Are You Paying Attention to Your Lease Renewal Option?

by | 13 July 2017

I’ve written in the past about specific clauses and definitions to pay attention to in your office lease. In this post, we will discuss another vital — yet frequently overlooked — clause: the lease renewal option. More specifically, we’ll dig into the notice period tied to the option.

I must preface though, that I am not a real estate attorney. I did reach out to my good friend, Dan Madrid, a partner with Fox Rothschild LLP’s real estate practice, while writing this to confirm my insights.

WHAT IS THE RENEWAL OPTION?

The renewal option gives a tenant the ability to renew its lease before the landlord has an opportunity to market the space and lease it to another tenant. More than anything, it protects the tenant’s right to remain in their space at a fixed or determinable rental rate. In my experience, the notice periods for renewal options tend to fall into six-, nine- or 12-month periods prior to the tenant’s lease expiration (in some cases, it can be up to 18 months prior).

More often than not, the tenant must provide formal written notice to their landlord of their intentions to renew rather than give verbal confirmation. I know of a tenant who gave their landlord verbal confirmation, only to find out that their contract required written confirmation — and the landlord leased their suite to another company.

WHY IS THE RENEWAL OPTION SO IMPORTANT?

Recently, I had a lightbulb moment about the significance of the lease renewal option. A client of mine had a renewal option in their lease and had to provide their landlord with written notice nine months prior to expiration in order to renew the lease.

This client’s rental rates were predetermined five years ago when they signed their original lease. This is important because during the past five years, rents in the building have risen dramatically and today are nearly 30% higher than the predetermined rates negotiated in the lease.

Fortunately, I urged my client to deliver their notice on time in accordance with the terms of the lease. If they had missed that notice period, their renewal rates would have been null and void, and the landlord could have demanded higher rental rates.

And that would have been the likely scenario. This landlord had successfully negotiated higher rates with other tenants in the building, which put them in a position of strength with a new rent benchmark.

My client would have been left between the proverbial rock and a hard place — deciding whether it’s better to increase their rent by 30% or scramble to find a new building.

WHAT HAPPENS IF I MISS MY RENEWAL OPPORTUNITY?

You might be wondering what the legal options are for a business stuck in a tough spot because they didn’t pay attention to their renewal option requirements. The laws vary by state, but in New Jersey, courts usually enforce the lease as written.

My friend Dan explained it this way: “Absent ambiguity, a court will interpret a lease (or any contract) based on its plain meaning. If a tenant fails to abide by the express terms of a lease, even in what may seem to be an immaterial manner, the tenant may lose what can be a very valuable right to an option to extend. A technical failure to comply could be something as simple as putting notice in an email (as opposed to in writing), being one or two days short or delivering the notice to the wrong address.”

It’s clear that when it comes to the enforcement of a lease, details matter — sometimes at the expense of fairness. In the case of my client, if they had failed to renew their lease by the deadline, the courts would most likely have enforced the terms of the lease and disallowed my client to renew at the predetermined (and below-market) rental rates.

Based on my research, there are some exceptions to the rule. A tenant’s failure to give timely notice might be excused if the tenant can establish fraud, accident, surprise or mistake — or where there are other special circumstances warranting a court to grant a tenant relief.

As Dan and I discussed, it is of course best to avoid this position in the first place because litigation over an option is typically a losing proposition.

HOW CAN I AVOID THE ISSUE?

If you read my Knowledge Leader posts, you know that I always advocate for tenants to have the right advisory team in place. That doesn’t just include a good real estate broker — it also includes a good real estate attorney. You should be speaking with these people often throughout the duration of your lease so you can plan accordingly.

So, the next time you think, “I’ve got plenty of time before my lease ends,” take another look because your next critical date might be much sooner than you think.

Based in Princeton, N.J., Vinny specializes in tenant and landlord representation for Colliers International, working directly with his clients in the acquisition and disposition of office space. For more commercial real estate insight and trends, follow Vinny on Twitter.