Green Leases

Green Lease Generally Defined

There is no single definition of a “green” lease. However, a “green” lease generally is used to describe a lease that encourages sustainability in design, construction, renovation and operation by motivating the building owner and the tenant to cooperate in making a building more environmentally friendly. In other words, a “green” lease is a conventional lease that is modified to remove barriers to sustainability and to articulate shared environmental goals and practices by focusing on how a building is operated, the materials that are used to build out improvements within a tenant’s premises, and how materials are recycled. Generally, a “conventional” lease becomes a “green” lease by detailing environmental standards such as requiring the use of Energy Star appliances and compliance with recycling standards and by including specific provisions relating to the building out of initial improvements and alterations requiring the purchase of energy-efficient and environmentally friendly products.

Although there are many buildings that are built or renovated to be “green” buildings, it is common for owners of these buildings not to modify the standard lease form to expressly include “green” provisions due to concerns that requiring all tenants of a building to execute a “green” lease will put the owner of the building at a competitive disadvantage since: (i) the building has already been constructed/renovated as a “green” building, thus deriving substantial operating efficiencies, and (ii) any individual tenant interested in sustainability can always operate its business in the leased premises in an environmental friendly manner under a conventional lease. Some owners of “green” buildings use conventional leases and then also advise tenants that the building is operated as a “green” building and provide a handbook to tenants that includes rules and regulations pertaining to environmentally friendly practices. However, many owners of real estate happily will provide a “green” lease to those tenants specifically interested in having provisions in the lease that expressly obligate the tenant to follow sustainable practices.

Role of Broker in Tenant’s Green Leasing Process

If a tenant really wants a “green” lease, each decision the tenant makes should include a specific consideration of the tenant’s “green” goals. In picking a real estate broker, the tenant should chose a broker that is knowledgeable in “green” buildings so that the real estate broker can maximize the chances that the tenant’s requirements can be attained for leasing space that uses less energy and water, has higher indoor air quality, and meets the tenant’s other sustainability expectations. While location and rent are always of critical importance to tenants, increasingly tenants are also putting more weight on the environmental performance of buildings (including annual operating expense costs). Part of the value a broker can add to the process is to help in the preparation of an environmental questionnaire early in the process for submission to potential landlords related to a building’s sustainability features to be sure that the key areas of a tenant’s environmental concerns will be addressed.

Once a tenant interested in a truly “green” lease enters into a letter of intent with a landlord for space in a “green” building, the next step will be the negotiation of the lease. No matter whether the lease is a conventional lease, a conventional lease with a “green” rider, or a “green” lease, it is important for a tenant to specifically review each of the provisions to be sure that its environmentally friendly objectives are satisfied. This may include, among other things, requirements for LEED certification of the build out of the tenant improvements, and/or an allocation of environmental incentives such as carbon credits.

Lease Negotiation Issues – LEED Categories

A good way to think about the issues to consider in a “green” lease is to focus on the first five of LEED’s six categories of sustainable practices and, where possible, incorporate appropriate requirements into the lease consistent with the LEED category system.

1.              Sustainable Sites

The sustainable sites category focuses on a building’s location and how the construction of the building impacts the surrounding ecosystem. This category looks at, among other things, the pollution generated by the construction of the building, the appropriateness of the site for development, accessibility to public transportation, design features to encourage alternative forms of transportation, and the environmental foot print of the building.

With respect to the construction of tenant improvements or alterations of a tenant’s premises, the work letter of a lease as well as the alterations provision of a lease can contain provisions specifically focused on: (i) reduction of pollution generated by the construction of tenant improvements, and (ii) the requirement that certain materials be used in the construction of the tenant improvements that minimize the environmental “footprint” of the tenant improvements.

With respect to transportation impacts, the “green” lease can address the LEED category of sustainable sites by including provisions encouraging the use of bicycles, low emission cars and public transportation. With respect to bicycles, a building owner can provide bicycle racks and adjoining shower areas (or even convert parking spaces leased to a tenant as exclusive bicycle racks for such tenant). A building owner may want to pass through the cost of maintaining the bicycle racks and showers as operating expenses. Regarding low emission cars, a building owner can provide preferential rates or parking spaces to low emission and fuel efficient cars and provide spaces for plug-in hybrid cars. Regarding the use of public transportation, a building owner can require that a tenant provide its employees with a certain number of subsidized monthly passes.

An additional element of the LEED category of sustainable sites is light pollution abatement. A “green” lease could include in its rules and regulations a requirement that tenants lower blinds and shut curtains in the evening to reduce light pollution. Further, a building owner could encourage more use of task lighting instead of overhead lighting.

2.              Water Efficiency

The focus of the water efficiency category is on a building’s ability to minimize the amount of waste water and storm water added to local sewer systems and the efficient use of fresh water. Specific things that can be put in a “green” lease to address these issues include adding provisions in the work letter/alterations provision requiring the use of fixtures that use non-potable water or which are dry fixtures, fixtures that are high efficiency fixtures and fixtures that have occupant sensors.

