Building Performance Standards and Leases
With implementation of Building Performance Standards in multiple jurisdictions, the question becomes: how do we distill three-dimensional, performance requirements down to two-dimensional contracts, like leases?
Photo by Benjamin Cheng on Unsplash
As a refresher, Building Performance Standards (BPS) are a new-ish regulatory tool to address operational carbon impacts of existing buildings. BPS generally have four attributes:
➔ Set specific deadlines for existing public and private buildings;
➔ Over a certain size (square foot);
➔ Achieve quantified standards of performance (energy/water use, GHG emissions); and
➔ Standards become more ambitious over time, and non-compliance results in penalties.
(IMT)
We have had the privilege of reviewing and negotiating leases for some of the highest-performing projects in the world, so we wanted to share what we have learned along the way
How do BPS requirements translate to leases?*
Despite the name, Building Performance Standards are not standardized; they vary slightly across jurisdictions (check out this great resource from our friends at IMT). That said, the one aspect that is “standard” is that the legal requirements always fall to the owner of the building. But, tenants consume up to 50% (or more)** of energy in a building; so implementation of BPS legislation is really an opportunity for owners and tenants to rethink their relationship, and find ways to work together - because the whole building has to be in compliance.
Below is a non-exhaustive list of examples of “traditional” lease provisions that may be impacted by BPS requirements, and a few bullet points for additional considerations/examples.
Two important notes before we dive in:
Important note re: flexibility: particularly given the unprecedented nature of the current moment, it is important to make a concerted effort to balance clarity with a certain amount of flexibility, based on risk tolerance. We want to create clear contracts that also account for shifts in the regulatory baseline, changing metrics or targets, new technology, etc.
Important note re: structural considerations: in our experience, from a structural standpoint, it is fare more effective to have BPS or “green” provisions incorporated directly into the body of the lease, integrated directly with the impacted sections. We encourage parties to avoid an “addendum,” if possible, as that adds to the idea that these provisions are “non-standard'“ (we hear this all the time) and makes it easy to strike them if the deal gets complicated.
Now, on to the lease provisions…
Compliance with all “Applicable Laws”
Clearly define relevant requirements to include BPS and other climate-driven laws that may impact the asset or the lease.
Ex. consider calling out the specific BPS law and providing the statutory / code section, again leaving flexibility if/when things change.
Premises (Definition)
The Premises should always be clearly defined, but particularly if setting an energy budget that is tied to the tenant’s square foot calculation.
Ex. triple check the square foot calculations.
Operating Expenses
Define and clarify which types of OpEx that may relate to BPS can be passed through - this is a tricky one.
Ex. many leases exclude from OpEx any fines incurred exclusively by the Landlord; OpEx shall not include “fines or penalties incurred due to a violation by Landlord of any Applicable Law…”
This carve out makes sense because tenants don’t want to pay for owner mistakes / negligence.
Owners and Tenants in BPS jurisdictions will obviously take different positions on this, but they may want to clarify whether any BPS-related fines can or cannot be passed through.
CapEx
Define and clarify if Capital Expenditures can include any expenditures related to BPS compliance - this is also a tricky one.
Ex. does CapEx include improvements to “comply with any purpose of reducing OpEx (efficiency) or state or local performance standards applicable to the project.”
Access to Premises
BPS requirements mean that owners may need to access tenant spaces to perform repairs, conduct testing, etc.
Ex. reserve the right to access the premises to read or maintain submeters/sensors, perform upgrade work, inspect potential issues (such as Use, see below)
Utilities
Does the owner need to set limits to tenant usage to meet building performance requirements?
Ex. if setting an energy budget based on square feet, also consider tenant “use” of the space (budgets can and should vary based on tenant use).
Ex. outline data sharing, any other data needed for owner or tenant regulatory compliance or corporate goals. See our article on data, here.
Ex. consider sub-metering and associated costs of maintenance and repairs, and any expensive fixtures to support compliance (smart utility boards), should these be shared with tenants?
Default Provision
Standard Default provisions address important issues like failure to pay rent. Consider creating a separate type of default for performance-related issues, which can, for example, vary seasonally.
There’s a balance here, because we want BPS to be treated like the compliance issue that it is, but if project has other sustainability goals, project teams may want to consider a separate “Green Default” provision that mandates a limited meet and confer requirement to (hopefully) quickly resolve more minor issues (and catch them before they become “major” issues).
Use of Premises
Consider any impacts of use or balance of tenants, if some are expected to be high utility users.
Worth repeating here, that may need to reasonably limit use, or be really clear on what space can be used for (including if sub-leased, see below).
Ex. Owner may want to reserve the ability to “reasonably” limit resource-intense activities or otherwise place certain limits on tenant’s Use, to correct compliance issues, with carve outs that these restrictions cannot significantly impact the tenant’s business operations.
Assignment and Sublease
Utility and related provisions need to flow through to any subleases.
Ex. be sure to include any “Use” restrictions, Access to premises provisions, etc., in subleases.
Issue Spot Longer Term Issues
Leases can last a significant amount of time (think about a 10 year lease with a 10 year option). Smart practitioners will help spot issues beyond the present moment. A few things to consider:
➡️ The climate is changing. Full stop. The rate of change is the only uncertainty. Help your clients issue spot and plan accordingly.
➡️ BPS should mean a better performing building with lower utility costs for both the tenant suites and the common areas/base building; that said, there will be some administrative overhead associated with data collection and reporting for both owners and tenants, who will pay for that?
➡️ We mentioned CapEx above; keep in mind that many BPS laws have exceptions or pathways for compliance that take into account the useful life of significant building systems - be smart about the timing of equipment transitions and get support from MEP professionals as needed.
➡️ Owners, tenants, and facilities teams should work collaboratively to think about longer term upgrades of large/expensive systems. And remember, for many BPS, the initial targets are just that - initial. BPS have been implemented in many jurisdictions where the ultimate goal is Net Zero or Carbon Neutral, which means the targets will get more aggressive over time.
➡️ BPS generally (to date) focus on energy, but can also apply to other building aspects, the performance of which we can measure. In the near future, this is likely to include regulation of water consumption and air quality (IAQ). Start thinking ahead and planning for regulation of these aspects.
➡️ If you are making building upgrades and thinking longer term, consider other emerging issues like “natural” gas bans; embodied carbon limits (set limits for TIs, in the Maintenance and Repair sections of the lease), etc. These are often jurisdiction-specific, so ask around.
Need more support?
There are at least three ways that we can potentially support clients with this work:
Retained directly - you want to lease a new space or re-negotiate your existing lease, and don’t have counsel, we can take that work from start to finish. And for certain clients, we can do this for a flat rate to help control costs.
Work with your real estate counsel - if you have existing counsel, and they need support with climate and carbon-specific aspects, we can be retained for that more limited scope, and work directly - and collaboratively - with your counsel.
Portfolios or Corporates - we can work with your in-house counsel and sustainability teams to develop strategic plans, assess properties, draft and update templates, etc.
*In this blog post, we address commercial leases, there are additional, layered considerations for multi-family (we will cover those in a different post).
**IMT, Getting Started with Performance Based Leasing, July 2021, https://imt.org/wp-content/uploads/2021/07/IMT-Getting-Started-with-Performance-Based-Leasing-July-2021.pdf
DISCLAIMER: This is common sense, but bears repeating: this blog is intended for informational and educational purposes only and does not contain or convey legal advice. The law is inherently fact specific. General information, including this blog, should not be used as a substitute for competent legal advice from a lawyer you have retained and who has agreed to represent you.