The understanding of lease liability is a crucial point in signing a lease. Lease liability is an obligation to make payments on your lease in a timely manner, along with keeping track of future lease payments. In order to calculate lease liability, you must determine the length of the lease term, the lease payment, and the discount rate. Using the discount rate, the liability of the lease can be reduced.
What is included in the lease liability?
Fixed Payments
Fixed payments within a lease include numerous fixed costs. These include rental lease payments, salaries, insurance, property tax, interest expenses, depreciation, with the potential for utilities to be included as well.
Variable Lease Payments
Variable lease payments are dependent on changes within the market and are made by tenants for the right to use an underlying asset during the duration of the lease. In addition, this varies due to changes that occur after the lease begins.
Residual Value Guarantee
Within the lease agreement, there will be a certain amount expected for the tenant to pay under the residual value guarantee. The residual value guarantee is a guarantee that is made to the tenant that states that the value of an underlying asset will be a specified amount by the end of their lease.
Termination Fee
If the tenant chooses to terminate their lease, they must pay a fee to do so. However, if the tenant makes it clear that early termination will not occur, the fee can be waived. If the tenant chooses to break their lease, and gives notice early on, usually tenants will pay two months of rent in order to terminate their lease.
Calculating Lease Liability
To calculate lease liability, you need to make a few assumptions which include the lease’s residual value guarantee along with the rights to exercise options for renewal, termination, or purchase. Additionally, if a residual value guarantee is provided, a lessor must include the amount that is expected to pay under the guarantee, regarding lease payments. If a lessor can promise reduced lease liability, that is a main distinguisher between themselves and their competitors. If lease liability is going to be increased, tenants will choose to go with another office space, to avoid the conflicts that could arise.
Reducing lease liability requires the lessor to re-evaluate the discount rate on your lease. Discount rates can either be unchanged or revised. Unchanged discount rates are used when future lease payments are changed as market rates change. Another situation where this type of discount rate is used is when the variability of payments is resolved, creating in-substance fixed payments. A revised discount rate is used when future lease payments are changed due to the change in floating interest rates. Be sure to document all changes made within your lease payments as well, making sure that important information is recorded.
Reducing Lease Liability
Here is a general breakdown of how you can reduce your lease liability throughout your lease:
Agreement Date
On the day you sign your lease with a realtor, you will go through the payment dates for the future. Be sure to record these to stay organized and up to date.
Pre-payment
The lease liability pre-payment will reflect the present value calculation for lease payments. This calculation includes several fixed inputs, which include the discount rate, the ending cash flow amount, and the end date of the lease.
Payment
Tenants must be on track with paying their monthly payments for each assigned date, which are agreed upon when the tenant signs their contract with the realtor on the agreement date.
Post-payment
The post-payment stage is important in reducing lease liability because each payment that is made in the full amount and on time, reduces the lease liability amount. If a tenant fails to pay their lease payments in full and on time, the lease liability will increase.
Interest
The discount rate will determine how much interest will be calculated on the lease.
Lease Liability Closing
The closing balance of the lease liability should unwind to zero after all of the following steps have been completed.
Get the Expert Assistance You Need
How the Genau Group Can Help
It’s important to have an experienced broker to help you negotiate on your behalf to save you valuable dollars and reduce your overall lease liability moving forward. Below are ways the Genau Group can advise you:
- Downsizing your current suite
- Downsize and lease another suite in your current location
- Terminating your lease, if possible, with a fee
- Subletting part or all of your office suite
The Genau Group offers tenant representation services in Washington, D.C., and the surrounding region. Our team can assist by negotiating maintenance requirements into your commercial building contract and will hold your landlord responsible when these conditions aren’t met. Contact our team for more information on our commercial tenant representation services. At The Genau Group, we have a team of experienced representatives to help you find the perfect space to help your team reach its goals. In addition, we work closely with our clients to ensure reduced lease liability throughout the entire process of leasing their space. Contact The Genau Group today for more information about our tenant representation services at www.thegenaugroup.com.
