April 6, 2004

By Joel S. Brudner, CPA
President, CRS Lease Specialists

Alternative Dispute Resolution ("ADR") is not a new concept in the business context. Arbitration has long been the primary mode of ADR, particularly for contracts and collective bargaining situations; and its use in commercial leases affords the parties a more expedient and fair approach to governing disputes.

Arbitration involves a private, independent decision-maker, typically with the final authority to decide the facts of the controversy and to impose remedies or damages. The arbitrator is usually mutually agreed upon by the parties and has specific knowledge of the industry. This fact, along with significant advantages within factors such as costs, time, and privacy, create a more efficient means of resolution than the much-feared litigation process.

Common Area Maintenance ("CAM") charges are generally expenses such as operating costs and real estate taxes that are apportioned to tenants for reimbursement to the landlord. Essentially there are two basic issues in the lease clauses and resulting computation of CAM charges: the types of costs to be included and the manner in which the tenant's share is to be calculated. The landlord will have the unilateral responsibility to compute and assess these charges during the lease term. Tenants are increasingly performing lease audits that allow for a comprehensive review of the landlord computations and provide an equal opportunity for the tenant to ascertain lease compliance.

These audits, once frowned upon by landlords, have become more commonplace as a result of corporate America's cost savings initiatives and the emergence of professional lease audit firms. At one time an issue as to the requirement for the landlord to provide documentation of these costs, the courts have maintained that the landlord can be required to provide an itemization of actual costs as it is a limited fiduciary. Since the landlord maintains possession and control over these operating costs records, it seems appropriate that the tenant be privy to same. Reasonable audit clauses are now being included in the majority of today's leases, recognized by both parties as a component of fair dealing.

Lease audits reveal several types of errors ranging from simple mathematics to inadvertence on the part of the landlord or errors involving ambiguity as to the intent of the lease provision. Landlords often delegate billing functions to clerical-level staff that are responsible for handling many individually negotiated and complex leases simultaneously for multiple properties. In addition, when ambiguities are left for an involved party to decide, there is obvious tendency to seek benefit. Hopefully, the parties are capable of amicable resolution of simple errors; however absent of an arbitration option, the tenant can be truly harmed when other serious errors cannot be settled.

Leases normally provide for the tenant to pay such charges while under dispute. Without ADR, time consuming and costly litigation can take years to resolve and typically would have to involve significant dollars to justify pursuing. There may be no incentive for the landlord to settle. An equitable arbitration clause, including the right to withhold the amount constituting the perceived overcharge, is recommended, with the prevailing party being entitled to a prompt refund plus interest.

The arbitration clause should clearly spell out the process and obligation of the parties. For the arbitration to be effective, the disputes should be narrow and include the specificity of each issue, thus allowing the arbitrator to focus only on concise parameters. Because the arbitration will generally apply only to specific clauses within the lease in a narrow fashion, the parties must be meticulous in adhering to the specified process. There have been known cases where the landlord has effectively challenged in the courts the tenant's right to arbitrate due to flaws in the notification process or time allowance, thereby requiring litigation as the sole remedy for the tenant.

In negotiating settlements of CAM charge disputes, the mere presence of an arbitration option typically will bring the parties closer to a negotiated resolution. The ability to initiate a fast and binding arbitration eliminates the posturing and delay tactics often used by parties avoiding resolution knowing that they will benefit absent of a settlement. The availability of ADR eliminates certain dealing in bad faith and contributes toward enhancing the relationship of landlord and tenant.

Suggested Arbitration Clause Lease Language

Section ___, Arbitration. Any dispute not resolved within ninety (90) days between the parties with respect to Operating Expense shall be determined by arbitration by a panel of three arbitrators in accordance with the then current rules and regulations for commercial matters of the American Arbitration Association or its successor. The determination of the arbitrators shall be final, binding, and conclusive on all the parties, and judgment may be rendered thereon by any court having jurisdiction, upon application of either Landlord or Tenant. Each party shall have the right to select one of the arbitrators, and the third arbitrator, who shall be a competent and impartial person with at least 20 years' experience in the metropolitan area in which the Building is located in a calling connected with the subject matter of the arbitration, shall be selected by the other two arbitrators or, failing agreement by them, the American Arbitration Association.

Whether the issues extend to capital improvements versus repairs and maintenance expenses, allocation of real estate tax assessments, or the computation of "leasable premises", arbitration can be an effective mode of resolution and the stabilizing factor in resolving disputes by fair dealing. Leases and corresponding rent computations should be carefully and professionally administered by landlords and tenants alike. In an efficient commercial real estate market, tenants are knowledgeable consumers that scrutinize costs and value realty services and competitive landlords should strive to be the finest provider of leased space and services. As such, lease audits and alternative dispute resolution should be recognized as a requisite for the sophisticated tenant and the relationship-conscious landlord.