‘Face’ and ‘effective’ rent reviews: What’s the difference? (+ VIDEO)
Commercial market conditions are wildly variable, so it’s no wonder landlords lock in market reviews to help safeguard their investment against lagging rents.
Nonetheless, it’s essential for a tenant to make sure that proposed commercial rent reviews are fair and commercially viable before entering into an agreement. And the first step is to understand the difference between ‘face rent’ reviews and ‘effective rent’ reviews.
How often is a commercial rent review carried out?
It really depends on your lease.
Because rent reviews are quite expensive to conduct, they usually take place in the middle of a long-term lease. But they may also be carried out when a tenant exercises an option to renew.
However, commercial rent reviews can trip up tenants and cause issues if the process and terminology are not entirely understood. This can be particularly problematic when it comes to differentiating between ‘face’ and ‘effective’ rent. Tenants are often unaware of the difference between these two terms, but it’s vital to understand.
Face rent is a rent figure that disregards incentives such as rent-free periods, rent reductions (a.k.a rent abatements) and fit-out contributions.
You can read more about commercial lease incentives and what to look out for here.
Effective rent accounts for any incentives provided to you as the tenant. Under an effective market rent review, your rent would be lower than it would be under a ‘face’ market review.
Which path to take?
At Tenant CS, we strongly advise our clients to undertake an effective market rent review (i.e. factoring in all incentives) when exercising their option or weighing-up market alternatives. This helps to ensure that their rent is not subject to false inflation
What are the problems when it comes to market rent reviews?
Negotiating a market rent review is not straightforward – the devil really is in the detail.
Landlords often only give tenants a short time frame (as little as 15 days) to respond to their offer. And to make it more complicated, the period in which the rent can be reviewed often extends into the new lease term. Effectively, this means that you will only find out what the new rent will be after the lease is extended.
What’s more, landlords also tend to favour ‘face’ market rent reviews. This is because ‘effective’ reviews may require an incentive to persuade the tenant to exercise their option. Effective reviews can also result in a lower rental outcome for the landlord, which they try to prevent by adding a ratchet clause – a clause in a lease which prevents the rent from decreasing.
How to negotiate tenant incentives
There’s an old saying that “you don’t get what you deserve, you get what you negotiate”. This saying certainly applies to negotiating commercial leases and rental rates.
Landlords are inevitably keen to attract high-quality tenants on long leases, especially in markets where there are high vacancy rates.
There are some smart negotiating steps you can take to help you secure the best possible commercial lease deal, including:
- Working out what types of incentives best suit your business. For example, rent-free periods and rent reductions will help with your cash flow, whereas landlord fit-out contributions can assist with the reimbursement of up-front costs. Which of these types of incentives are more important for your business?
- Thoroughly researching current market conditions (or talking to professionals who work in the leasing market day-in and day-out).
- Hiring professionals to do the lease negotiating on your behalf. A good negotiator will be able to secure you the best possible deal.
Get in touch with Tenant CS
Luckily, whether you are negotiating a new lease, exercising an option or undertaking a mid-lease rent review, appointing a tenant representation specialist can save you thousands of dollars and protect your interests.
The team at Tenant CS are skilled negotiators and can handle your lease negotiations from start to finish.
Get in touch with us today to find out more!