By Tiffany Toliver
In the development world, the word ‘contingency’ has several meanings. The most common use for the word ‘contingency’ applies to construction budgets. A contractor will set aside a certain percentage of the cost of the entire project towards a contingency category. For example, if the construction cost of the project is estimated to be $1,000,000 then a contractor may set aside 10% of that or $100,000 for unforeseen circumstances.
Another use of the word ‘contingency’ is in regards to the LOI or lease language – that’s what I’ll be expanding upon in this post. A contingency, in this context, is a way for one party to be able to exit the deal if certain agreed-upon criteria are not met. For example, in a typical deal, I’ll always ask for a permit contingency. The language will go something like this:
“Tenant’s obligations under the lease shall be contingent upon Tenants receiving all applicable building permits, licenses, and other documentation necessary to open and operate Tenant’s Permitted Use.”
A permitting contingency is the most basic of contingencies. It allows the tenant to walk away from a signed lease if he or she is unable to obtain a permit for their specific use. There are other contingencies that could be inserted into an LOI. Contingencies associated with the adequacy of public water or sewer, or permitted-use parking are very common. Usually, the Landlord or developer will counter a Tenant’s contingency with an expiration for which you, the Tenant have to complete your due diligence. They may give you 30 days, for example, to vet out for yourself whether there is water and sewer, or adequate parking. If a contingency expires, it is considered to have been automatically waived. Many times the landlord will hinge the contingency expiration time frame on the day that you execute the LOI. A more advantageous play is to hinge the time frame on the execution of the lease.
Another type of contingency found in the lease language is a financing contingency. If you are able to work this contingency into your lease you’ve won big. In today’s market many Landlords and Developers sneer at a financing contingency as it basically allows you to walk away if you cannot get financed from the bank.
Contingencies can go both ways. In the preceding paragraphs, you read about the Tenant’s imposition of certain contingencies. Likewise, Landlords and Developers can have their own set of contingencies. For example, a landlord may make the lease contingent upon the review of tenant’s financials or the recapture of the premises from an existing Tenant.
Any and all contingencies should be negotiated in the letter of intent as they are an integral piece of the project timeline and a measure of risk on both the Tenant and the Landlord side. They allow a specified and agreed-upon timeframe to perform necessary due diligence.