Restaurant lease extension: the math to do before you sign

Sign a lease extension only after three checks. First, divide rent, property charges and utilities by sales for every year of the new term, and compare the result with RestaurantDoctorAI's targets: 6–10% of sales for quick service and fast casual, 7–12% for full service, fine dining and bars. Second, see how far the new rent lifts the sales you need to break even. Third, read the clauses that change the cost later, and do all of it before the lease's deadline for giving notice.

The rent math to check first

A landlord's offer comes as a dollar figure: new base rent, maybe a new yearly increase. A dollar figure on its own can't tell you whether the space still works. Rent as a share of sales can, because you can put it next to a target for your kind of restaurant.

Count everything it costs to be in the building, not base rent alone. Many leases add “additional rent” on top: the New York City Department of Small Business Services' guide to commercial leasing lists a share of rising building operating costs, a share of rising real estate taxes, and a fixed yearly increase as common forms. Common-area charges (the shared parking lot, hallways, landscaping and building management) are another, covered below.

Above the top of your range, occupancy starts squeezing profit. Our rent percentage guide explains the ranges and why they include utilities. Two habits make the check honest:

• Use your real sales from the last 12 months, before tax and tips, not the sales you hope the next lease brings.
• Work out the share for each year of the new term. A yearly increase stacks on itself, and your sales may not grow at the same pace.

Example: a pizzeria's extension offer

Northside Slice is an example pizzeria, and its numbers are invented for this post. It is a counter-service and takeout shop, so its target is the quick-service range, 6–10% of sales. It sells about $85,000 a month. Its landlord offers a 5-year extension: base rent up from $5,500 to $6,000 a month, then 3% more each year, with common-area and tax charges estimated at $1,000 a month instead of $900.

Now the offer, year by year. The table holds sales at $85,000 and utilities and property charges flat, so it shows the effect of the rent terms alone.

Three things stand out. Day one of the extension already puts Northside Slice just over the top of its range. By year 5 it needs about $8,500 more in monthly sales than it makes today just to keep occupancy at 10%. And the 5 years of base rent add up to about $382,000, against $330,000 at today's rent: $52,000 more over the term, before any change in common-area charges.

None of that means “don't sign.” Moving costs money too. It means the owner walks into the talk knowing which number matters. A first year at today's rent, then 2% increases, with property charges held at $900, would keep the share under 10% in all 5 years at today's sales. That is one counter-offer worth pricing out before the meeting, not a promise of what the landlord will accept.

What the new rent does to break-even sales

Rent is a bill that stays the same whatever you sell. The U.S. Small Business Administration lists rental lease payments among its examples of fixed costs. So a rent rise moves your break-even point, the monthly sales that pay every bill with nothing left over. The rule of thumb from our break-even post: divide the rise by the share of each sale left after the costs that rise with sales.

Say Northside Slice's food, packaging, card fees and hourly shifts take 60 cents of each sales dollar, so 40 cents are left to pay the bills that stay the same. Those bills come to $30,000 a month today, rent included. These are example figures too.

A $600 rise in monthly occupancy cost adds $1,500 to break-even, and by year 5 the rise of $1,353 adds about $3,383. The cushion above break-even shrinks by about a third over the term if sales stay where they are. The SBA also suggests adding a little extra, say 10%, for costs you can't predict, which makes a thin cushion thinner.

The terms to read before you sign

The rent figure is only part of the cost. These clauses decide what you pay in year 3 and what happens if things go wrong. Lease law differs by state and even by city, and the SBA suggests having an attorney review a lease with you before you sign.

Escalation: how the rent rises

An escalation clause is the lease's rule for raising rent. The NYC guide describes three kinds: a fixed dollar amount each year, a fixed percentage each year, or your share of the landlord's actual increase in costs such as real estate taxes. It says fixed increases are typically 2–3% a year in that market. Some extensions instead reset rent to “fair market rent”; the same guide suggests asking for a limit, such as 90% or 95% of market, and a neutral broker or appraiser if you can't agree. Price each version for every year of the term, as in the table above.

