Editor’s note: this is an edited article originally written by Mike Donahue of Cadence Network. If you’d like to read the original, visit NRTA’s Professional Library.
It’s no secret that the cost of running a business grows with a painful consistency. From entrepreneurs with small businesses to CEOs of major corporations, professionals across the country have seen costs rising at every stage of the chain of production. Raw materials, energy, labor, and distribution are more expensive than ever before, increasing the strain on the corporate pocket. In an economic environment where everyone is looking to reduce budgets and cut costs, there is one source of overpayment that can provide significant relief and recovery of funds. This is a misinterpreted retail lease that needs a comprehensive lease audit.
The lease’s complicated language often makes the terms difficult to navigate and harder to absorb. A tenant could easily remain unaware for months – or even years – that they’re overpaying for rental fees in utilities, insurance, and common area maintenance. It could be costing them thousands of dollars each year. Multiply that across all of your leased facilities and the unnecessary costs could add up to hundreds of thousands of dollars over the life of the lease.
Conducting a lease audit is the best way to spot the holes in your lease and plug them up. A proper audit will identify billing discrepancies, get tenants back on the right rates, and reimburse tenants for overpayment.
What Causes Overpayment
The main contributors are tenants who don’t understand the terms of their lease and landlords who charge blanket rates instead of those specific to each of their tenants.
For example, the language in a lease may state that common area maintenance fees will increase 5 percent after the first full calendar year of occupancy. If the tenant moved in March 2020, their rate should remain the same through Dec. 31, 2021. If the rate instead went up 5 percent on Jan. 1, 2021, it is unlikely the tenant or landlord would notice this mistake. This could cost several thousand dollars over the course of occupancy.
A lease audit eliminates the potential for this type of oversight. In the simplest terms, it compares what is being billed to what the tenant agreed to pay.
How to Perform a Lease Audit
Conducting a quality audit requires reviewing the original lease contract and documenting past billing cycles, payments, and scheduled payment increases. A comprehensive analysis is a must, especially for companies who need to track billing and payments at multiple locations. Tenants should look for the following action steps when conducting a comprehensive lease audit to ensure they are getting their maximum return on investment.
You should look at six line items, or cost categories:
- Common area maintenance (CAM). This is the price you pay for using shared space.
- Real estate taxes. These include property taxes.
- Insurance. This includes insurance on property damage.
- Utilities. Gas, electric, and water.
- Co-tenancy. This is the cost of sharing a space with more than one tenant.
- Marketing fund. This is usually tied to the consumer price index and helps the shopping center’s marketing efforts.
The Most Important – and Difficult – Categories
Real estate taxes and utilities are the two major categories of concern.
The main problem with real estate taxes can be in the language in the lease. Real estate taxes are usually levied by the county and can be assessed annually, semi-annually, or quarterly. The lease language will determine what portion of taxes related to the shopping center can be billed to the tenant and also delineate the formula for determining the tenant’s share of the taxes to be paid to the landlord.
This is where the confusion and payment discrepancies come into play. Various states offer discounts if the taxes are paid prior to the predetermined dates. The reduction can be anywhere from 1 to 6 percent. The claim occurs when the landlord pays the lower amount and charges the higher amount to the tenants. The lease should always state that the tenant pays the lower amount if any discounts or rebates are given to the landlord.
The issue with utilities is that retailers are charged for utilities at varying rates depending on how their landlord is charging them. Landlords often don’t apply the correct rates or don’t measure the tenant’s usage properly.
Tenants are often unaware of what rate they qualify for, and landlords may be charging a blanket rate instead of a specific one for unique tenants because it’s easier and more efficient. For example, leases typically state that tenants won’t be billed any more for utilities than they would have been billed by the local utility. So what landlords may do is buy electricity at a discounted rate based on the overall volume of the mall or retail property. Since tenants may qualify for a number of rates, the landlord may bill them at a rate for which they qualify—but in many cases that rate is not at the most cost-beneficial rate.
Utility savings come in different forms. It often includes incorrect rates, billing errors, and faulty equipment readings that only a trained energy analyst would be able to pick up on. Realized annual savings vary, but annual savings can be substantial.
How an Auditor Can Help
Help from a lease audit professional who has a strong knowledge base and experience in these areas real estate taxes and utilities will help recover overpayments. The auditor should be able to identify discrepancies between what the tenant has paid and what they actually owed in each billing period per the terms of the lease. These differences will be presented to the tenant in a report, at which point auditors can explain where tenants have been paying too much. The auditor is now equipped with a full analysis of billing and payment history, and a fully dissected lease. With tenant approval, they can approach the landlord with the discrepancies they uncover and recover the amount that was billed and paid in error.
Whether or not you believe you’re paying too much in rent, a lease audit is a worthwhile investment for any tenant. Not only can you save going forward, but you can recover money overspent in the past. If entering into a new lease, it is recommended that you have a lease auditor review the terms before signing to avoid overpaying from the start.