leases, the landlord will represent that the roof, structure, HVAC, plumbing and electrical systems are in good working condition and repair, and that the premises are in compliance with applicable building code.  If so, make sure these warranties are still true.  

For example, a client was approaching a renewal deadline and was concerned about the physical condition of a 60,000 square foot industrial warehouse with some office space.  I suggested a professional inspection.  For a small cost, the inspector identified issues with the roof, the HVAC system, poor weatherproofing, potholes in the parking lot, and a crack in one of the floors.  Since these problems were brought to the attention of landlord before the lease was renewed, repairs were made a condition to my client exercising the renewal of the lease.  Thousands of dollars of repairs that otherwise would have been the responsibility of tenant were passed on to the landlord. 

Another client of mine learned this lesson the hard way.  Several months after renewal of a lease for an industrial property, the roof started leaking.  Since under the lease repair of the roof was the responsibility of the tenant, the cost to tenant in this case was over $50,000.

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