Investment in commercial property is becoming an increasingly valid option for investors in India. After you made an investment in commercial property comes the trickiest part that is leasing the property. However as they say, commercial property is a little more mysterious than residential investment, one must have a deep understanding of each aspect of leasing a commercial property right from finding a tenant to signing a lease. This article will take you through the key aspects of office lease transactions such as finding a tenant, types of agreements, legal costs associated with leasing and other relevant information.
- Finding a tenant -The first and foremost step in leasing a commercial property is finding a suitable tenant. Some investors try to find a tenant without using an agent which is good if you already know some reliable tenants. If not, finding and managing tenant can be very time consuming and expensive and some time you end up renting the property to sub-standard tenants. Working with a professional agent can save you the confusion of dealing with multiple agents, landlords and consultants. At the same time professional consultant have exposure to a lot of potential tenants including corporate tenants and multinational companies. Generally, large corporates and MNCs prefer to work with the IPCs (International Property Consultants) to lease the property. Sometime IPCs also have global mandate with these companies for their leasing requirements. The advantage of leasing to large corporate tenants and MNCs is that they are less fussy and oblige all the terms and conditions. They are also more likely to lease property for a long period of time and unlikely to default on the rents. Having said that, it is important to do your own research and one should always look at the financial condition, previous history and credit status of the tenant. If it is a listed company it’s a good idea to check the balance sheet and other financial ratio to determine if the company is in good financial condition.
- Negotiating on terms and conditions – It is advisable to pre-decide on certain key terms and condition before finalizing a deal. Few of the key transaction aspects in commercial lease transactions include lock in period, termination/exit clause, rent clause, Escalation, Sub-let or Assignment rights, Scalability / First right of refusal / Hard options etc. Beside there are various periodical outgoings applicable on commercial properties such as property taxes and maintenance charges, service tax and tax deduction at source (TDS). It is essential to clarify who will be paying the existing property taxes and maintenance charges and future increases thereon and any future government assessment. As a market practice, property taxes (both current and future increases) are usually paid by the landlord / developer and the building maintenance costs (both current and future increases) are borne by the tenant. Service Tax and TDS are applicable on rent and usually borne by the tenant.
- Signing an Agreement - After finalizing the tenant and decide on terms and condition one needs to sign the lease. In India, except Maharashtra, the typical lease term is 3+3+3 years with renewal options after the initial term. Rents are normally fixed per year or for three years and reviewed thereafter, at a frequency of every year or once every three years. The frequency and extent of rental reviews are usually fixed and pre-negotiated, including any renewal term of lease. In Maharashtra, usually a Leave and License Agreement is signed for a maximum tenure of five years, including renewal clauses. An Amenities / Services Agreement is often signed in conjunction with a Lease Agreement or a Leave and License Agreement and is co-existent and co-terminus with the agreement.
- Registering the lease - The lease agreement is required to register with authority by paying stamp duty and registration cost. Generally, stamp duty and registration costs in a transaction are borne by the tenant. They are pre-defined and governed by the local sub-registrars who evaluate them in the context of a market value assigned within their records for each region / sub-region of the city. No stamp duty or registration costs are payable on an Amenities / Services Agreement. This agreement can be signed on INR100 or more stamp franking paper.
The work does not end here, managing the letting is also a full time job which includes collection of rent, dealing with ad-hoc tenant queries, doing essential maintenance work, executing escalation clause in case of renewal and regular inspection of the property. Successful letting depends largely on good tenants who pay the rent and look after the property and your ability to manage the tenancy properly.
About the author
Surabhi Arora, leads the research team in India and has more than13 years of experience in carrying out multi-disciplinary research and analysis in the area of finance and real estate industry. Surabhi specialises in real estate economics, policies, commercial and residential real estate research with in-depth knowledge of market dynamics across major markets in India.