Part 6: Additional Rent – Insurance.
Insurance is one of the three major categories of Additional Rent in commercial leases which are generally passed through to the tenant, the other two being Taxes and Common Area Maintenance Expenses (they are also the three pass-through categories that coin the phrase “triple net lease”).
The insurance section of any commercial lease is usually the section where most tenants’ eyes begin to glaze over when they come across terms like “indemnity” and “waiver of subrogation”, and when most tenants decide that this is the legalese section of the lease for their lawyers to handle. The truth is that insurance is an ever-changing market place of products and ideas, and though a seasoned attorney should keep up with the current terms and products, it is always recommended that the tenant have its insurance agent review this section of the lease to determine whether the amounts of coverage and types of products to be maintained by the tenant is standard for the industry, given the tenant’s business and the type and condition of the premises. Also, by having its insurance agent review the insurance provisions of the lease, the tenant may be able to shift the risk onto the agent for any failure by tenant to maintain the proper insurance if that issue becomes a matter of dispute between the landlord and tenant when an insurable event occurs.
The insurance section of the lease will identify the type of insurance that landlord is required to maintain, and whose costs will be passed on to tenant. Typically, a landlord will maintain two insurance policies, one being a commercial liability policy for any torturous injury to persons or property. Here the major issue is determining the amount of coverage that landlord is obtaining and the amount of any deductible (the cost of which tenant will share in with other tenants of the property). Currently policy amounts start at the low end of $1-2 Million Dollars and then at the high end of $3-5 Million Dollars.
The other policy landlord will maintain is fire/casualty insurance. In addition to the amount of the deductible, the other concern for the tenant is whether the policy will be for full replacement value or some percentage thereof (typically 80-95%). The other issue for tenants is what additional endorsements the landlord may acquire, the most debated ones being earthquake and insurance coverages, as these can be costly, and tenants will typically resist being required to contribute to such coverage.
The insurance section also identifies the polices of insurance that the landlord requires the tenant to maintain in order to lease the premises. Landlords will argue they are requiring this insurance for the tenant’s own protection, but landlords are just as concerned, if not more, with having additional protection for themselves. Tenants will typically be obligated to acquire commercial liability insurance (and be required to name the landlord as a “additional insured”), fire/casualty insurance for the tenant’s personal property within the premises (so tenants will be able to continue their business operations and, in turn, be able to pay rent), workers’ compensation insurance for their employees (so that tenant’s employees will be less likely to sue the landlord for injuries incurred within the premises), and vehicle insurance. The tenant should not be shy to push back if any required insurance is not a reasonably necessary expense given the corresponding risk to its business.
The insurance section of a lease generally includes provisions regarding indemnity and waiver of claims. A typical landlord favored lease will have the tenant waive any claims it might have against landlord resulting from any damages to persons or property occurring within the building and common area, unless resulting from the “gross” negligence or intentional misconduct of landlord, and likewise will have an indemnity provision whereby tenant agrees it will defend and keep the landlord safe from any claims or damages made by any person against landlord with respect to anything occurring on the property, unless caused by landlord’s “gross” negligence or intentional misconduct.
First off, the carveout that landlords offer, i.e., to be responsible for their “gross” negligence or intentional misconduct, is a red herring in that by law, no party can contract away their liability resulting from their “gross” negligence or intentional misconduct. In essence, these provisions try to shift all the risk of anything occurring on the property to tenant regardless to whether landlord had any fault in the occurrence that causes the damages, either by failing to maintain the property, breaching its obligations under the lease, or doing inadequate work. No sophisticated tenant would allow such provisions to stand in its lease, especially since, as noted above, landlord is obtaining a policy of commercial liability insurance that should cover their occurrences, and tenant is paying its fair share for the cost of such insurance.
The rule of thumb for commercial tenants in these situations is not to provide any release to landlord for its “simple” negligence, and basically provide for mutual indemnification between the parties. That is, the tenant will indemnify landlord for anything that occurs on the premises, unless and to the extent resulting from the negligence or misconduct of landlord, in which case landlord (and its insurance policy) is liable, and the landlord will indemnify tenant with respect to anything that occurs within the common area of the property, unless and to the extent caused by the “simple” negligence or misconduct of tenant, in which case tenant (and its insurance policy) is liable. Otherwise, if landlord was to commit a negligent act causing damages that tenant would need to make claim under its own insurance, then only tenant’s insurance policy would increase in costs. Whereas, if a claim is made under landlord’s commercial liability policy, though the policy cost might go up, at least tenant would only be responsible for its pro rata share of such increase, and not be burdened with the whole increase.
So remember, don’t be put off by landlords who point to the insurance provisions and say these are standard legalese provisions that only the lawyers understand. In every provision of a lease, one party is trying to shift some risk or burden onto the other by written agreement. They all represent business decisions that the tenant needs to understand, and determine whether or not the tenant is being treated fairly, or being taken advantage of by industry form agreements that are one-sided and heavily favored for the benefit of the landlord.