Office Tenants: Don't Sign That New Lease Before Negotiating Self-Help Rights

In this article, you'll learn:

• Why a Self-Help Clause is crucial for tenants amid landlord defaults.
• Current commercial real estate challenges and property devaluations.
• How a Self-Help Clause helps tenants manage maintenance if landlords fail.
• Tips for negotiating this clause and the potential pushback from landlords.

Extraordinary times call for extraordinary measures.

With landlords defaulting left and right, commercial tenants are taking on more substantial risk with each leasing transaction. Rather than have the peace of mind that landlords can carry out the promises they make, tenants are dealing with an unpleasant reality that their finances are at stake if they get involved with a landlord who goes belly-up.

And with such big risk at stake, you have to bring out the big guns. Enter: The Self-Help Clause. The landlord- hated, tenant representative-favorite term is a must-have in this new leasing environment characterized by post Office Apocalyptic economic uncertainty.

It just may be the best way to ensure that you’re protected regardless of your landlord’s status. So let’s talk about why it’s so necessary and how it will help you dodge any fallout from a prospective landlord default.

Why is a Self-Help Clause Necessary?

Distress has taken over the commercial real estate industry. Three years following the initial closures, offices visits have plateaued at around 50% what they were pre-pandemic. As of May 2023, there is $63.7 billion entangled in distressed properties, according to GlobeSt.

And unfortunately, as the country just hit a new high for office vacancy rates, the wasted space dilemma is projected to worsen in the next decade. BisNow predicted that by 2030 there will be over 1 billion square feet of vacant office space in the US.

Because the trouble for landlords is that even if companies are signing leases, they’re a lot smaller square footage than what they used to be. Over half of massive global companies are planning at least 10-20% reductions in the size of their portfolios.

As a result, the wildly oversaturated market is driving down property valuations to a fraction of what they were pre-pandemic. So the ROI for office space is not what it used to be. Major buildings empty sitting on the market for months are only getting tenant interest alongside extreme discounts.

For example, in San Francisco the 286K SF tower at 350 California Street, (which had been on the market since 2020) sold for a 75% discount. The original asking price of $250 million was downgraded to just $60 million.

All said and done, landlords have taken hit after hit. So, it’s not a surprise that the time has come for many to hand back the keys.

What is even more troubling is the sheer breadth of landlords defaulting on their loans. For instance, Brookfield Management recently defaulted on over $784 million in debt for two major Los Angeles towers. But they’re not alone. And when buildings in CBDs are being offloaded only with 75% discounts, more trouble is coming.

Avoiding Disruptions in Service

So now we set the scene, we can understand how dangerous things have gotten for prospective tenants.

In fact, it’s been estimated that there’s a one in three chance your landlord can’t pay their bills. And when the numbers are that low, how can you take that gamble?

You need to pre-implement safeguards in any new leases before disaster strikes and you’re dealing with a landlord who can’t support their responsibilities to tenants.

The truth of the matter is that if your landlord defaults and you don’t have safeguards, you will most assuredly be dealing with disruptions in service, which can range from inconvenient to making your building downright uninhabitable.

Because, once the building is in receivership, the receiver’s first responsibility is to pay the mortgage. All other bills are secondary. Therefore, you can expect a drop in services in a building that is in receivership as existing tenants needs’ fall to the bottom of the totem pole.

The Self Help Clause

The self-help clause in commercial real estate is a provision that grants tenants the authority to take action and address issues or problems with the leased property themselves. It allows tenants to perform necessary repairs, maintenance, or essential services at the landlord's expense when the landlord fails to fulfill their responsibilities. This clause provides tenants with the ability to protect their interests and ensure the uninterrupted provision of crucial services in case the landlord defaults or neglects their duties.

For example, if the building is in receivership, tenants can expect that the following:

• Delayed or inadequate repairs and maintenance of the leased property
• Inefficient or neglected building management and operations
• Poor response time to service requests
• Reduced or inadequate security measures
• Lack of proper cleaning and maintenance of common areas
• Failure to address health and safety issues promptly
• Insufficient HVAC maintenance, leading to uncomfortable working conditions
• Inadequate pest control and maintenance of landscaping
• Interruption or failure of essential services such as electricity, water, or internet connectivity
• Potential financial burden on tenants for additional expenses related to property upkeep and maintenance without reimbursement from the landlord.

The Right of Offset

So the solution which landlord’s loathe, is for tenants to have the right of offset which they can opt to take over certain services and deduct the reasonable cost from such services from the rent they owe.

Once this is baked in to the lease, this will protect you the corporate tenant even when a receiver steps in. The receiver must abide by the terms of the lease.

However, without this, you have no legal leg to stand on to deduct such expenses from the lease. So you may end up paying for additional office cleaning even though you still have to pay your full rent.

Expect Some Pushback

Understand that landlords hate this self-help clause because they’re no longer in control.

They may feel that it encroaches upon their responsibilities and undermines their authority as property owners. Additionally, landlords may be concerned about the potential for tenant misuse or abuse of the self-help provision, leading to disputes or legal complications. Therefore, to enact this it requires consistent due diligence on your behalf. Keep detailed records of all lease-related documents, including the original lease agreement, amendments, rent receipts, and any correspondence with the landlord. These records can provide valuable evidence to support your rights as a tenant in the event of a landlord default.

But that’s only if you get them to already agree to the clause in negotiation before the lease is executed.

To give you such self help clauses. In normal market conditions, you can experience significant pushback from landlords or a flat out no. However, if you’re a big fish with a lot of corporate mojo, taking significant space, this is something that your true tenant rep broker should insist upon.

Now, we are in extraordinary times. Tenants certainly have the upper hand in negotiations. That said, a lot will depend upon the value of your tenancy and the landlord’s overall picture. Because tenants should understand that between self-help rights like the right of offset, and the SNDA (which is also an advised must-have in new leases) the landlord can feel that they are cut out of the deal as the tenant assumes agreements with the bank or lender. So, they must see the deal worthy of forfeiting some degree of authority. This means that the self-help clause will be contingent on:

• The size of your company
• The size of the deal
• How much the landlord desires your tenancy
• How long your tenant relationship will be, etc.

That said, with a true tenant representative working for your interests, nothing is impossible. And having such a rep that has a sole fiduciary to getting tenants the best deal dramatically raises the chance that favorable lease terms like the right of offset appear in your lease

Safeguard Your Tenancy in an Unstable Leasing Landscape

Self-help clauses are now indispensable in securing your rights as a tenant amidst the increasing risk of landlord defaults. As the office market evolves, it's crucial for tenants to stay informed and conduct thorough due diligence. Subscribe to our blog for exclusive insights and expert advice, as our True Tenant Reps™ prioritize your interests and empower you to navigate the changing world of commercial real estate.