Property Manager's Testimony Contradicted by Evidence

Facts: A tenant rented commercial space for its beauty salon under a 10-year lease that required rent plus a percentage of the building's operating costs (overhead charge). The estimated monthly overhead charge was $800, and the owner was obligated to calculate the actual overhead charge at the end of the calendar year and charge for underpayments or apply credits as needed.

The tenant refused to compensate the owner for its underpayments for 2006, claiming that the calculations were not accurate because they included expenses related to separate addresses. The owner sued the tenant for the unpaid overhead charge.

The trial court ruled in favor of the tenant because it found ambiguities in the lease that raised questions about whether some items had been properly included in the overhead charge—namely, the charges for the owner's other addresses. The trial court reformed the lease and ordered that an accounting be done for the overhead charge for each calendar year. The owner appealed.

Decision: The appeals court upheld the trial court's decision in part and reversed in part.

Reasoning: The property manager testified to the trial court that the building in which the tenant leased space actually consisted of several distinct addresses and that all charges for the building were assessed together and then split evenly among the tenants at those addresses. He said that, therefore, the owner was correct in including expenses from the other addresses in the overhead charge, because the expenses were all for one location with one bill for electric, gas, and water.

But the appeals court agreed with the trial court that the tenant's building did not encompass the other addresses and that their expenses should not have been part of its overhead charge. A land survey showed that those addresses actually belonged to multiple other buildings and a photograph showed that the tenant's building was a single, three- story building unattached to them.

• Washington and Court, L.L.C. v. Bangz Salon Hoboken, L.L.C., November 2009

LESSON LEARNED: Negotiate Express Permission to Share Operating Costs

“Let this case be a warning to all owners who utilize lease forms that rely on brief, or intentionally vague, provisions addressing the ‘operating costs’ that will be passed through to tenants,” warns Justin W. Leach, an attorney in Nashville, Tenn. This case indicates that “short and sweet” may not be the best approach from the owner's perspective—especially when describing the costs that are reimbursable by tenants,” he adds.

To sufficiently define the operating costs associated with a property, owners should take note of this ruling and be sure to err on the side of clarity and detail when describing the types of costs that they plan to charge back to tenants. Here, where there was a lack of clarity in the applicable lease provision, the court was unwilling to simply give the owner the benefit of the doubt about the overhead charges that the tenant was required to pay. In fact, this case suggests that in the absence of clear language as to the costs that can be included in the operating costs or overhead charges passed through to tenants, courts may be willing to take it upon themselves to determine what constitutes fair and appropriate expenses.

“Specifically, this ruling should be a wake-up call for owners who routinely spread costs among the tenants of multiple properties,” says Leach. Owners who operate multiple buildings that are a part of the same development or otherwise share costs will want to make sure their lease forms expressly permit this type of sharing, or “spreading,” of operating costs—regardless of whether particular costs are billed to a specific address that is different from the individual building where a tenant is leasing space, Leach points out. Leach, an attorney with Waller Lansden Dortch & Davis, LLP, says that owners should consider including this Model Language after checking with their attorneys.

Model Language

For purposes of determining Operating Expenses, if the Building is part of a complex, development, or group of individual buildings or structures collectively owned or managed by Landlord or its affiliates, or collectively managed by Landlord's managing agent, the Property shall, at Landlord's option, also be deemed to include such other of those buildings or structures (and related facilities and parcels on which the same are located) as Landlord shall from time to time designate in its discretion, and Operating Expenses for the Property may include costs related to, or billed directly to, those other buildings, structures, and facilities, in which case, Landlord may allocate Operating Expenses within such complex or development and between such buildings, structures, and parcels in Landlord's reasonable discretion in accordance with sound accounting and management principles.