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Lease Strategies

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This LARG contains the following items:

Can We Keep This Just Between Ourselves? and the Lease Clause Critique: Excerpts From Five Contemporaneous Side Letters.

Number of Single Spaced Pages: 12



The Discrete Utility of the Side Letter


This LARG looks at contemporaneous side letters--those confidential letter agreements the parties sometimes sign at the same time they execute the lease (or sublease). This venerable and useful device allows landlords and tenants (or tenants and subtenants) to handle certain deal points outside of the lease. Assuming such agreements don't run afoul of disclosure requirements, they allow the parties to avoid third party scrutiny of matters that could scuttle the deal.

The first article touches on when side letters might be appropriate. The Lease Clause Critique features extensive excerpts from five disparate side letters covering, among other things, renovations, moving expenses, loans for computer gear, sublease key money, and "take over" agreements.

Can We Keep This Just Between Ourselves?

Imagine that protracted negotiations between a sophisticated landlord and tenant to lease office or retail space have finally come to a successful conclusion. The parties are huddled in the conference room waiting to sign a massive lease loaded with exhibits. After they sign and initial the lease documents, they pull out side letters to execute. Why side letters? If the voluminous lease was good enough to contain most of the deal, why wasn't it good enough to contain all of it?

In many cases, parties to a lease use side letters to document points they don't want third parties--like the landlord's lender--to see. Common topics reflected in side letters include:

  • lease concessions made by the landlord such as free rent or provision of extra services to the tenant, like after-hours HVAC and security services, extra parking rights, health club memberships, and special signage rights;
  • landlord obligations to pay specified moving expenses or other costs the tenant will incur when it moves into its new space;
  • landlord assumption or "take over" of all rental costs of the tenant"s former lease enabling the tenant to move into the landlord's new space;
  • in the case of a sublease, the requirement that a prospective subtenant pay "key money" to a tenant for the right to sublease that tenant's premises at rentals which are below market, and the tenant and subtenant don't want the landlord to know about the cash inducement; and
  • landlord obligations to finance or pay for installation of new equipment or renovations to the premises that are not customarily performed by the landlord as "building standard work" financed by the landlord"s lender.

Coming Out in the Wash

Of course, if a landlord and tenant execute a side letter to keep certain lease deal points from the lender, there may be a problem when it comes time for the tenant to execute estoppel letters or nondisturbance agreements. Normally, commercial leases obligate the tenant to execute estoppel letters for the lender's benefit. In addition, the tenant will probably want a nondisturbance agreement signed by the lender providing the tenant's possession of the premises won't be disturbed by the lender if the landlord defaults on the loan causing the lender to foreclose.

Estoppels and nondisturbance agreements often recite that there are no other amendments to the lease or other agreements affecting the premises except those specifically listed. If a side letter exists which modifies the lease and is not disclosed when the tenant executes an estoppel or nondisturbance, the tenant will certainly not be able to enforce it against the lender if it comes into possession due to the landlord's default on the loan.

Even so, tenants have been known not to disclose the existence of side letters to lenders in estoppels and nondisturbance agreements when they are only looking to the landlord--as opposed to the lender--to perform under the side letter.

Finally, the landlord may also have specific covenants in its loan documents requiring full disclosure of all amendments and side agreements when leases are submitted to the lender for approval.


End of Excerpt