Tenant Personal Guarantee

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When a tenant enters into a commercial real estate lease, there is often a request for the tenant to sign a personal guarantee. The Balance Small Business explains that, “Before a bank lends money to a startup business, they often require additional guarantees in case the loan can’t be paid off from the assets or cash flow of the business.”

This  means that the tenant is personally responsible for paying the debt. The landlord or franchisor can hold the person, not just the business, accountable by accessing personal assets or bank account. Before signing a personal guarantee, which is required in order for the personal guarantee to be enforced, definitely consult an attorney focusing on commercial real estate. Although the following tips are helpful, setting up a meeting to discuss your options can prove to be extremely beneficial before signing a personal guarantee and entering a lease.

Tip #1: When negotiating a lease, try to suggest a larger security deposit or share the entity financials. This makes the entity responsible – not the tenant personally. It is suggested that a security deposit be made with a letter of credit. This is a transferable asset and has value. This helps to protect against bankruptcy, as the letter of credit becomes part of the bankruptcy estate.

Tip #2: Remove a spouse if there is one. Should a problem arise, the spouse’s assets will not be attached to the tenant’s if the spouse is not part of the business. The landlord or franchisor will only have access to the entity. This can only be done on a go-forward basis, however. Removing the spouse probably won’t have an effect on a personal guarantee that is already signed.

Tip #3: Limit the time period. The tenant can sign a personal guarantee and require that it expire at a certain date. Landlords can require that the personal guarantee last for a certain amount of time (sometimes referred to as a “burn-off period”), a time that shows that the business are profitable, reliable and trustworthy. The landlord may just want to see a proven track record of success. This is a place where working with an attorney really benefits the tenant. Personal guarantees are common in commercial real estate. While this may be a new concept for you, attorneys are used to negotiating these terms and keeping your finances as safe as possible.

Tip #4: Limit the personal guarantee. When a tenant – along with a commercial real estate attorney – negotiates the lease, an amount can be set on the personal guarantee. This sets the maximum dollar amount that the tenant is personally liable for. You can limit the dollar amount if you sign a limited personal guarantee. This is often used when multiple business partners are signing the guarantees.

Personal guarantees are just that – personal. When a tenant enters into a lease, the attorney should take every precaution to protect the tenant. A personal guarantee is often a document that is separate from your building lease. Regardless, a good commercial real estate lawyer can help you make sense of it and negotiate better terms. Understand the effect that a personal guarantee could have on your lease, and most importantly, your life. Want to discuss how this affects you? Set up a no-obligation consultation today!

Disclaimer
 The transmission and receipt of information contained on this website does not constitute an attorney-client relationship. Persons should not act upon information found on this website without first seeking professional legal counsel.

Commercial Real Estate Leases: Changes Are Coming!

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As the end of 2019 approaches, there will be a few things in commercial real estate leases that will change in 2020 that you need to know about.

Short-term Lease

Lease accounting standards will be changing for private companies. Lease costs will be accounted for differently, which means short-term leases will be more popular than ever.

Currently, long-term leases (longer than 12 months), have a large amount of bookkeeping that is required with ASC 842. The shorter-term leases will affect their balance sheets, but in different ways.

Short-term commercial real estate leases are becoming more popular. Tenants appreciate these leases due to the benefits such as:

  • Flexible space
  • Co-working
  • Pop-ups
  • Shared space
  • Changing demands

Tenants will experience more flexibility, which gives landlords less certainty with budgeting and planning and their tenant mix.

If the landlord is using a discounted cash flow model, the short-term lease could cause him/her to change to a valuation model. There are a few factors that carry weight in the valuation model:

  • Higher expenses
  • Shorter leases
  • Lease commissions
  • Marketing costs
  • Change in vacancy rate
  • Rental premiums to offset expenses
  • Replacement building costs

Tenants may consider entering a short-term lease and reassessing annually. Reassessing can save him/her money if there’s a better economic leasing option available.

Landlords may provide incentives to tenants in order to agree on a long-term lease. This guarantees a fixed rental income for the Landlord each month for a longer period of time, as opposed to the short-term lease.

Short-term leases affect the tenant, landlord, and both parties in their capacity as a borrower. This shorter commercial real estate lease may affect a borrower’s access to credit. Initial direct costs and disclosures will be required on the balance sheet, instead of as a footnote. All lease types cover the possibility that the borrower may default. The good news is, for the most part, the rate of defaults has stayed low.

Recourse Loans

The borrower is personally liable for the loan due if using a recourse loan. Recourse loans “can help a lender recoup its investment if a borrower fails to pay the liability and the value of the underlying asset is not enough to cover it. A recourse loan lets the lender go after other assets of that debtor that were not used as loan collateral.”

For example, if a tenant stops paying rent, files bankruptcy and is eventually evicted, the landlord may have a lien on the tenant’s equipment. This may allow the landlord to sell the equipment in order to recoup the unpaid rent- of course, it depends on what the lease says, it will ultimately control. With recourse loans, the landlord cannot exercise that lien.

Recourse loans and landlord liens greatly reduce bankruptcy filings. Borrowers often use bankruptcy to avoid receivership and stop foreclosures. This is a pain to lenders and can take years to resolve.

Non-recourse Carveout Guarantees

With short-term leases, there are also non-recourse carveout guarantees.  This means that the guarantor is either partially or not liable for repayment of the principal and interest on the loan. It’s important to have a commercial real estate attorney that will negotiate the wording in this area. Non-recourse carveout guarantees are imperative. It ranks right up there with rate, proceeds and terms.

Texas has a quick, non-judicial process when dealing with foreclosures.

Learn more about how a short-term lease can benefit you by filling out the contact form at the bottom of the page today!

Disclaimer
 The transmission and receipt of information contained on this website does not constitute an attorney-client relationship. Persons should not act upon information found on this website without first seeking professional legal counsel.