How High-Performance Leases Help Landlords and Tenants Achieve Sustainability Goals
March 19, 2019
This three-part blog series shares how a high-performance lease allows landlords and tenants to collaboratively achieve massive energy efficiency and sustainability gains while simultaneously addressing occupant health and wellness. The series is adapted from an article that first appeared on FacilitiesNet.com. Click here to read the full article.
In the United States, 50 percent of the billions of square feet of commercial real estate space is leased. Traditional commercial leases present challenges for landlords and tenants to act on building improvements that benefit both parties. Meanwhile, today’s social and business norms combined with new and disruptive technology are accelerating the disintermediation trend across the real estate industry.
Given this reality, it makes sense to consider replacing the traditional lease with a more modern legal document that fosters collaboration, aligns the economic priorities of both landlords and tenants, and addresses important factors such as energy efficiency, resiliency to climate risks, and improved occupant health and wellness.
People spend 90 percent of their time indoors. So it’s no surprise that focusing more on the many ways buildings impact occupants should be a high priority for real estate practitioners. Evidence indicates a productivity bump in spaces with occupant health and wellness in mind — for example, a recent analysis by stok on the financial case for high-performance buildings found a three percent improvement in productivity, as well as a five percent increase in employee retention, and a 30 percent reduction in absenteeism. While studies such as stok’s illuminate the benefits of high-performance buildings that factor occupant health and wellness, the real estate market is starting to take notice, as demonstrated by the growing number of popular building certifications that focus on human health and wellness, such as Fitwel, LEED v4’s materials credits, the Living Building Challenge, and the WELL Building Standard.
With this focus on health, wellness, and high-performance expanding, we must ensure that the landlord-tenant relationship is supported with a lease that keeps pace and is structured in a way that enables success and optimizes tenant spaces. By doing so it can also help to achieve traditional green building certifications such as LEED that command better net operating income, higher occupancy, and greater long-term value.
What is in a high-performance lease?
There are several ways to define a high-performance lease, also commonly referred to as a green lease. Fundamentally, a high-performance lease is a standard lease which contains energy or sustainability-focused clauses that align costs and benefits between the landlord and tenant. In many commercial lease structures, the party expending capital for an energy efficiency upgrade does not sufficiently benefit from the energy savings created by that upgrade — a dilemma known as the split-incentive problem. This occurs most frequently in leases where tenants pay for utilities but the landlord is wholly responsible for capital improvements, as is the case in many net leases.
The split-incentive barrier is frequently cited by property owners as a key roadblock to investing in energy efficiency and sustainability projects. By addressing the split incentive and other roadblocks to energy & sustainability, high-performance leases enable landlords and tenants to achieve win-win energy and financial savings, among other benefits.
A study by the Institute for Market Transformation (IMT) shows that high-performance leases have the potential to reduce energy consumption in U.S. office buildings alone by as much as 22 percent, yielding reductions in utility expenditures in commercial buildings up to $0.51 per square foot. This research shows that when executed, high-performance leases have the potential to provide the leased U.S. office market $3.3 billion in annual cost savings.
Turning a lease into a high performance one doesn’t require reinventing the wheel either. Adding a handful of new or modified clauses to a traditional lease or including them in an addendum is all that is needed to create better alignment and spur action. For example, below is a lease provision that addresses the split incentive, which is included in the Green Lease Leaders Reference Guide for Landlords (I’ll share more on the Green Lease Leaders program in the third installment of this series).
“Landlord may include the costs of certain capital improvements [intended to] [that] improve energy efficiency in operating expenses of tenant space. The amount passed through by Landlord to Tenant in any one year shall not exceed the prorated capital cost of that improvement over the expected life cycle term of that improvement [and shall not exceed in any year the amount of operating expenses actually saved by that improvement]. Interest/the cost of capital can be included.”
Landlords can also adopt lease language that allows them to recoup all operational savings resulting from energy efficiency improvements that enhance occupant comfort and drive savings, up to the point where the landlord has been repaid for the original capital expenditures. Here is an example pass-through clause that was implemented by Brandywine Realty Trust:
“Capital expenditures and capital repairs and replacements shall be included as Operating Expenses provided such capital repairs or replacements were necessitated by a change in Law occurring after the date of this Lease or were intended to have cost saving benefits over the Term and amortized costs of same over the useful life of the improvement in accordance with generally accepted accounting principles or with respect to cost savings, over the payback period of such improvement.”
How You Can Get Started
For facility managers and building owners not sure where to begin with green leasing, a first step can be to assess lease and corporate documentation in comparison to the standards specified by the Green Lease Leaders recognition program. If you are not currently including sustainability-focused clauses in your lease, but practice sustainability in building operations and management, the Green Lease Leaders criteria, which was developed with support from the Lawrence Berkeley National Laboratory, can serve as a guide.
In my next post, I’ll provide a few more tips on how to get started with green leasing and share some real-world examples of leading firms that are using the lease to drive valuable health and wellness improvements for their occupants.
Want to learn more about high-performance leasing best practices or how to become a Green Lease Leader and get recognized for your sustainability efforts? Visit IMT’s greenleaselibrary.com and greenleaseleaders.com.
Health and Wellness, Lease Negotiations, Performance-Based Leasing, Tenant Fit-Out, Tenant Operations, Commercial Office, Landlord