Friday, November 25, 2016

Real Estate & Related Terms Explained: Personal Guarantee

Let’s say you are an aspiring entrepreneur and you have an idea for a small business. You work on your business plan, get approved for some financing at the bank and as everything looks promising, you are ready to start looking for commercial space. After your commercial realtor finds you the perfect space, you negotiate a deal with agreeable terms but one issue has come up that you didn’t foresee – a personal guarantee.  Today we are going to discuss personal guarantees.

What is a Personal Guarantee/Indemnity?

A personal guarantee (also often referred to as an indemnity), is really exactly what it sounds like – an unsecured written promise from an individual to repay any obligations of a business. So in the above case, should your business not go as planned and you decide to close down, you will be personally liable for the lease obligation remaining. When we say the guarantee is unsecured, we mean that your guarantee is not tied to a specific asset (ie your home) but in the event of default the landlord could go after any of your assets to settle the debts.

Why Would a Landlord Want a Personal Guarantee?

A personal guarantee is essentially an extra level of security for the Landlord. These are especially prevalent and common when doing leases with small businesses. Small businesses generally have less in the way of assets and therefore the financial health and creditworthiness is tied to the owner’s personal finances.

Take the example of a new startup business with zero in assets and the landlord who is agreeing to renovate the space on the behalf of the tenant for their needs. There is high risk of failure in this situation, and as such it is prudent for the landlord to request a personal guarantee. It should also be noted that in the above example, when the tenant was approved for financing from the bank, this would’ve come with personal guarantees at the bank without a doubt!

Once a business is established with assets and a history of profits, the needs for a personal guarantee is lessened. At that point, a landlord and likely the lender as well will look to the financial health and creditworthiness of the corporation. A personal guarantee is also less necessary in certain other situations, like when a tenant is renovating their own space or if the term is short enough to not have it worthwhile.

What Else Should I Know About Personal Guarantees?

The issue of personal guarantees is a term that should be discussed as part of an offer to lease. That way there are no surprises when the lease draft comes out. A personal guarantee can also be offered by a third party. Take the example of a young professional with limited assets or credit history and their parent agreeing to personally guarantee their lease. Lastly, a personal guarantee can be negotiated for a period of time (ie say you signed a 10 year lease, but only agreed to a personal guarantee for the first 5 years).

Make sure if a personal guarantee is applicable to your lease deal that your commercial realtor negotiates the terms on your behalf. And also make sure your lawyer signs off on the clause or related indemnity agreement in your lease. In the (hopefully unlikely) event that it becomes an issue, you’ll be glad you did.

Monday, November 7, 2016

Real Estate & Related Terms Explained: Sublet

You may have heard the term sublet or sublease before, as in “my friend is subletting their space”.  But do you know what that means?  This is an important topic as a Tenant or Landlord in commercial leasing and one that is rarely understood properly, until the situation arises…

What Exactly Is a Sublet?
A sublet occurs when a Tenant no longer needs their space or it no longer suits their needs, but still is responsible for the remainder of the term of the lease they signed. So, instead of letting the space sit dark while continuing to pay, they sublet the space to another Tenant. When some sort of arrangement is agreed to, a sublease agreement is signed by both parties.

How Does a Sublet Work?
After a sublease is signed, the sub-tenant starts to pay rent to the sub-landlord. The Tenant in turn continues to pay rent to the Landlord. Even though the sub-tenant is now occupying the space, the original Tenant is responsible for all the terms under the original lease.

What Else Should I Know About Subletting?
If a Tenant wants to sublet their space, they require a Landlord’s written approval. Landlord’s are not allowed to unreasonably refuse a request for a sublet. Usually your lease agreement will speak to the ability to sublet and any mechanisms that apply. Should you have any issues with subletting, contact your lawyer.

From a sub-tenant perspective, sometimes subleasing space comes with risk, as it doesn’t come with any renewal options. This can put you in a bind when your term runs out. Therefore, when we have strong Tenants considering a sublet space, often times the deal goes back to the Landlord for them to deal with directly (instead of on a sublet basis) on the space so that proper terms can be negotiated for the tenant and then a termination is negotiated between the Landlord and the existing Tenant.

With careful thought and planning, sublets can be pulled off without a hitch. Make sure to hire an experienced commercial realtor to guide you through the process towards a smooth transaction.