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Leases
are
a part of our everyday business life. We sign leases of premises;
equipment
leases, and some of us even sign employee leases. Because leases are so
common
to businesses, some really important things slip by unnoticed.
Now,
there
is more to this subject than I can possibly deal with here. There are
entire
books written about it. What I’m going to do is give you my insurance
view of
two of the lease agreements you usually see. Remember – this is NOT
legal
advice – I’m only talking about insurance here. The leases I’ll talk
about are
lease of premises and lease of equipment. Lease of employees does not
seem to
be too popular in the pizza industry, so I’ll leave that one alone for
now.
LEASE OF PREMISES
When you
leased your premises it was a major event. It was big enough for the
landlord
to hire a real estate lawyer to handle their side. You see, the
landlord knows
what’s at stake. I hope you do, too.
The
basics
of a lease of premises are this—the landlord gives up the use and
control of
the premises for a period of time in exchange for your payment of money
in a
specified amount for a specified time.
The
devil
is in the details. That agreement is a contract, whether it’s in
writing or
not—legally binding and enforceable for both parties. We are going to
assume
you had the good sense to get it in writing. In theory, everything in a
lease
is negotiable. Now, we both know that according to the old adage, “He
who has
the gold makes the rules,” whoever has the greater need will be forced
to make
greater concessions. But, in theory everything is negotiable.
Here are
some points to pay attention to:
- Condition of premises:
Some leases still contain old wording that requires you to “return the
premises in the same condition in which you received it.” That wording
could make you responsible for normal wear and tear after your lease
term!
- Improvements to the
premises: Big problem– pay big attention! Almost every lease has a
section that deals with “alterations, additions and improvements” made
to the premises. In most leases, these are things that become the
property of the landlord. You spend the money for them, but they become
the landlord’s property. These conditions vary so widely that even the
pizza oven you buy and install could become the property of the
landlord!
- Termination in the event
of destruction or damage: Most leases address the issue of destruction
of the premises during the lease term and what happens to the lease.
You will usually see the landlord having the right to terminate the
lease if they decide not to rebuild. If you just spent some serious
money for “build out” of the premises to suit your needs, what happens
to that money?
Who
actually owns the improvements and who gets paid by which insurance
policy?
From my
insurance point of view, there are some things you really should do to
make
sure you aren’t “burned.”
- Condition of the
premises: I don’t know of any insurance that’s going to pick up this
one. Wear and tear just is not covered – and I don’t think it should
be! If you see this wording, get it out or get it modified. Your lawyer
will know how.
- Improvements to the
premises: Spell out just what is and what is not an improvement to the
premises. It may sound dumb, but if you don’t want trade fixtures
considered part of ‘premises improvement’ then say so in the lease. If
you don’t, it’s all up for interpretation at the time of a loss - the
wrong time to interpret anything! Spell out as much as you can in
advance in plain and simple language—when the money’s at stake,
memories grow dim. Once you separate out what’s yours and what’s not,
make sure you tell your insurance agent just what’s been decided. I
know some really good insurance people, but I’ve yet to meet one that
could read your mind. If you keep it a secret, you probably won’t have
the right insurance! With the right information, your insurance can be
tailored to follow your lease terms.
- Termination in the event
of destruction or damage: Again, these provisions are up for grabs, but
the power will lie with the guy who has the “gold.” Have your lawyer go
over this one with a “fine tooth comb.” This one is never important -
until it’s important. Think about it - you lease a “bare box” in a
strip mall and spend $100K to build it out - HVAC, plumbing,
electrical, flooring, dropped ceiling etc. You do it because you just
signed a 10-year lease so you expect to get a good return on your
investment. Six months later lightning hits the building and in about
90 minutes flat, the whole place is gone. This is NOT the time to find
out that all of that $100K became the landlords property right after
you finished the job and you are not getting paid for ANY of it - even
if you thought you bought enough insurance to cover it.
