Lease Agreements – Part 1
Lease Agreements – Part 1
Landlords and property managers utilize a large number of different documents. Some are used regularly, others only occasionally, and many landlords may never have need for certain documents that other landlords use regularly.
Unfortunately, most landlords do not utilize as many documents as they should. Use of adequate documentation is important for minimizing misunderstandings and the conflicts that often result from misunderstandings as well as for providing paper trails that provide proof of what really happened in case a tenant wishes to dispute a matter.
More specifically, a large percentage of landlords fail to use adequate lease agreements, resulting in unnecessary disputes and other problems. This should probably not be surprising, as the subject of lease agreements is a large and complex one.
We won’t attempt to cover all aspects of all types of leases here, as the subject of leases can be a book in itself. However, in a series of articles we will attempt to cover a wide range of topics in enough depth to provide a good understanding of lease agreements.
Lease Basics
A real property lease agreement is a legal contract whereby the owner (or his property manager agent) gives a person (or persons) the right to occupy and use a property for a specific period (the “term”). The contract sets out the terms and conditions of the tenancy, is legally binding and enforceable against all parties.
The lease governs the landlord-tenant relationship. It transfers possession, use, and enjoyment of the property from the landlord to the tenant for a specific period of time and for a stated amount of rent. To be enforceable, the lease agreement should cover a number of basic issues which help to protect both the landlord and the tenant from fraud or misunderstanding in the event of disagreements or disputes.
The owner is called the “Lessor” (or “Landlord”) and the person who occupies the property is called the “Lessee” (or “Tenant”). A lease agreement defines the rights of lessor and lessee that are not already defined by law. The lease agreement must conform to statutes and case law and the terms and conditions stated in the agreement must be acceptable to both parties.
Importance of Lease Agreements
The lease agreement is important not only for current operation of the rental property but also for maximizing the value of the property as an asset. This is true because the value of an income property is highly dependent on the lease agreement(s) for the property. While not as important for a single-family residence, value becomes increasingly more dependent on lease agreements as the number of units increases. In fact, lease agreements are a primary factor in the value of larger properties. A primary method for valuing a larger income property is the Income Approach wherein the net operating income is capitalized to calculate value. Accordingly, the value of a property can be significantly affected by both current and future rents as specified in the lease agreements for the property as well as by many other lease issues.
The terms of lease agreements are particularly important for non-residential properties for which leases tend to be long-term and often include cost-of-living adjustments, renewal options, and other terms that can significantly affect future value, sometimes for a decade or more.
Lease agreements must include tools for enforcing timely payment of rents, proper care of the property by the tenants, and other issues important to efficient and profitable operation of the property. For example, if default provisions aren’t adequately defined, the landlord may be unable to evict a tenant who defaults on lease obligations that are important to the landlord. There must, of course, be compromises when deciding the content of a lease. If it is totally iron-clad in favor of the landlord, no thinking applicant will sign it, whereas, if it’s a one page document purchased from the local stationery store, the landlord might be left at risk in many ways.
It is not enough to have a good lease agreement. A landlord must thoroughly understand his/her lease agreement and apply the terms uniformly and firmly to all tenants who have signed that lease.
Lease Agreement vs. Rental Agreement
It is our opinion that there is no legal difference between a “Lease Agreement” and a “Rental Agreement.” Some property management writers and document publishers use the term “Lease Agreement” for tenancies originally written for a term of more than one month and the term “Rental Agreement” for month-to-month tenancies. However, typical state statutes do not differentiate between the lengths of tenancy in choosing which term to use. Historically, legal references have more often used the term “lease agreement” no matter the length of tenancy specified in the document.
It is the content of a lease agreement that matters, not the title. In this article and in future articles of the series we will use the term “Lease Agreement” or simply the term “Lease” to mean a contract for tenancy of either residential or commercial income properties for any period of time.
Types of Tenancy
The landlord may offer one of four different types of “tenancies” or “leaseholds.” The type of tenancy can affect the parties’ rights to terminate or alter the landlord-tenant relationship.
The four types of tenancies are:
Fixed Term Tenancy – The fixed term tenancy is the most common type of leasehold and is usually an annual (12 month) lease. This type of tenancy has a fixed duration and terminates automatically at the end of the period. A fixed term tenancy can run for any period of time, as long as the lease terminates automatically at the end of the period. In some jurisdictions, it is important that the total rent for the entire lease period be stated in the lease agreement.
Periodic Tenancy – This type of leasehold runs for a fixed period of time (e.g., weekly, monthly, six months, one year, five years) and renews automatically at the end of the lease term. A month-to-month rental is the periodic tenancy most often used. A periodic tenancy does not terminate until the landlord or tenant gives notice of termination. Notice must usually be equal to the rental period term. If the agreement is weekly, a seven day notice would suffice; if it is monthly, the party who wishes to terminate the agreement must give at least one month’s notice. However, some states provide for longer notice periods by only the landlord or for both parties, sometimes depending on certain circumstances.
Tenancy at Will – A tenancy at will has no fixed duration and can be terminated by the tenant or the landlord at any time. In some jurisdictions, a tenancy at will is restricted, usually for benefit of the tenant, and in some jurisdictions this form of tenancy is not permitted.
Tenancy at Sufferance – A tenancy at sufferance occurs when the tenant wrongfully remains on the premises, or “holds over,” after the lease has expired. Unlike the other types of tenancy, the tenancy at sufferance is not the result of an agreement between the landlord and tenant. Therefore, the tenant should have no legal right to remain on the property and the landlord should be able to evict. However, some jurisdictions now address a hold-over tenancy by statute and conclude that by accepting rental payments the landlord is deemed to have entered into a new lease contract with the tenant. The laws of some states specifically say that if the tenant makes rental payments during the hold-over period, and the landlord accepts those payments, a new tenancy is created. Some states even make the renewal lease period equal to the previous lease. In other states a landlord retains his right to evict and, in fact, may be entitled to damages as well.