By:  Dennis B. Ellman & Silvia Saucedo

A version of this article was originally published in Issue 4 of Office & Commercial.

Have you heard?  This year’s hot color is green.  And we are not talking clothing, we are talking buildings.  Government at all levels is looking closely at the real estate industry and amending their codes and regulations to ensure that new development complies with sustainability standards. 

The sustainability issue brings up an important question for building owners.  Are the leasing issues the same whether you own or are a tenant in a green building or a non-green building?

Thus far new legislation has focused on new buildings being green, however, the existing stock of buildings are the largest generators of green house gasses.  When the focus shifts from greening new developments to greening the existing stock of buildings, what issues should you considering in your lease negotiations?  It is not unlikely that there will be a cost to convert existing buildings to be more efficient and environmentally friendly.  So you ask, “will I be able to recover the cost from my existing tenants?”  Will future tenants be willing to pay more rent to lease space in a green building?  Or perhaps you are a user and were considering space in a green building and space in a non-green building.  Should you be willing to pay more to be in a green building? These “green lease” questions are all new, they have not been answered before, but a few answers suggest themselves.

1. But who will pay the cost of converting existing buildings to make them more energy efficient and environmentally friendly?  Of course, the issue here is whether the building owner will have the right to pass through the costs of these changes to its tenants.  Most likely, yes.  The typical office lease, be it triple net or modified gross, requires tenants to pay the annual amortized cost, or their pro rata share of the annual amortized cost, of capital improvements which are required by new laws or which will reduce operating costs in the future.  So if a landlord waits until it is required by law to make its building green, the costs will most likely be subject to reimbursement by its tenants.  And some elements of green buildings, such as energy efficient utility systems, will clearly save operating costs so even if the cost of a conversion is incurred prior to enactment of governmental requirements, it is likely that tenants will be obligated to reimburse the landlord for those costs.  And by the same token, tenants will not be unduly burdened because their obligation to reimburse the landlord for these costs will be commensurate with the savings on operating costs they would otherwise have had to pay.  So the landlord recovers its costs, the tenant is not forced to pay additional costs and the environment is better off.  A win, win, win.

And in the typical industrial lease, tenants are also required to pay costs incurred by the landlord to comply with laws, although typically on an amortized basis together with the monthly rental payments.

2. Will space in a green building have a competitive edge?  Our guess would be yes.  Since operating costs in a green building are lower than in a non-energy efficient building, and data suggests that employee productivity is higher, as a result of less sick-days, there is clearly a benefit to leasing space in a green building.  And green building owners or their agents will no doubt ask potential tenants to compare the additional rent they are being asked to pay to the increase in productivity they will be the beneficiaries of should they rent space from their green building. 

3. Can building owners require that a tenant’s leasehold improvements be green?  Why not?  Landlords include a multitude of requirements in their work letters from restrictions on power usage to the use of uniform window coverings.  So long as the requirements are set forth in the lease or the work letter attached to the lease, we see no reason why landlords could not, or should not, require that tenants use energy efficient lighting and appliances, or require the use of separate recycling bins, etc.  And although requiring the use of recycled building materials, such as ceiling tiles and doors, or furnishings such as carpeting, may appear a bit aggressive at present, as we see more of these materials used in our homes, tenants will become more comfortable with these requirements. 

The next couple of months will be interesting as we see how the legislature at different levels grapple with how to “green” the existing stock of buildings.  Will they provide landlords with incentives as some have to developers?  What types of incentives will be most beneficial to landlords (perhaps tax credits) and how do these incentives translate into incentives for the tenants, if at all.  There are many unanswered questions, as this area of law develops.  One thing, however, is for sure, this year’s green is not a fad, it is here to stay.