3.              Energy and Atmosphere

The energy and atmosphere category considers a building’s ability to minimize the use of energy required to operate the building and to use forms of energy which minimize the environmental impact of the generation of such energy (such as the use of wind, solar or geothermal power). If a building owner intends to use such environmentally friendly energy sources, the utilities provision of the lease should specifically acknowledge that, since the tenant will be responsible for its share of the energy costs, the tenant agrees to pay for the cost of energy generated in this manner even if it is higher that energy generated from more conventional methods.

To maximize energy efficiency, it is important that a building’s mechanical systems are properly installed and are calibrated and maintained so that they continuously perform at optimum levels. The relevance of this for a “green” lease is for a building owner to have the ability to monitor the building’s mechanical system (called “commissioning”) in the tenant’s premises by being sure that the building owner has a right of entry into the premises for this purpose. To the extent that a tenant is responsible for the installation and/or the operation, maintenance and repair of the HVAC system serving such tenant’s premises, the “green” lease should include provisions in the work letter and/or alterations provision and in the maintenance and repair provisions of the lease addressing these issues. These provisions should also prohibit the use of chlorofluorocarbons and other harmful refrigerants that contribute to ozone depletion.

Energy efficiency can also be maximized by the use of occupant sensors or timers so that energy consuming systems turn off automatically when there are no occupants in the portion of the building that such systems serve.

If a building owner utilizes an on-site source of energy generation (such as wind turbines, solar panels or a geothermal system), such building owner will receive points in the LEED category of energy and atmosphere. If a building owner has such a system, the lease’s utilities provision should address the amount of the pass-through charge to a tenant for receiving the benefit of such on-site energy production and the lease’s operating expense provision should address whether the cost of maintenance, repair or replacement of such on-site energy generation systems is a pass-through operating expense under the lease.

4.              Materials and Resources

The materials and resources LEED category is concerned with the environmental impacts of construction materials and effects of a building’s operations on landfills. With respect to construction activities (to be addressed in a lease’s work letter and alterations provisions), language should be added to the lease to encourage the use of reused and recycled materials, materials that are sourced locally, renewable materials and wood from forests that are managed in a sustainable manner. In addition, language should be added that addresses the disposal of construction waste and the establishment of a program to reuse and recycle construction waste where ever possible.

With respect to the ongoing operation of a building, provisions can be included in the lease requiring the tenant to participate in a recycling program for paper, glass, plastics and metal.

5.              Indoor Environmental Quality

The indoor environmental quality category focuses on the extent to which a building’s construction and operations enhance the indoor environment for the building’s occupants. To address this LEED category, provisions should be added to the lease that: (i) minimize the exposure of occupants of a building to tobacco smoke, (ii) allow for the installation of monitoring devices for harmful gases and the ability of a building owner to enter the premises to read/repair/replace such devices (and possibly also include costs incurred as a pass-through   operating expense), and (iii) restrict the types of furniture, fixtures and paint that can be used in order to reduce the volatile organic compounds in a building (typically contained in paints, sealants, adhesives, composite wood and carpets – if the building owner knows of specific suppliers of materials that contain only low levels of volatile organic compounds, providing a list of such suppliers as part of the lease would be a good idea).

With respect to construction activities, provisions should be added to the work letter and the alterations provisions requiring the implementation of filters and other devices to trap construction dust and debris so that such dust and debris do not enter into the building’s HVAC system.

An occupant’s enjoyment of the indoor environment is enhanced by allowing for individual controls for lighting and HVAC. Requiring such individual controls should be part of the work letter and alterations provisions. However, rules and regulations should impose requirements to ensure that energy resources are used efficiently.

6.              Innovation and Design Process

This LEED category typically will not be relevant in the build out of the tenant’s premises.

Drafting a Green Lease

1.              Construction Issues

If a building owner and a tenant are both constructing portions of the improvements for the premises in a “green” lease, greater cooperation will be required for the work letter than is typical for a conventional lease to ensure that there is an integrated and coordinated design of the improvements. For example, if a tenant wants a newly constructed building to be a “green” one, the tenant will want the shell description to clearly describe the “green” features of the building, including, without limitation, performance standards for “green” features (such as benchmarks for high efficiency energy systems). A tenant will also want to include in the lease remedies for the failure of a building to achieve a promised performance level. Similar issues exist where the building owner will be constructing the improvements in a tenant’s premises.

Where the tenant improvements are provided by the tenant, the building owner will want the right to approve the plans and specifications as well as the architect and contractor to be sure that the architect and the contractor have the appropriate “green” building experience. Typically a building owner will require, among other things, the use of “green” materials, materials that do not contain volatile organic compounds, and the use of Energy Star appliances. Further, a building owner can require that all improvements be constructed in accordance with the building owner’s sustainability practices and procedures (typically by way of a manual given to tenants explaining the “green” features of a building, including a set of directives that can be provided to architects and contractors to aid in ensuring that tenant improvements and alterations are built out in compliance with the building’s “green” requirements and that the construction process adhere to requirements regarding air quality and recycling of construction debris). A building owner may even include requirements that tenant improvements be made so as to attain LEED status. The same requirements that a building owner imposes with respect to tenant improvements typically would also be imposed with respect to alterations performed in the premises during the term of the lease.

