Standard commercial property lease terms explained
Understanding commercial property lease agreements
Looking for help understanding your commercial lease agreement? Renting commercial property is a big commitment – and the wording in contracts often doesn’t make things any easier.
Before you sign on the dotted line, it’s important to understand your lease terms, your rights as a tenant, and your landlord’s obligations in detail. A commercial lease is a legally binding contract and offers less government protection than a residential lease, so you’ll want to have a clear picture of what you can and cannot do.
To help you, we’ve put together a guide explaining some of the standard commercial property lease terms. Whether it’s your first time renting commercial property, or you already have some experience, this should give you the clarity you need to move forward.
Elements of a commercial property lease
A commercial lease gives you, the tenant or lessee, the right to use a piece of property for business or commercial activity, for a set period of time. Typically, your lease agreement will include details on the:
- Type of property
- Tenancy term
- Rent payable
- Type of business permitted on the premises
- Security and damage deposit
- Rules for sub-letting
- Provisions for terminating the tenancy
Importantly, it will also outline who’s responsible for making any leasehold improvements and covering the insurance.
Standard commercial property lease terms
As you work through these various elements, here are some of the common terms you’re likely to see.
Type of property
Legal description of premisesThis refers to how the property is identified in real estate legal transactions. It describes what’s being leased and often includes an address, a description of the boundaries and building and a plot or floor plan (though some of these may be included as appendices). It may also include descriptions of items inside the building, known as fixtures and chattels (fittings).
FixturesThese are pieces of property that are attached to the premise in such a way that moving or removing them would cause damage. Examples of fixtures include sinks, toilets, carpeting and built-in cabinets.
ChattelsThese are pieces of personal property that can be moved or removed more easily. Examples include desks, dishwashers, blinds, or curtains.
Tenancy term and renewals
This section outlines the length of your commercial lease agreement and can include:
Automatic renewalYour lease will continue indefinitely until either you or the landlord gives a termination notice (within the specified notice period). Depending on what you agreed, this renewal period can be weekly, monthly, or yearly.
Fixed end dateYour lease agreement will specify the exact day your tenancy ends. Your landlord cannot increase the rent or change any terms during this time unless they’ve specifically reserved the right to do so and you agree to the changes. You are required to stay for the full period of your lease, and you don’t have to give notice at the end. When the fixed period ends, you can renew the lease for another fixed term on the same conditions, or your tenancy can automatically roll into a periodic tenancy. If you continue occupying the premises without either of these agreements in place, the landlord can start the eviction process.
PeriodicIf your landlord is happy for you to stay on after your fixed term – and you don’t sign a new fixed-term lease – you’ll have periodic tenancy. This lease automatically renews weekly, monthly, or yearly until one of the parties terminates the lease by giving notice. In this agreement, your landlord can increase the rent, or change the terms of the lease, by providing proper notice.
Security of tenureWhen your lease ends and it’s ‘protected by security of tenure’ you have the right to renew your lease on the same terms as the previous lease, provided the landlord is unable to make any of the statutory grounds for refusal. This security helps with your business planning. If your lease agreement is ‘contracted out’ of security of tenure, however, your landlord can ask you to leave when your lease expires without giving any reason.
For commercial property, you’ll usually pay your rent in advance every quarter. However, commercial leases are more negotiable than residential ones so there may be some flexibility.
Base rent– This is the minimum amount of rent payable, as set out in the lease agreement. It’s a fixed amount that excludes percentage rents and other operating costs.
Percentage leaseMostly for retailers in shopping centres or malls, this agreement asks you to pay a base rent plus a percentage of your monthly or annual gross income. Because of this extra percentage, your base rent is often lower than on standard leases. You’ll need good negotiation skills here. You and your landlord will agree on the percentage and on a ‘breakpoint’, or the level of sales where the percentage lease kicks in. You’ll also agree to exclusions on the sales figure, such as when you sell items to employees of the store.
