Subtenancy rules curb unethical profits

Rent it Right

By Inman News Feed
Add Comment Add Comment | Comments: 0 | Posted May. 27, 2010

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Rent it Right

Janet Portman
Inman News

Q: I rent a three-bedroom house to my tenants, a couple. A while ago, they asked if they could sublet two of the bedrooms, and assured me that they would carefully choose the tenants. The subtenants are fine -- but I've just learned that they are paying quite a bit of rent for those rooms. My tenants are making money off of my property! What can I do about that? --Marty P.

A: At this point, there's not much you can do about it. You already agreed to the subtenancies without specifying how much rent would be charged and who would get it. You might try arguing that your agreement created only month-to-month subtenancies and try to revoke them with proper notice (30 days in most states). Then, insist that these newcomers become full-fledged tenants.

Because adding them creates a new tenancy for everyone, you'll have the opportunity to raise the rent to reflect what you now think the rental is worth (having seen what other tenants are willing to pay for part of it).

At the very least, when it's time to renew the lease, you can drop the subtenancies and insist on a regular tenancy for all.

Your colleagues in the commercial leasing world often face the same problem, and they've figured out a way to handle it that's fair to all. To begin with, these landlords recognize that some tenants simply must bring in a subtenant in order to stay in business -- for example, a tenant whose retail business has slowed down might need to downsize and won't need his entire space. Instead of defaulting on the lease, that tenant could bring in a subtenant to pick up part of the rent.

Landlords realize that this arrangement is preferable to a defaulting tenant. As long as the subtenant's rent per square foot is no more than that paid by the original tenant, the landlord is likely to have no objection.

Problems arise, however, when the tenant has managed to turn a profit on the subtenancy, bringing in more per square foot than the landlord is making. Landlords just don't like it when someone else is using their property to make money -- that's their job!

On the other hand, they don't want the original tenancy to fail. Here's what they sometimes do: In the clause covering subtenancies, or as part of their agreement to allow a subtenancy, they insist that any profit made by a subleasing tenant be equally shared between the landlord and the original tenant. Smart landlords realize that this method actually works better than requiring the tenant to fork over all profits, because it gives the tenant an incentive to bring in some extra money. If the tenant has to hand over all profits, he has no reason to charge more than what he's paying. But if he stands to share in any profit, he will set a higher rent than his own. And, for the landlord, getting part of the profit is better than getting none at all.

It will be a challenge to apply this approach to a residential rental, where tenants pay not by square footage, but by the number of bedrooms and other less quantifiable aspects. How much is each bedroom worth? If you can, find comparable one- and two-bedroom homes in the neighborhood, and see if you can put a dollar value on each bedroom. If your tenant charges only that amount, you have no quibble; but if he's able to command a higher rent, you should reap your share of the windfall.

Q: My aunt and uncle agreed to sign as guarantors when my wife and I signed our lease last year. When the lease ended, we stayed on, paying rent but without signing a new lease. After a few months, the landlord and we crossed out the beginning and ending dates on the old lease, entered new ones, agreed to a slightly higher rent, and signed for another year.

Now, we are out of work, and we and the landlord have asked our guarantors to pay a portion of the rent. They refused, saying that they signed up only for one year. But, the guarantee clause says that their promise will remain "in full force and effect," even if the lease changes. Aren't they still obligated? --Peter J.

A: You actually signaled the answer to your question by describing the original lease -- the one your aunt and uncle signed -- as the "old" lease. Guarantors obligate themselves to cover the tenants' financial responsibilities only as far as the guarantee provides. Some guarantee clauses specify that the obligation will apply to all changes in the original lease, be they extensions, renewals or new leases; others, like yours, say simply that the obligation will survive any changes in the lease.

When you and your wife stayed on after the lease expired with the permission of the landlord (as evidenced by his willing acceptance of your rent checks), you became month-to-month tenants, operating under the same terms and conditions that were in your original lease. At that point, your "lease" was not a lease at all, but a lease-turned-oral monthly rental agreement. Then, you agreed on new starting and ending dates and a higher rent, and signed a new year-long lease.

Even though you used the same pieces of paper that had once been the original lease, that new lease was just that -- a new lease, not an extension of the old one. The wording of your guarantee clause arguably doesn't stretch that far because, according to you, it didn't specify extensions or renewals, and referenced only "changes" in the existing lease. The existing lease hasn't changed: It stopped existing when you became month-to-month tenants, as did your guarantors' obligations.

Your question highlights why guarantors need to read the guarantor clause carefully. The most guarantor-friendly clauses specify that the guarantors' obligations will not survive any material changes in the lease, such as an assignment of the lease by the tenants. Guarantors who sign clauses like this know from the outset exactly what they're on the hook for -- and for whom: They know the rent, and they know the financial stability of the tenants whom they're guaranteeing.

Less friendly clauses obligate the guarantors despite changes in the lease terms or tenants, and specify that the guarantor will remain in the picture despite any lease changes, extensions or even renewals. Signing a clause like this requires a large leap of faith (and a solid bank account).

Janet Portman is an attorney and managing editor at Nolo. She specializes in landlord/tenant law and is co-author of "Every Landlord's Legal Guide" and "Every Tenant's Legal Guide." She can be reached at janet@inman.com.

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