Comparing Leases in the United States and Germany

When we looked at commercial leasing practices in the U.K. last year, we found a business and legal environment significantly different from what commercial tenants would expect to find in the United States. U.K. leases tend to be heavily weighted toward the interests of the landlord, and as a result, incoming tenants find themselves with little room to negotiate.

Not so in Germany. U.S. businesses looking to lease property in Germany will find a real estate structure surprisingly similar to the leasing environment in the United States. It's common practice to negotiate most of the details of the lease, and the respective bargaining position of the landlord and the tenant will depend on the specific market conditions.

However, tenants can still expect some key differences, including a requirement to restore the property to its original condition at the end of the lease term. In addition, short-term leases, which are widely available in the United States, are usually only available in exceptional situations in Germany.

Deal Terms

Here's what U.S. businesses can expect when negotiating many of the common terms of leases on property in Germany:

Lease length. If you're planning to do business in Germany, expect a long stay. For prime properties, a lease period ranging from five to ten years is common. Shorter lease terms are generally available only if the market conditions for the building are below average. As in the United States, it is generally difficult and expensive to get out from under a lease before the term expires. You may be forced to pay the rent to the end of the contract, or, in some circumstances (such as retailers in shopping centers), you may be forced to keep your business up and running throughout the term of the lease. As noted below, however, sublease rights can be negotiated to ease the burden of long lease terms.

Rent and rent adjustments. The rent is usually calculated in Euro per square meter per month. For prime properties in cities like Frankfurt and Munich, the rent may be as much as 50 Euro per square meter per month. However, the average price is much lower. (German leases generally set rental costs per month, unlike most of the United States, where the price is per year.)

Rental contracts also normally contain rent adjustment clauses, either on a fixed basis (i.e., the tenant has to pay an increase of x-Euro per square meter every year) or on an index basis (i.e., the rent adjustment depends on the increase of a cost of living index).

Operating expenses. The tenant generally pays all the variable expenses of maintaining the building through a monthly service charge (known in German as the Betriebskostenvorauszahlung). At the end of the year, the landlord compares the actual maintenance costs to the amount paid via the monthly service charge and either refunds the amount overpaid or bills the tenant for the shortfall. (If there's a significant disparity, the monthly amount may be adjusted for the following year.)

The payment for operating expenses includes the city property taxes, which vary widely from city to city, but are substantially lower than in the United States. In multi-tenant properties, the operating expense also usually includes janitorial services. (Tenants in single-use properties generally arrange their own janitorial services and pay for them directly.)

Most owners use facility management businesses to run the property (either as a subsidiary or on a contract basis), and the operating payment generally includes a management fee above and beyond the actual expenses.

Value Added Tax. In addition to the city property taxes, which are included in the operating expenses paid by the tenant, the landlord also charges the VAT (value added tax), a country-wide tax equal to 16 percent of the rent. As a result, the amount paid to the landlord includes three distinct components: the rental cost, the operating expenses, and the VAT. VAT is typically creditable or refundable for most business tenants in Germany by filing a monthly VAT return.

Renewal rights. The tenant has no automatic renewal right, unless such rights are negotiated and included in the rental contract. A tenant is generally able to negotiate the right to extend the lease by one to five years.

Termination rights. The landlord has the legal right to terminate the rental contract without notice due to "bad tenant" grounds, such as failure to pay two successive monthly rental payments. Other potential grounds for termination are generally included in the rental contract, including insolvency, persistent late payments, or persistent breaches of other terms of the contract.

As a practical matter, however, evictions can be a drawn-out procedure. A normal eviction can take six months or more. As a result, it's common for landlords to ask for sizable bank guarantees (see below) to offset the risk of eviction. (If you plan to challenge an eviction order in court, however, remember that the loser pays the winner's court costs and attorney's fees in Germany.)

Leasehold improvements. The condition of the property at the time it is handed over to the tenant is normally negotiated as part of the contract. Most older properties are rented in a fully fitted condition. Usually, tenants will have the right to add additional improvements depending on their needs, and it is sometimes possible to negotiate rent concessions if the tenant has to pay to improve the property.

New properties are often fitted by the landlord to meet the needs of the tenant. For prime or anchor tenants, the landlord usually pays these costs; for tenants with less bargaining power, the cost of improvements is a matter for the negotiating table.

Redecoration. The tenant generally has to pay all costs for redecoration, renovation and necessary repair costs during the rental period—and for a complete renovation of the whole leasehold at the end of the rental contract. The latter requirement is highly unusual in the U.S., except in circumstances where a property has been so customized that it is largely unusable for other tenants.

Security. It is common for a landlord to ask the tenant for a bank guarantee as security with regard to rent, renovation, and redecoration costs at the end of the rental contract. Three monthly rental payments are normal for a guarantee, but newly established companies may have to provide the landlord with a guarantee covering up to one year of rental payments. Prime tenants may avoid a bank guarantee if they have an excellent reputation and/or credit rating.

Subleasing

Most tenants want the flexibility to sublease the property if necessary. In both Germany and the United States, the landlord usually reserves the right to give permission before a property can be subleased—but the landlord also usually agrees that it will not withhold permission absent unusual circumstances.

Brokers

It's common to use real estate brokers in larger deals. In the United States, the landlord traditionally pays the broker fee (although the cost is usually priced into the deal). In Germany traditionally the tenant pays the broker fee. Due to the market situation or for prime tenants the landlord may accept to pay the broker fee by himself.

Timetables

Given the detail of German lease contracts, negotiating lease terms takes time, particularly if the condition of the leasehold is part of the deal. A landlord will not usually allow a tenant to occupy the property until the lease contract is fully negotiated and executed.

The following steps can keep delays to a minimum for tenants that anticipate taking property in Germany:

• plan carefully for your needs (i.e., type of space required and any special conditions necessary) and calculate what are you willing to pay;
• provide the negotiating managers with proper powers of attorney;
• discuss with your bank the necessary bank guarantee in advance; and
• take the draft contract to your advisers for review as soon as possible.