FRI leasesKnown as a Full Repairing and Insuring lease, you as the tenant will need to cover all costs of maintenance, repairs, and insurance. You can be insured directly or through the landlord, but all associated costs are your responsibility.
Net rent leasesMost commercial leases on the market are net leases, meaning tenants must pay a portion, if not all, of the additional costs. This includes utility bills, maintenance costs and property taxes. There are three types of net leases: single, double, and triple. In a single net lease, you’re responsible for rent and property taxes. In a double lease (the most common), you cover rent, property taxes and insurance premiums, while your landlord covers maintenance. And in a triple lease, all property costs fall to you.
Gross rent leaseYou’ll pay the base rent plus any specified expenses related to the premises. Your landlord will pay all the other expenses associated with operating and maintaining the property, such as insurance, utilities and property taxes. The opposite of this is a net lease.
Rent reviewIf you occupy the property for a good number of years, your landlord might insist on a rent review to bring the amount in line with current market levels. A review will take place at whatever intervals are agreed to in the lease, usually every three to five years. The rent review clause will outline when each review will take place, the method and procedure of review to be used, assumptions and exclusions when valuing the premises, and provisions for dealing with possible disputes.
It’s important to remember that the review is normally based on the condition of the premises when the lease was originally signed. If you’ve made any improvements to the premises since then, these won’t be taken into account. However, if you negotiated for the landlord to make any improvements, these could be included. Rent reviews are also ‘upwards only’, meaning the landlord can only increase the rent. If the market value has fallen, rent would stay the same, not decrease.
GuarantorIf you’re a relatively new company with little trading history, or operate in a high-risk industry, your landlord may ask that you guarantee the lease. In this case, you’ll appoint a guarantor or surety, which is a person that agrees to pay any losses (including missed rent) directly to the landlord should you be unable to.
Signing incentiveSometimes, a landlord might include an incentive or concession to encourage you to sign, such as a month’s free rent.
As with residential leases, you’ll need to pay a security deposit. It’s usually equal to one month’s rent but can be up to three months’ depending on the property and business type. If during the tenancy, you damage the property or fail to pay rent, the landlord will use this deposit to recover the money. At the end of the lease, you’ll receive the deposit back less any deductions for repairs and restoration.
Schedule of conditionTo assess whether any damage to the property was pre-existing or caused by you, your landlord will complete a schedule of condition inspection report at the start of the commercial lease. This report will contain a detailed description of the condition of the property, often including photographic evidence. At the end of your lease, your landlord will compare this report to the current state of the property to assess any damage. As a tenant, it’s worth making sure the report includes all existing damage properly, to ensure you won’t become liable for it.
If your commercial lease permits it, sub-letting lets you rent out all or part of the premises to a third party for the remainder of your rental term. The third party then takes on all the necessary responsibilities, though as the original tenant you’re still liable for the monthly rent and condition of the property. Be warned, it is a complicated process, and you’ll need to draft a commercial sublease agreement everyone agrees to. The sublease agreement often follows the same terms as the head lease, though not always.
Assigning a leaseA little different to subletting, this involves a complete transfer of the balance of the lease term to a third party. Assigning a lease also needs permission from the landlord, but if granted, you’ll vacate the premises and hand everything over. This doesn’t always mean a complete removal of your liability, however. If the new tenant defaults on the lease agreement or damages the property, the landlord may choose to hold you or the new tenant liable.
Terminating your lease
Hopefully, you’ll be able to see your fixed end date or automatic renewal lease through to the end. However, if for any reason you need to end your commercial lease early, there are a few options. Subletting and assigning the lease are two. If either isn’t possible, you’ll need to have a break clause.
This specifies that your lease can be ended early without anyone facing a penalty. You’ll need to give at least two months’ notice to activate it. If your agreement doesn’t contain a break clause, you’ll need to continue paying rent for the remainder of the tenancy.