There are a number of reasons a tenant may find themselves wanting to terminate their commercial lease. Perhaps organizational operations are expanding and a larger manufacturing footprint is preferred, or changes in staffing signal it’s time for a smaller office space.
Regardless of the reasoning, how can a tenant navigate a commercial lease that is not expiring soon and is no longer fulfilling their needs?
While the legal nature of a commercial lease contract can feel binding, many tenants are unaware that they may have the ability to negotiate the early termination of their commercial lease, if an option does not contractually exist.
Any option to terminate is often accompanied by penalties and fees, although there are exceptions. Sometimes these additional costs are negotiated in an early termination lease clause, but in the absence of pre-existing early termination rights, tenants can attempt to negotiate a “lease buyout.”
Read on to decide whether early termination of your lease is the best decision for you.
Can a Commercial Lease Be Terminated Early?
If your lease has an early termination right clause, there are typically penalties and fees associated with ending your lease early. Although the fees may not be ideal, this clause provides flexibility to address a number of instances in which you may consider early termination:
- Your business is expanding and needs more space. If your business is growing rapidly and the current space no longer suits your needs, it might be time to investigate your early termination options.
- You need less space due to downsizing. Instead of paying for excess space, services, and amenities you either no longer need or can’t afford, you may need to leave the lease.
- The landlord is failing to meet expectations. If your landlord has been negligent in upholding their lease obligations, you may be able to negotiate a deal to end the agreement early.
- You’re consolidating your portfolio through a merger or acquisition. In each of these scenarios, early termination may make sense.
The Consequences of Early Termination
Many commercial leases do not have pre-negotiated early termination rights. However, when lease termination clauses are negotiated, it’s common for the landlord to require the tenant to pay three to six months of rent obligation, plus unamortized lease up costs.
When a tenant signs a long-term lease, the landlord expects to recover their transaction costs (think: tenant improvements, free rent concessions, brokerage commissions), plus interest, over the entire term of the lease. If the tenant chooses to leave the lease early (as outlined in the clause), the tenant typically agrees to pay the remainder of those costs upon termination.
Tips for Negotiating an Early Termination Clause
Many commercial lease agreements do not include pre-negotiated early termination rights as an “exit strategy.” But, an early termination clause is important to consider as a tenant entering a long-term commercial lease.
Here are a few tips if you choose to negotiate an early lease termination clause during initial lease negotiations:
- Include your request for specific early termination rights within the initial Request for Proposal and Letter of Intent.
- Determine the minimum notice a tenant must give their landlord before terminating the lease (usually 90 to 180 days prior).
- Outline the landlord’s unamortized costs associated with early termination.
Can I Undergo Early Termination of a Lease Without Penalties?
Some commercial lease agreements, typically in retail centers, include clauses (negotiated as part of the lease transaction) that allow tenants to legally break the contract early without penalty. These clauses include:
- Bailout clause. Allow retail tenants to get out of the lease if your sales are low.
- Co-tenancy clause. Allows you to break your retail lease legally when an anchor tenant leaves, or when occupancy drops below a pre-set level.
Here are a few other instances in which a tenant could break a commercial lease without penalty:
- If your space is in a popular area, your landlord may agree to early termination. There may be potential to lease the space again quickly at a higher rate.
- Your landlord breached an important lease provision.
- Your company has claimed bankruptcy.
- You and your landlord agree to a deed of surrender that explicitly releases you from all lease obligations.
- You assign the lease to a related entity with a permitted transfer.
How to Write a Commercial Lease Termination Letter
If you decide to pursue the early termination of your lease, you must notify your landlord via an early termination letter according to the terms of the Termination Option in your lease agreement.
A commercial lease termination letter typically includes the following information:
- Date of planned property vacancy.
- Date of key surrender.
- Request for inspection.
- New business address.
- Contact information for a business representative.
- Reasoning behind the early termination.
Although a commercial lease agreement is a legally binding contract, know that early termination is an option. Before entering your next long-term lease, be sure to negotiate your early termination rights, just in case.
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Editor’s note: This post was originally published in 2021, and has been updated and republished.