In a previous blog post, we discussed the methods for settling a dispute over “market rent” when renewing a commercial lease. In this blog post, we will address substantive issues that can arise in determining the value of “market rent”.
To recap, many commercial leases provide that, on renewal, rent will be charged at “market rent” – the problem being that “market rent” is not specific at all! The term can also show up in an agreement that includes a right of first offer to lease at market rent. Unsurprisingly, this can lead, and has led, to disputes between landlords and tenants.
The law regarding market rent is unsettled. Issues that can arise in determining the value of market rent include:
- Do market trends (e.g. rising real estate prices) affect the value of market rent?
- Does market rent include factors that are subjective to the leaseholder, such as the terms of the current lease, or is the valuation a purely objective reflection of what the general market would pay?
- Does market rent include tenant inducements that are typically paid in the marketplace?
- Should improvements paid for by the leaseholder be included in the market rent valuation? What about improvements paid for by the landlord?
- Does an offer from a third party to lease the property affect the value of market rent?
These are issues that should be considered when drafting the renewal provision for a commercial lease. The renewal provision must strike a balance between being too specific and too general. If the renewal provision is too specific, it will not be sufficiently flexible to adapt to changing market conditions (keeping in mind that commercial leases often last for decades). On the other hand, a renewal provision that is too broad will be too flexible without providing sufficient certainty and clarity for the parties, which can lead to disagreement about the interpretation and meaning of the lease. Further, incorporating these issues into the renewal provision can help structure, and give parameters to, the applicable dispute resolution mechanism in the lease.