Is Subleasing a Good Idea? No, Because…

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Is subleasing a good idea? The answer, like most others in commercial real estate, is “it depends.” This question is not from the point of view of the existing tenant who is seeking to transfer their lease rights/interests and possession of the premises to a 3rd party, known as the sublandlord/sublessor or assignor. Rather, it comes from the perspective of the 3rd party, known as a subtenant/sublessee or assignee. For tenants, sublease/assignment rights are one of the most important afforded to them in a commercial lease because they provide a means of “getting out of their lease” when it makes economic, strategic, or practical sense to do so. Tenants are not usually, truly released from their leasehold obligations but rather are able to rent the entire premises or a portion thereof to mitigate their monetary obligations. Therefore, subleasing is always a “good idea” for the tenant even if the situation necessitating it is not.

For the potential subtenant or assignee the situation is not as clear cut and a number of factors must be considered. Subleases can be a great option for some companies but can also be fraught with danger. Before deciding if subleasing makes sense it’s important to understand the pros and cons associated with this type of leasehold interest and the associated opportunities and liabilities.

Cons

No Tenant Improvement Allowance

Because many sublandlords are trying to lower their leasehold costs they are typically unwilling or unable to provide tenant improvement allowances (market or otherwise). As a result, subtenants must take the space “as-is” or pay for the cost of any improvements or changes to the premises. Depending on the remaining term and/or the subtenant’s own financial situation this may be undesirable or untenable.

Non-Market Deals

Subleases provide the opportunity for non-market deal terms that benefit subtenants such as below market rents and/or shorter (sub)lease terms; however, they can also exclude positive market terms such as rental abatement and tenant improvement allowances. There can be instances in which the economic value of typical, market terms for prime leases can exceed the savings offered by sublease options.

Landlord Approval Required

All subleases/assignments must be approved by the landlord. In most cases, the landlord’s approval “shall not be unreasonably withheld, conditioned, or delayed;” however, in other cases it may be withheld in the landlord’s sole discretion or conditioned so that finding a suitable subtenant or assignee is difficult. Furthermore, the timeframe within which the landlord must respond to a tenant’s request to sublease or assign their space can vary and for subtenants looking/needing to occupy quickly, delays could be costly and/or dire.

Landlord AND Sublandlord Approval Required

After the sublease or assignment has been agreed to by the landlord, all future requests on behalf of the subtenant are subject to the approval of both the landlord and sublandlord. This additional level of bureaucracy can result in minor inconveniences to real damages in cases of service interruptions, issues impacting the subtenant’s use of/access to the premises, etc.

Subject to Terms and Conditions of the Prime Lease

Sublease agreements are typically shorter/simpler than prime/commercial leases. This is because they are subordinate to the lease between the tenant/sublandlord and landlord; making many important terms and conditions non-negotiable. Subtenants are subject to the timeframes, remedies, etc. set forth in the prime lease and must rely on the sublandlord to advocate and make requests on their behalf.

Non-Transference of Rights

Many rights afforded to the sublandlord/tenant under the terms of the original lease do not transfer to the subtenant. It could be argued that rights such as renewal options or rights of first offer/refusal should not transfer to another party; however, the right to sub-sublet or assign the sublease is an important protection for subtenants or assignees especially depending on the length of the sublease term.

Sublandlord Default

The financial strength/situation of the sublandlord/assignor is an extremely important factor that subtenants must consider when determining whether to enter into a sublease agreement. Many requests to sublet/assign the lease result from financial hardships and/or mismanagement on behalf of the existing tenant. If the tenant/sublandlord defaults on their lease the subtenant is at risk of losing possession of the premises either by the landlord recapturing the space or requiring the subtenant pay the prevailing market rate for the property. Prospective subtenants should always request to see the sublandlord’s financials.

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