Last week’s column on common mistakes made by owner-occupants struck some nerves.
To refresh, not charging the operating entity a market rent and an absence of agreements between the ownership and occupant were the two mistakes discussed.
Consistent among the emails I received were questions about how I go about determining a market rent and what form should the agreement take?
What follows are some suggestions on how to accomplish both.
Determining market rent
The key to setting a market rent is to think like an impartial third party. Imagine you don’t own the building, and you’re simply looking at it as an investment. What would you expect to pay if you were leasing the space from someone else? This mental shift can help you approach the task with objectivity.
A great place to start is by doing a bit of local research.
Look at similar properties in your area that are available for lease. You can gather information from commercial real estate listings, or better yet, have a conversation with a local commercial real estate broker who specializes in your property type. Brokers live and breathe this data, and they can provide valuable insight into current market conditions and comparable rents.
Once you’ve gathered a range of rents for comparable properties, it’s time to adjust for any differences. Consider factors like the location, size, condition, and any special features your property might have that others do not. The goal is to arrive at a rent that is fair and reasonable for both the operating entity and the ownership entity.
Drafting the agreement
This part can seem daunting, but it’s critical for protecting both parties involved — yes, even when both parties are you! The agreement should clearly outline the terms of the lease, including the amount of rent, payment schedule, length of the lease, and any responsibilities each party has regarding maintenance, repairs, and improvements.
While it’s tempting to simply draft something up on your own, I’d strongly recommend engaging a real estate attorney to help with this step. They can ensure the agreement is not only legally binding but also covers all the bases you might not have considered. Think of it as an investment in avoiding future headaches.
Putting it together
Once you’ve established a fair market rent and formalized the lease agreement, you’ll be in a much stronger position.
Not only will your financial records reflect a more accurate picture of your business’s performance, but you’ll also have peace of mind knowing that both the ownership and the operating entity are protected by a clear, mutually beneficial agreement.
It might seem like extra work, but these steps are essential to ensuring your commercial real estate works for you, not against you. So, take the time to do it right — your future self will thank you.
Allen Buchanan is a principal and commercial real estate broker at Lee & Associates, Orange. He can be reached at 714.564.7104 or abuchanan@lee-associates.com.