2.              Operating Expense Issues

The treatment of operating expenses in a “green” lease is an important issue and one that is frequently discussed. While a building owner typically has operational control over a majority of the operating expense items, a tenant will have effective operational control over some key elements such as the energy use in the premises. A “green” lease should create incentives to maximize conservation by both the building owner and the tenants, resulting in a lowering of operating costs. The lowering of operating costs benefits the tenant through reduced costs and will benefit the building owner in that the building owner can charge higher base rents than those charged in conventional buildings since the effective rents should be similar due to reduced operating costs.

Although there has been substantial debate over whether a gross lease (no pass-throughs of operating expenses to a tenant) or a net lease (a pro-rata share pass-through of operating expenses to a tenant) is the more “green” approach, neither form of lease by itself creates sufficient economic incentives for minimizing operating expenses since both the building owner and the tenant have operational control over significant operating expenses.

Irrespective of which form of lease is used, it is important for a building owner to be sure that the operating expense provision is written broadly enough to include a pass-through of all costs and expenses of operating, maintaining, managing, repairing and replacing a building’s sustainability features and, where possible, specifically enumerate such features (such as bicycle racks, showers, on-site renewable energy generation systems, commissioning, etc).

3.              Use Issues

In a “green” lease, the use clause should address a number of issues. First, the tenant should be prohibited from using the premises in such a way that will violate the requirements of the building’s third party certification (i.e. LEED certification, if applicable). This will include requiring the tenant to comply with future third party certification requirements. Second, the tenant should be required to comply with the building’s sustainable practices requirements, typically implemented by a “green” manual containing rules and procedures on a variety of matters, including, among other things, construction practices and procedures, waste disposal, recycling, use of Energy Star appliances, use of occupant sensor equipment for water-using fixtures and for lights, air quality matters, transportation issues (such as preferred parking for low emission/fuel efficient/plug in vehicles, encouragement of use of public transportation and encouragement of use of bicycles), and the use of environmentally friendly cleaning materials.

4.              Utility Issues

In the utilities provision, a green lease will include an explicit right to obtain energy from renewable sources, even if the cost of such energy is higher then obtaining energy from conventional sources. As part of the lease, a building owner may want the ability to measure the allowable consumption of energy by a tenant, with the ability to charge the tenant for consumption of energy in excess of the allowed amounts, including requiring the tenant to purchase carbon offsets for any excess usage so as to enable the building owner to continue to maintain its third party certification ranking.

With respect to janitorial issues, a building owner may want the right to perform a substantial amount of cleaning during normal business hours to avoid light pollution and save on after hours lighting costs.

5.              Tax Benefit Issues

If a tax credit or grant is available to a building owner for implementing a “green” feature in the building, a green lease will specifically allocate the benefit of such tax credit or grant between the building owner and the tenant. The allocation typically will depend upon the extent to which the building owner and the tenant pay for the cost of the “green” feature for which the tax credit or grant is provided.

6.              Surrender Issues

The surrender provision of a “green” lease might require that a tenant surrender possession of its premises at the expiration or sooner termination of the lease in a specified “green” condition. This could include the requirement that all of tenant’s equipment and personal property that will not be reused by the tenant either be recycled or disposed of in an environmentally friendly manner.

7.              Enforcement Issues

One of the challenges for a building owner is when to make “green” lease provisions mandatory as opposed to merely aspirational goals. A building owner’s decision will be based in part on how easy it is for a tenant to comply with a “green” provision, in part on how easy it is for a building owner to monitor a tenant’s compliance, and in part on the consequences to the building owner if the tenant fails to comply. For example, if a tenant’s failure to comply with a particular “green” provision will result in a loss of a tax credit or adversely affect a key permit or cause a default under a building owner’s loan documents, it is important that this is clearly communicated to the tenant and that there be a clear remedy for the building owner as a result of a tenant’s non-compliance.

The ultimate remedy for a building owner for non-compliance by a tenant of a “green” provision is a lease default, termination of the lease and eviction. However, it is rare that a building owner would seek such a remedy against a tenant for breach of a non-monetary “green” provision. Further, courts are generally reluctant to enforce an eviction of a tenant for a non-monetary default except in unusual circumstances where eviction is required to avoid material harm of the building owner that cannot be compensated by monetary damages (in other words, if the harm to the building owner is a loss of tax credits, a court may determine that the appropriate remedy is monetary damages equal to the lost tax credit rather that eviction).

Alternative remedies include loss of privileges (such as extension, expansion or termination rights), injunctive relief, or the payment of damages. A building owner can consider a liquidated damages provision for damages for loss of LEED status if the building owner believes that it may be difficult to determine the decrease in the value of the building as a result of such a loss of LEED status. A tenant’s obligation to comply with the “green” lease provisions can also be secured by a separate “green” security deposit that is in addition to a normal security deposit.