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What Do Operating Expenses Include?
Property Taxes: The government authority is going to charge the property
owner/landlord property real estate taxes which are, in-turn, passed along to the
tenants. The term "real estate taxes" should be defined to exclude income taxes,
franchise taxes, and personal property taxes due and payable by the landlord. In
other words, those things should NOT be passed-on to tenant. Most leases will
provide for these exclusions, or, if not, most landlords will agree to revise the lease
accordingly
Insurance: All landlords need insurance on the building as required by their
respective lenders. These costs are also passed along to the tenants.
Common Area Maintenance Charges (CAM): Common Area Maintenance
Charges include items such as maintenance and repair, administrative fees,
utilities, elevators, lobbies, landscaping, parking lot maintenance, management
salaries, etc. What is included varies by property type and building owner.
What is Not Included in Operating Expenses?
Operating Expense Exclusions are highly negotiated in leases. The short answer
is that excluded items typically include capital expenses, administrative expenses
(overhead), debt service, advertising and marketing costs, leasing commissions,
salaries and benefits of personnel above the grade of property manager (unless
equitable allocated), costs arising from gross negligence or willful misconduct of
landlord or its agents, costs to comply with laws to remedy a condition existing
prior to the commencement date (including removal of hazardous materials),
construction costs for improvements of other tenant spaces, costs of disputes
between the landlord and other tenants, tenant improvement allowances or capital
reserves for future repairs, cost of services provided by landlord to other tenants,
but which are not provided to the tenant under the lease, and legal fees incurred
in connection with the negotiation of new leases or enforcing terms of an existing
lease, as well as in-house legal and accounting fees.
Audit Rights
It is very important for a tenant to consider whether it should negotiate for the right
to audit the landlord's books and records with respect to the operating expenses
that are being passed-through to the tenant. The right to audit the landlord may
be critical for the tenant to actually enforce the operating expense exclusions.
Without an audit right, how can the tenant understand what the landlord is passing
through to the tenant and that the landlord is not including excluded item. In most
audit provisions, the tenant will have a deadline after receiving an expense
statement from landlord to notify landlord that tenant would like to employ an
auditor (typically a certified public accountant) to audit the landlord's books, and if
so elected, tenant and tenant's auditor will have a deadline to complete such audit.
Also, if it is determined that that tenant was overcharged by a certain percentage