NEW YORK OFFICE LEASING

AUG 2021|LAST UPDATED

 

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Renting an Office in New York

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OFFICE LEASING GUIDELINES

 
 

OFFICE TERMS

Lease Term

Generally, a lease can be of any length. Five to ten years is most common. Three years is common for small transactions, especially when the tenant requires minimal renovation. Large transactions can be for 15 years or more, especially when a tenant requires substantial fit-out (build-out). Tenants with long-term leases often protect themselves with expansion, extension, and even contraction rights in the lease documentation.

Renewals

An option to extend or renew may be negotiable. A renewal option usually provides for a revised base rent, such as 95% of fair market rent. Most leases specify how to resolve disagreements as to market rents.

Escalation

Also called bumps or rent escalations. Parties often agree to a base rent increase annually or at specified future dates.


OCCUPANCY COSTS

Gross Rent

The tenant normally pays rent on a gross basis (pays gross rent). Gross rent includes a tenant’s proportionate share of base year operating costs (common area utilities and cleaning, management fees, etc.), real estate taxes and property insurance. The tenant pays its proportionate share of any increases in operating costs and real estate taxes each year. Gross rent in many US cities includes tenant's electricity, and is then called full service gross ("FSG") rent.

When a tenant pays gross rent, the landlord pays the base year operating costs of the building. The tenant pays its proportionate share of increases in operating costs for subsequent years, sometimes with a negotiated maximum, or cap. Common methods that landlords use to recoup operating cost increases are:

Direct Operating:

The tenant pays a proportionate share of operating cost increases. Operating costs are normally defined in the lease, and normally exclude the cost of amortized capital improvements and building management salaries. The landlord normally estimates the operating costs for the ensuing year and averages such costs over a twelve-month period. At the end of each year, the landlord provides an accounting of the actual costs. The landlord credits the tenant for any overages, or invoices the tenant for any underpayments. Tenants with leases that provide for direct operating increases should obtain the right to audit the landlord’s financial records.

Consumer Price Index (CPI):

The tenant’s rent adjusts for inflation based on a consumer price index, typically a local index published by the U.S. Department of Labor, Bureau of Labor Statistics.

Fixed Increases: In some cases, the landlord pays all operating cost increases, and the tenant pays a fixed percentage increase in base rent, typically 2–3.5% per year.

Net Rent

Occasionally, the tenant pays rent on a net basis, also known as triple net rent. Net rent excludes operating costs, real estate taxes, and property insurance. The landlord bills these costs to the tenant in addition to the net rent. Occupiers of single tenant office buildings normally pay rent on a net basis.

When a tenant pays net rent, then the tenant pays its pro-rata share of the full operating costs.

Rent Free

Landlords in many markets give free rent as an incentive. Free rent can be given at the start of the lease or spread over the lease term.

Management Fee

Payable monthly in advance and based on the leased area. Management charges generally include air conditioning, building security, lift maintenance and common area cleaning (Subject to revision by management company). The fee is quoted on per square foot per month and is non-negotiable and may be revised from time to time. A typical service charge for a Grade A building is HKD 6–15 per square foot per month.

Security Deposit and Guarantees

The tenant normally provides security either as a cash deposit or letter of credit. Tenants often negotiate with the landlord to keep the cash deposit in an escrow account.

Interest on the cash security deposit may accrue to the landlord or to the tenant, as negotiated. Typically, interest does not accrue to the tenant in small leases.

The amount of the security is negotiable, and depends upon the landlord’s assessment of tenant’s creditworthiness, the amount of the landlord’s outlay for tenant improvements, free rent, commissions, local market practices, etc. A strong creditworthy tenant may pay 0–2 months’ rent as security. A startup company may pay 6–12 months’ rent or more. Parties often agree to a burn-down, which is a reduction over time of the amount of security the landlord holds, if the tenant fulfils certain obligations of its lease.

Taxes

Gross Rent:

The landlord pays base year real estate taxes (property taxes), and the tenant pays its proportionate share of tax increases in subsequent years. The base year is normally the fiscal or calendar year closest to the first year of the lease term or the initial twelve months of the lease term. In most cases, the landlord provides an estimate of the real estate taxes for the ensuing year and averages such costs over a 12-month period. At the end of each year, the landlord provides an accounting of the actual costs and either credits the tenant for any overages or invoices the tenant for any underpayments.