Common-area and other property charges

A Seattle lease checklist for small businesses lists what common-area maintenance (CAM) charges can include: maintenance and repair, administrative fees, utilities, landscaping, parking lot upkeep and management salaries, varying by building. It notes that exclusions, such as capital expenses, are highly negotiated, and that an audit right lets you check what was passed through; some leases make the landlord pay for the audit when the overcharge passes a set percentage. The city's key lease terms sheet adds a cap: your share can't rise more than a set percentage a year, often a fixed figure such as 3%. Ask the landlord for last year's statement and this year's estimate, in writing.

Renewal option versus extension

Read what you're being asked to sign. The Seattle key terms sheet explains that a renewal creates a new lease while an extension continues the old one, and that clauses personal to the tenant, such as a personal guaranty, don't carry into a renewal term unless the option sets them out again. Check how many further options the extension leaves you, and how rent will be set for them: the sheet names a consumer price index, appraisal or arbitration, or a set percentage over the last month's rent.

Personal guaranty

A personal guaranty is your promise to pay the lease yourself if the business can't. The NYC guide separates a full guaranty, covering everything the tenant owes, from a “good guy” guaranty, which holds you personally only while the business occupies the space; once you hand back the keys after a default, you stop owing rent personally for the time after. It warns that clauses making you pay the whole remaining rent, do extra repairs, or repay allowances, free rent or broker fees mean the guaranty isn't a true good guy guaranty. On an extension, read whether your existing guaranty now covers the new years and the higher rent. In Northside Slice's case, that is about $382,000 of base rent.

Relocation clause

A relocation clause lets the landlord move you to another space in the property. The Seattle key terms sheet says restaurants in particular should resist one, because the business depends on its location. If it stays, the sheet lists limits to ask for: at least 90 days' notice, not more than once in the term, not in the first 12 months or in November and December, comparable space, the landlord paying the moving and build-out costs, and the right to end the lease if the new space doesn't work.

Percentage rent and a sales exit

Some leases add percentage rent: a share of sales above a set level, the breakpoint, on top of base rent. If yours does, count it with the costs that rise with sales. The key terms sheet also describes a gross sales kick-out clause, which lets a tenant end the lease if sales stay under an agreed figure. Neither is in every lease, but both change the math above.

Timing: start before the notice deadline

Start well before the deadline, so you have time to ask and to answer. If your lease has a renewal or extension option, it sets when your notice must reach the landlord. The Seattle checklist explains why: landlords want notice early enough to market the space if you leave, but not so early that they can't see how you've performed. Find that date first and put it in your calendar with a reminder months ahead.

If there's no option, the NYC guide says a landlord isn't required to renew, may ask any rent once the lease ends, and that you should contact the landlord well before the term ends. It also reminds tenants not to rely on spoken agreements or a letter of intent: what counts is the signed document. The same guide notes that landlords can be more willing to offer a reasonable rent to a tenant who pays on time and keeps to the lease.

1. 01Find the notice date and the method the lease requires (written notice, to which address).
2. 02Work out your occupancy share and break-even under the offer at least a month before that date.
3. 03Send your counter-offer in writing, with the numbers: your sales, the share, and the rent that keeps it in range.
4. 04Read the final draft against the offer before you sign: rent table, increases, charges, guaranty, relocation, options.

This week

1. 01Find your lease and write down the end date and the notice deadline for any renewal or extension option.
2. 02Add up the last 12 months of base rent, property charges and utilities, and divide by sales for the same months.
3. 03Put the landlord's offer into a year-by-year table like Northside Slice's, and run the break-even calculator with today's rent and with year 1 and year 5 of the offer.
4. 04Mark the escalation, common-area charges, guaranty, relocation and option clauses, and list the questions to ask in writing.