Look for Red Flags When Accepting Incentives

Guarantors who will back up the obligation of tenants who default on their leases are widely used for commercial real estate deals. But don’t forget that tenants aren’t the only parties that guaranties apply to. Getting a great deal on space is fantastic for tenants, but if you’re concerned that the incentives the owner is offering to make the space more attractive might put it in the red, protect yourself. A year of free rent, greater contributions to tenant improvements, and base building renovations all cost significant amounts of money on the owner’s part. So what happens if, after you sign the lease, the owner can’t deliver on its promise? How can you make sure you can cash in on promises that clinched the deal?

One way of protecting yourself is to ask for a guaranty from a financially stable third party or from a parent entity if the owner is a subsidiary of a larger real estate company. Examples of incentives that would require a third-party guaranty include:

  • Offering a large tenant improvement allowance (TIA);
  • Buying you out of an existing lease;
  • Offering to pay relocation costs; or
  • Directly paying a contractor to build out your space.

So how will this protect you? If you have a guaranty from a financially sound entity or a principal of the owner, you should still be able to collect from the guarantor under the guaranty. It is key to make sure that the guarantor can deliver, though. Otherwise, a third-party guarantor isn’t effective. Make sure you verify the guarantor’s financial strength before you rely on it. Ask to see any documents that you feel will help you adequately assess the guarantor’s business and personal finances. And if, after reviewing the requested documentation, you still have doubts about the guarantor’s ability to pay, ask for more security in the form of a letter of credit—or ask for a different guarantor. Finally, if the guarantor is a company and not an individual, make sure that the company can actually serve as a guarantor and that the person signing the guaranty is authorized.