Net Rent:

The tenant pays its full pro-rata share of the real estate taxes. Neither value added tax (VAT) nor Goods and Services Tax (GST) applies in the US.

Utilities

The tenant generally pays for electricity used in the premises, in one of the following ways:

Direct Meter:

The tenant pays the utility company directly, based on an electric meter.

Submeter:

The landlord buys electricity from the utility company and installs a meter to measure the tenant’s usage. The tenant pays the landlord based on the meter, sometimes with a negotiable mark-up for the landlord.

Per Square Foot Leased:

The tenant pays dollar amount per rentable square foot, in addition to the base rent. The charge for electricity is sometimes called the electric rental inclusion factor (ERIF), which may be negotiable and may be subject to inspection of usage by an electrical engineer. The ERIF may be subject to future increases if electric rates charged to the landlord increases or the tenant’s usage increases. Charges for above-standard electricity use, such as for data center space or for after hours HVAC use, may be billed separately. In 2012, a typical ERIF for normal office use ranged from USD 2.75–3.50 per square foot.

Included in the Rent: Electricity is included when the tenant pays rent on a "full service gross" basis.

 

LEASE MECHANISMS

Option to Renew

An option to extend or renew may be negotiable. A renewal option usually provides for a revised base rent, such as 95% of fair market rent. Most leases specify how to resolve disagreements as to market rents.

Option to Expand & Right of First Refusal

An option to expand or a right of first refusal may be negotiable, especially for large tenants. A right of first refusal gives the tenant the right to secure additional space that may come available during the term of the lease before it is offered to a third party.

Right to Sublet

Subletting (subleasing) is the most common way for a tenant to dispose of unneeded space. Sublets have advantages and disadvantages when compared with direct leases

Conditions:

The master lease provides for conditions under which a tenant may sublet. Typically, the landlord agrees not to unreasonably withhold or delay consent and allows the tenant to choose its own broker to act as the sublease agent. The landlord usually retains the right to approve a subtenant, especially if the proposed subtenant is a company unrelated to the tenant. The lease may limit the number of subtenants that can occupy the space. The lease may exclude some or all of the following: specific types of businesses, existing tenants, and tenants that recently negotiated with the landlord directly. The landlord and the tenant negotiate as to which party will keep any profits over and above the original rental rate. The landlord and the tenant often agree to share any such profits based on an agreed formula, often on a 50–50 basis. Profits are normally calculated typically net of subleasing costs. Profits are rare except in strong markets.

Advantages:

Rent is generally lower than rent for direct space offered by the landlord. Sublets can often include furniture, telephone systems, and cabling at no extra cost.

Disadvantages:

Most sublets have fixed terms, i.e., the remaining term of the current tenant’s lease. However, some sublessors offer flexibility in the term, especially if they sublet a portion of the space they occupy, with the intention of occupying the sublet space in the future. Subleases are riskier than direct leases because the sublandlord (also called overtenant or sublessor) may default on rent payments, possibly giving the landlord the power to terminate the original lease and cancel the sublease. The master lease, i.e., the lease between the landlord and tenant, often allows the landlord to recapture the space prior to approving the sublease.

Termination or Break

The tenant has a right (option) to terminate (break) a lease only if stipulated in the lease. Termination options usually provide that if the tenant exercises its option to terminate, the tenant will reimburse the landlord unamortized costs, including fit-out, incentives, and fees, and sometimes pay additional financial penalties.

Reinstatement Provisions

Restoration of the premises is negotiable, and may be limited to specific items such as tenant-installed internal stairways or to non-standard build-out.

Signage and Naming of Building

Exterior signage may be negotiable. Naming the building may be negotiable, especially for large long-term tenants.


Laws & Practices

Laws

Except in Washington, DC, laws that affect leases generally provide limited protection to commercial tenants; therefore, tenants' rights must be addressed in the lease document. Incentives are negotiable. They may include free rent, tenant improvement (fit-out) allowance, moving allowance, assumption of tenant's rent obligation in its prior lease, allowance for furniture, fixtures, etc. A large tenant may negotiate for signage rights or the right to name a building.

Practices

Brokers and Agents:

Tenants typically engage a tenant representative broker to represent their interests in site selection and negotiations of a new real estate transaction and for most renewals. Landlords use in-house employees or outside brokerage firms to market their space and represent them in negotiations.