Important
Point: Your
insurance company will follow two agreements when they look at this
kind of
loss-
- The insurance policy.
- The lease agreement.
If
the
lease agreement makes the $100K you spent the landlord’s property, you
just
lost your “insurable interest” under the policy. (Insurable Interest is
an insurance
term—it’s the thing that allows you to buy insurance in the first
place. You
can’t insure my house because you have no insurable interest in it,
like an
ownership or a security interest, like a loan or a lease.) With that,
you also
lost your insurance coverage.
Worse
yet,
it is possible that the lease can make you responsible for insuring
that $100K
and your policy can be made to pay the landlord! Ouch.
LEASE OF EQUIPMENT
Equipment
leasing is a popular way to leverage capital and get the tools you need
to grow
your business. With little (or none) of your money up front, you can
get
literally hundreds of thousands of dollars worth of equipment with
little more
than a signature.
Since
the
leasing company has all the money, and you want the equipment using
little or
none of yours, you usually don’t have much negotiating room. So, pay
careful
attention to the lease terms. Read and re-read them. The insurance
implications
of an equipment lease can be profound if not handled with care.
Usually, you
are going to be responsible for what happens to the leased equipment.
The lease
company is going to tell you what to insure, how much to insure it for
and even
what policy form to use the so-called “special form.”
They
will
even tell you just how they want you to structure your insurance to
give them
the maximum benefit under your policy! What they won’t tell you is how
to
adjust your policy to protect yourself. Be careful—I’ve seen equipment
lease
language that can put the leasing company ahead of you at the time of
loss. If
you follow the steps the leasing company gives you, you’ve taken care
of the
leasing company – NOT yourself.
Look
at
this example: You lease a $50,000 equipment package including a walk-in
cooler,
mixer and new compressors. You follow the leasing company’s
instructions and
add them as loss payee, additional insured, arrange for them to have
notice if
you don’t pay the insurance bills and include the lease as an “insured
contract” under your policy. You’re done, right? No, your not!
What
you
just did was to give the leasing company first ‘dibs’ on $50,000 of
your
insurance. If there’s a claim, they can go to the front of line and
have the
insurance company pay them first while you watch slack-jawed,
scratching your
head. Then you get the remainders. What you should have done is
increase your
insurance to match the value of the equipment you leased. Watch the
world
VALUE—it’s used in the lease and can have different meanings depending
on who
uses it! Get the lease terms in the hands of your insurance agent
quickly. If
your agent knows what to do, they will ask you about the “value” of the
equipment. If they don’t, consider looking for a new agent.
Caution
Point—Some leases will “include” insurance in the lease payment. This
is not
generosity on the part of the leasing company. You are paying for the
use of
the leasing company’s money. The more of it you use, the more they
charge. So,
if they can load your lease with an insurance premium, you pay for that
too.
AND, it’s been my experience that the cost of insurance from a leasing
company
can be as much as 100 percent more than the cost under your own policy.
Look
out for this and check the price—if it’s not in your interest, get it
out.
Final
point—Once you make it to the end of the lease you may think you can
drop the
insurance on the leased equipment. Wrong. If you exercised the purchase
option,
you now own this stuff. Now is the worst time to drop insurance. What
you
really need to do is to review all your property and get a good handle
on just
what you have at risk. Then, make some intelligent choices about what
insurance
you want to buy.
One
note of
caution—Because of space limitations, I haven’t touched the subject of
“leasehold interest” and the loss involved there. I’ll deal with that
in a
later “Special Report.” I’ll also talk about leasing and insurance at
the
upcoming New York Pizza Show, November 2, 2004. We’ll cover all the
basics of
insuring your pizzeria from leasing to Worker’s Comp audits to what
your agent
may not know. Go to www.newyorkpizzashow.com for more information and
to get
registered. If you want a copy of the report, go to our website
www.pizzasure.com and use the email form to request your advance copy.
My
standing offer: If you have any questions, I invite you to call me at
201-945-3100.
– PMQ –