| FEATURE ARTICLE, OCTOBER 2008
MIXING IT UP: LEASING ISSUES IN MIXED-USE CONDOMINIUMS
Attorneys should have a working knowledge of condo basics to most effectively represent a landlord or tenant.
Lorin Combs and Jeanne Caruselle
Mixed-use condominiums subject developers to certain state and federal laws, requiring an in-depth understanding of specific condominium concepts. Generally speaking, the Texas Uniform Condominium Act (the Act1) governs condominium formation and governance in Texas, and unless the Act provides otherwise, its requirements cannot be modified. Tenants should realize a standard lease form is incompatible for use in a mixed-use condominium without significant revisions, especially with respect to issues governed by the Act. A working knowledge of condominium basics should allow an attorney representing a landlord or tenant to diligently review the condominium documents and identify potential problems.
Which Document Controls?
The developer will want to ensure that all leases, contracts and other agreements pertaining to the project are subject to the terms of the condominium documents. This is typically accomplished by recording the Declaration prior to the execution of any such agreements.2 If it is necessary to execute a lease prior to recording the Declaration, a landlord should include a provision in the lease providing for the automatic subordination of the lease upon the recording of the Declaration.3 If the lease merely contemplates a subordination of the lease upon the execution of a subordination agreement, the tenant should be required to execute a joinder to the Declaration.
The Association
The members of the Board are charged with the day-to-day administration of the condominium. Even though the Board has a fiduciary duty to make reasonable decisions on behalf of the members of the Association, controlling a majority of the seats on the Board affords the landlord (and its tenant) an advantage. If the landlord does not control a majority of the seats on the Board, it may be more difficult for a tenant to obtain necessary approvals or variances from the Association.
Insurance/Casualty
In a condominium that contains Units that share horizontal boundaries, the Association has the obligation under the Act to maintain property insurance on the insurable Common Elements (usually the structure, roof and foundation) and Units, and commercial general liability insurance in connection with the Common Elements and Units.4 The insurance coverage the Association carries on the Units does not include tenant improvements within the Units. As a result, the ability of a tenant or landlord to take action upon the occurrence of a casualty is limited. Under the Act, the Association has the obligation to repair and reconstruct the condominium after a casualty event in most situations, and the right to use insurance proceeds on behalf of the Unit owners as the insurance trustee.5 Lease provisions must take into account that the Association, and not the landlord, maintains a majority of the insurance on the property.
Defining the Demised Premises
A landlord should specify that the concept of “building” is limited to the portions of the condominium that are contained in the landlord’s Unit to prevent the landlord from making covenants regarding areas in which it does not have any rights. When measuring the square footage of a Unit, a paint to paint methodology will provide an accurate number. However, in typical retail leases, demised premises are normally measured using a centerline of demising wall/exterior face of external wall methodology that produces a larger square footage, and in typical office leases, the BOMA measurement standards are used. Landlords and tenants should recognize this difference and clearly state which methodology of measurement is being used.
Use and Signage
Landlords and tenants must ensure that the use provisions in the Declaration allows the contemplated use and cannot be amended without the consent of the landlord. If a tenant intends on operating any undertaking that entails serving liquor, the tenant should confirm there are no restrictions in the condominium documents regarding such use, and that the landlord will assist the tenant as necessary in obtaining a liquor license. It is likely that the Declaration will require the tenant to obtain dram shop liability insurance naming the other Unit owners and the Association as additional insured.
It is common for the Declarant to reserve an assignable right to post signage on the Common Elements, including the skin of the building. To protect this right, the Declaration normally provides that the Declarant and the Association have the right to approve the type and location of signage. If the landlord or tenant has a seat at the table when the documents are being drafted, special sign easement areas and pre-determined sign criteria should be negotiated to protect a tenant’s right to install the signage that it deems necessary.
Allocation of Expenses
Expenses incurred by the Association for utilities, taxes, insurance, maintenance and repair for the Common Elements constitute Common Expenses and are funded through assessments levied by the Association against each Unit. A landlord should ensure that it has the ability to pass its share of the Common Expenses on to its tenants. Tenants will often try to negotiate a cap on operating expenses, and a landlord must remember that Common Expenses are uncontrollable expenses, which are determined by the Association. Capping the tenant’s portion of Common Expenses could leave the landlord paying the difference that is owed to the Association, in order to prevent a lien being placed on the Unit.
Alterations
If the Declaration contemplates commercial uses, it should permit the landlord to make changes to the interior of its Unit and certain Common Elements, as necessary, to accommodate tenant finish-outs, HVAC equipment or grease traps without the consent of the Association, if such changes do not affect the structure of the building or any Common Elements shared with another Unit. If the Declaration does not address these issues, the tenant will likely need to get the consent of the Association or the other owners to alter the Common Elements.
Repair/Maintennance Obligations
Generally, the Association has the obligation of maintaining the Common Elements such as the roof, sidewalks, major mechanical systems and structural components. The maintenance obligations and repair rights contained in a lease must match the condominium documents. A landlord should not agree to fix a leak in the roof of the building if the Association already has this obligation. A tenant’s right to exercise self-help must also be tailored to match the self-help rights afforded to tenants, if any, under the condominium documents.
Lorin Combs and Jeanne Caruselle are attorneys in Winstead’s Real Estate Development & Investments Practice Group in the Dallas Office.
1TEX. PROP. CODE § 82.001 et seq. (West 2008).
2Unless otherwise provided, all capitalized terms have the meaning given to such term as set forth in the Act.
3For the purposes of this article, it is assumed that each landlord is an owner of a unit within the mixed-use condominium.
4TEX. PROP. CODE § 82.111.
5Id. Unless the condominium is terminated, repair or replacement would be illegal under any state or local health or safety statute or ordinance, or at least 80 percent of the unit owners, including each owner of a unit or assigned limited common element that will not be rebuilt or repaired, vote to not rebuild. If a condominium has no residential use component, these requirements can be varied.
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