July 9, 2009
With the American Recovery and Reinvestment Act (ARRA) stimulus dollars
available, and good commercial tenants aware of the number and quality of their
options, the color of leasing for savvy landlords is green.
"Green" (sustainable) development is a generic term that typically means
using renewable energy, materials, systems and resources in the design and use
of real property. Tenants negotiating new leases want green. In addition, as
landlords retrofit existing buildings, new green legislation, requirements or
goals can affect existing tenants. Building green can impact revenue and
operating costs, increase rents and reduce expenses, produce zoning, tax and
other valuable financial benefits, and impact resale and mortgage values.
But the cost of going green cannot be so overwhelmingly laid on one party in
real estate documentation that there is a disincentive to pursue it. Without
appropriate provisions in a triple net lease for example, the landlord must pay
for capital improvements to go green, but the tenants - who pay the utility
bills - reap the benefits of these energy-saving measures.
Apart from the physical changes in the building itself, how does a landlord
document that a building has become green? As landlords develop new properties
or upgrade older buildings, green covenants, conditions and provisions can be
built into most commercial leases. Today, if major tenants require a landlord to
incorporate green in a building, the landlord will most likely seriously
consider those requests, especially if there is a financial benefit. A major
tenant may seek income or property tax benefits, or may simply have adopted
green policies for all its leased space in its role as a corporate citizen. But
is that enough in an economy where every dollar must be wisely spent?
The law of green buildings is generally found in local government policies,
expanded through legislative process, tax programs, and zoning codes, and in
leases and loan documents. From a case law perspective, this is largely
unchartered territory. The implementation of green goals or requirements is
instead significantly governed by the contract the parties negotiate.
Some commercial leases now reference green ratings through one or more rating
methods conducted by private rating companies. Leadership in Energy and
Environmental Design (LEED) was developed by the U.S. Green Buildings Council
and sets performance goals in six categories. Projects earn points in those
categories to obtain certification at four levels: Certified, Silver, Gold and
Green Globes, an alternative but lesser-known rating system, was brought to
the United States from Canada in 2005 by the Green Building Initiative (GBI).
Through Energy Star, the U.S. Environmental Protection Agency promotes
energy-efficient equipment, appliances and devices for consumer and commercial
products, new homes and commercial buildings. BOMA International has suggested
sustainable building operations and management practices that make sense from
business and environmental perspectives. But which party pays for the green
rating under one of these methods – landlord or tenant – can become an issue,
and the allocation of the costs for going green can arise in many scenarios.
For example, a landlord's decision to impose new green rules on existing
tenants due to the requirements of a new tenant impacts design decisions,
contractor selection, costs of materials, furnishings, fixtures and equipment,
and means and methods of construction for the existing tenants. The text of the
existing tenants' alterations clauses in the individual leases determines the
landlord's ability to impose the new green goals. If a landlord imposes new
green goals for alterations without appropriate lease provisions, existing
tenants may contend that the landlord is unreasonable and that they should not
subsidize the landlord's costs of bringing in the new lessee. How does a
landlord impose conformity in practice to new green building standards? Through
a well-drafted lease, of course.
Most existing commercial leases contain rules and regulations, and require
compliance by all tenants. They also state whether the landlord can change the
rules and regulations without tenant consent. Leases for smaller tenants
typically require the tenant to accept changes in rules and regulations adopted
by the landlord from time to time. Larger tenants may have negotiated language
in their leases limiting the landlord's right to change rules and regulations,
or limiting rule changes to those that are reasonable. If the change benefits
all tenants, the issue may then be whether the change will require existing
tenants or the landlord to incur new costs, and how those costs might be passed
on to tenants. Adequately drafted green provisions can help.
Alternatively, a landlord may be able to impose new green programs without
changing rules and regulations, but rather by simply passing the costs through
the operating expense clauses. If a landlord wishes to modify cleaning products
for public areas, or institutes a more costly green trash removal procedure, the
landlord can often pass on the extra costs through typical lease pass-through
provisions. New capital expenditures are another issue. Solar panels or a green
roof, for example, will cause existing tenants to claim it is a capital expense.
The lease must be crafted to anticipate a pass-through for green capital
Being in a green building can also impact tenants negatively in leases. A tenant
will have to comply and cause its employees to comply with "green rules" or be
in default of its lease. Not all green objectives are the landlord's cost alone.
For example, a tenant will have to bear the cost of carpool incentives, transit
use, or space layout. Sublease and assignment clauses are also affected.
The subleasor/assignor will seek to pass green covenants along to its
subtenant or assignee and disengage itself from liability for them with the
landlord. However, the subtenant or assignee may be unwilling to accept costs of
a green covenant that exceed those of a standard lease. For example, if a lease
requires the prime tenant to periodically obtain reports regarding various LEED
objectives, a subtenant (especially one taking less than the entire space) or an
assignee may insist that the prime tenant keep this responsibility or pay the
subtenant's/assignee's costs of complying.
Both landlords and tenants must consider how new green provisions will impact
their traditional leasing arrangements. Jumping on the green bandwagon without
explanation of the implications of green leasing and an appropriately drafted
lease should be avoided, and guidance should be sought from a green leasing