MEbiz Real Estate Insider – Avoid Common Traps of Commercial Subleases

Charlie Miller

By Charlie Miller, real estate attorney

If you are a subtenant, many practical questions exist such as who will change the light bulbs, who will plow the driveway, and who is in charge if the HVAC doesn’t work or if there are other problems in the subleased premises?

These important questions underscore the need for the subtenant to carefully review the “prime lease” and determine two things:

1. Which of the provisions in the prime lease are incorporated by reference in the sublease and
2. Whether the subtenant has any leverage against the prime landlord or only against the sub-landlord.

A sublease does not change the original landlord-tenant relationship in the prime lease. The subtenant does not have “privity of contract” with the prime landlord. The subtenant may have possession of the subleased premises, but unless there is a specific agreement with the prime landlord consenting to and recognizing the sublease, the prime landlord will not have responsibilities to the subtenant.

The primary benefit of a sublease is that the subtenant is likely able to lease the subleased space at a lower rental rate and for a shorter period of time then the subtenant would otherwise be able to obtain in the open market, given that the sublandlord no longer has use for the space and is contractually committed to the space for a period of time. The sublandlord is endeavoring to mitigate its financial exposure by subleasing all or a portion of its space.

There are several issues for the subtenant to consider:

• Does the sublandlord have the right to sublease the space or is the subtenancy subject to the prime landlord’s approval?

• Does the prime landlord have a right to “recapture” the space thus thwarting the sublease?

• To whom is the subtenant obligated to pay rent?

• If the subtenant pays its rent but the sublandlord does not pay its rent to the prime landlord, what protections does the subtenant have?

• Is the sublandlord responsible for any tenant fit up work or are the subleased premises delivered to the subtenant in its “as is” condition?

• Is the subtenant’s use of the subleased premises consistent with any use restrictions set forth in the prime lease?

• Who will be responsible for the subtenant’s quiet and peaceful enjoyment and use of the subleased premises?

• Is the subtenant permitted to make any alterations or additions to the subleased premises?

• Are there provisions requiring the sublandlord to cooperate with the subtenant to ensure that the prime landlord provides services required in the prime lease?

What to Include in a Consent and Recognition Agreement

Because of these and other questions, we strongly urge each subtenant and sublandlord whom we are representing to obtain a consent and recognition agreement from the prime landlord. Although this does not substitute for a thorough reading of the prime lease to determine what the obligations of the prime landlord are (and who in fact is responsible for changing the light bulbs and plowing the snow), it assures that the prime landlord will consent to and recognize the terms and conditions of the sublease, a copy of which should be attached to and incorporated in the consent and recognition agreement. The subtenant should also require the prime landlord to send the subtenant copies of any notices to the sublandlord including but not limited to, notices of default at the same time it sends the same to the sublandlord. Conversely, the subtenant should agree to send to the prime landlord, any notices, including but not limited to, notices of default at the same time it sends the same to the sublandlord.

There should also be a provision in the consent and recognition agreement stating that if the prime lease is terminated, for any reason other than condemnation, fire or casualty, the prime landlord will agree to perform for the benefit of the subtenant all of the prime landlord’s obligations under the prime lease to the subleased premises. In addition, the prime landlord should agree that as long as the subtenant is not in default of the sublease, a default by the sublandlord will not constitute a default by the subtenant under the sublease. In the event that the sublandlord’s leasehold interest under the prime lease is terminated, the subtenant should nevertheless have the right to occupy the subleased premises for the remainder of the sublease term.

To protect both the prime landlord’s and subtenant’s rights, there should be a provision in the consent and recognition agreement stating that although the subtenant shall initially pay all rental payments under the sublease to the sublandlord, if the master landlord notifies the subtenant otherwise, the sublandlord acknowledges that all rental payments shall be paid to the prime landlord in accordance with the prime landlord’s instructions.

Although a sublease can be a useful instrument for both the subtenant and the sublandlord, due diligence and sophisticated drafting is required to protect each party’s legitimate interests.

For more information, contact Charlie Miller, Real Estate Law Practice Group Member at Bernstein Shur.