At the beginning of each year, landlords reconcile their buildings’ actual expenses with the amounts contributed by their tenants during the prior year. They then issue adjusting statements that settle each tenant’s liability and establish the new estimates for the current year.
Although landlords are obligated to follow the leases when issuing these statements, tenants have the burden of identifying errors and bringing them to their landlords’ attention. If there is anything wrong with these end-of-year statements, and no objection is raised, the statements are deemed correct and errors can become embedded in the leases’ financial structure for the balance of the term.
This difficulty is exacerbated by three additional factors:
- Identifying errors takes time, and most leases give the tenant only a short window (usually 30-120 days) within which to object to any errors the statements may contain. If they do not object on time or in the correct form, the statements are deemed correct and the errors are no longer fixable. (For a more detailed discussion of lease audit deadlines, see our Article, “Negotiating Audit Rights in Leases.”)
- Detecting the more subtle errors takes a high level of expertise. Most tenants and their lease administrators are able to identify deviations from the stated lease terms (such as wrong base year, wrong share or incorrect math), but the more significant errors are caused by ambiguity and incompleteness of lease language. These errors are subtle and require a fairly high level of expertise to detect.
- Tenants are often deceived by the amounts due pursuant to these statements and are often of the view that if they don’t owe anything at the end of the year, they have nothing to worry about. However, the amount due at the end of the year is only a reflection of how close the estimates were to the actual expenses and do not reflect the tenant’s underlying liability.
In order to help limit exposure in this area, tenants are cautioned to review each lease carefully and identify the types of pass-through charges that are called for. They should identify the time periods that apply to the tenant’s right to object and identify the nature of the action that must be taken within the time period. Finally, they should develop a protocol for issuing blanket objections to preserve rights to reclaim overcharges, and develop a plan to apply the appropriate level of review for each bill within the time periods set forth in each lease.