Dual Agency:

In some markets, large brokerage firms, like CBRE, may represent both the tenant and the landlord in a transaction, with different individual brokers or brokerage teams representing each party, and with proper disclosure. State real estate codes and laws usually stipulate the appropriate disclosure requirements.

 

Associated Cost

Fit-out Costs

Landlord Work:

Landlords may deliver new space in a raw or shell condition, generally with a main lobby area, finished restrooms on each floor, ceilings, air conditioning equipment, and sometimes interior partitions. Landlords sometimes build out small spaces speculatively, as “pre-builts,” newly painted, carpeted, and ready to occupy, although typically without furniture or telecom wiring.

Tenant Work:

For office installations over 10,000 sq. ft. and for smaller, specialized installations, the tenant usually hires the architect and contractors, with the landlord’s reasonable approval. Some landlords require pre-approved contractors and engineers. Landlords typically charge a fee to review design documents, but tenants can often negotiate exclusions or limitation of these charges, especially for a standard or for an initial installation. Landlords often contribute to the fit-out in some of the following ways:

Tenant Improvement Allowance:

Landlords can provide an allowance, typically expressed in USD per rentable square foot. Tenant improvement allowances are often usable for design fees, but generally not for furniture and fixtures. If actual costs exceed the amount of the allowance, the tenant pays the balance or the landlord pays for all or part, and amortizes the amount over the term of the lease at a predetermined interest rate. Workletter: For a small tenant, a landlord may offer a workletter, which is a written scope of work detailing the tenant improvements that the landlord will construct and pay for. Build-to-Suit: Many landlords will design and construct the premises to the specific needs of the tenant, especially for smaller installations.

Tenant Work Costs:

Fit-out costs for Class A buildings in major cities normally range from USD 80–160 per square foot, including design, engineering, construction, data cabling, furniture, and other move-related expenses. Construction costs and design fees are highest in New York, followed by Boston and San Francisco, slightly lower in Chicago and Washington, and still lower in southern cities like Atlanta and Miami. Suburban areas normally have lower construction costs than nearby urban centers.

Reinstatement

Restoration of the premises is negotiable, and may be limited to specific items such as tenant-installed internal stairways or to non-standard build-out.

The landlord's lawyer typically prepares a first draft of the lease and negotiates legal terms with the tenant's lawyer. Some large corporate users and government entities require the use of their standard lease document, and provide the first draft of the lease. Each party pays its own legal fees. Because leases in the U.S. can be complex, legal fees tend to be higher than elsewhere.

Standard (off-the-shelf) lease documents are rarely used. Landlords typically use their own lease documents. Large corporate tenants frequently request use of their own commercial office lease form, which often lengthens the review of the lease agreement between the parties and their lawyers.

Agency Fees

Methods of Calculation:

A brokerage commission can be (1) a fixed percent of the total rent payable; as is common throughout the US. (2) Based on a sliding scale with a higher rate paid on rent in the earlier years than on subsequent years, the method used in Manhattan. (3) Based on the area leased. In San Francisco, Chicago, Colorado, and Massachusetts, the commission calculation is based on the area leased, and typically ranges from USD 1.00–1.50 per square foot per year.

Payment Schedule:

The owner may pay the entire commission immediately after the lease is fully executed, or in instalments, such as 50% at lease execution and 50% at lease commencement.

Subleases:

Sublease commissions and formulas vary from market to market.


Space Planning

Efficiency

Load and loss factors depend upon floor size, amount of common areas within a building, floor configuration, and measurement method. Multi-tenanted floors may have higher loss or load factors than single-tenanted floors.

Load factors are generally in the 12–15% range. Manhattan load factors are at least 25% for full floor tenants, and are usually higher in newer buildings. In San Francisco, 12–15% is common, but buildings built prior to 1967 and after 2000 tend to have higher factors of 18–25%.

Building Classification

Class A:

High-quality buildings with high-quality finishes, state-of-the-art systems, and excellent accessibility. The very best buildings are sometimes called A+ buildings or trophy buildings.

Class B:

Average quality buildings with average rents. Building finishes are fair to good. Systems are adequate.

Class C:

Buildings of below-average quality and below-average rents.

 
 

NEW YORK PROPERTY nEWS