End of the Wild West In Denver's Short Term Rental Market?

Cheeseman Park Winter Morning:  Copyright David C. Uhlig 2016

Tonight city council votes on two ordinances legalizing (and regulating) strs in primary residences.

     Did you know that operating a private home as an Air BNB, VRBO or as a similar short-term rental property, is currently illegal in the City of Denver? Denver’s zoning code specifies the types of uses that are allowed as accessory to residential use and in almost all cases, short term rentals of 30 days or less (“STRs”) aren’t listed.  The city’s position is that currently, these short term rentals are not allowed under most residential zone districts but the city also does not enforce the prohibition.  According to an April 7, 2016 letter to the city from the Denver Short Term Rental Alliance, to date the city has only received six (6) complaints about STRs.     One exception is that in mixed use commercial zone districts, an STR may be allowed as a “lodging accommodation” if the owner obtains a zoning permit and complies with relevant parking and building ordinances.   

     Tonight the Denver City Council is scheduled to vote on two bills: one would revise Denver’s zoning code (CB16-0261) to permit short term rentals in an owner’s primary residence; and the other, a companion bill (CB16-0262) would enact a licensing and regulatory framework for short term rentals in primary residences.  As drafted, the zoning code amendment is expressly conditional upon passage of the companion bill.  As drafted, the proposed zoning code amendment legalizes STRs in primary residences.  By preventing owners from using investment properties and vacation homes as STRs, Denver’s zoning ordinance limits owners to a single STR.  The intent to prevent investors and businesses from operating STR portfolios or STR investment properties in residential neighborhoods underlies the proposed ordinances which expressly forbid STRs operated by entities such as corporations or LLCs, joint ventures or associations.  While owners may be absent during the short term occupancy, as drafted the proposed zoning amendment expressly requires that owners live in the residence.  The companion bill would delegate authority to the Denver Department of Excise and Licensing to license and regulate STRs.  In addition to numerous other requirements, under the proposed licensing ordinance STR owners will be required to apply for a license, register with Denver Excise and Licensing and obtain a lodging tax identification number.  Lodging taxes on STRs would be the same as for a hotel room (10.75%).  Additionally, if the bills are passed, STR owners will be required to maintain fire, hazard and liability insurance at levels set by Denver Excise and Licensing, maintain a minimum level of life safety systems in a residence used as an STR, and include the STR license number in all advertisements.  The fee for the STR license will be $25.00 per year and fines for advertising without a license and/or operating without a license will be up to $999.00 per incident.

some groups think the primary residence requirement is anti small business.

     In the two-year run up to the vote, council members and staff received varying input from numerous parties running the gamut from individual homeowners and neighborhood associations to property investors and short term rental industry groups.  Much of the feedback received by the city characterizes the primary residence requirement as anti-small business and complains about the increased regulation of private property, increased taxes and favoritism toward the hotel industry.  The Denver Short Term Rental Alliance’s letter states that the primary residency requirement will effectively lock VRBO (Vacation Rentals by Owner) out of Denver and the city will be deprived of a significant tax revenue stream.  Proponents of the primary residence requirement feel it is appropriate in that it limits STRs to small businesses that generate supplementary income for homeowners and cite concerns about investors buying up entire blocks or apartment buildings and operating them as STRs in otherwise primarily residential neighborhoods.  In general, they  feel such operations would pose a risk to public health and safety and detract from the quality and vibe of Denver neighborhoods; the obvious concern being strange cars and stranger people steadily coming and going.

     A seemingly simple issue on its face, legalizing STRs in Denver has broader implications.  If the council votes in favor of these bills tonight, individual owners renting out a room or garage apartment on a short term basis, as a means of earning supplementary income will be permitted to continue doing so and now, legally, although now subject to applications, annual reporting and taxation.  Owners operating investment properties as true STR businesses, or desiring to do so, have been kicked out of the pool in the interest of protecting neighbors who own or who are traditional renters. The STR game in Denver may be more exclusive and predictable by the end of the day; and also more expensive to play.  One cannot help thinking that many STR owners will miss the days of the wild west.  

Taxation of LLCs: More to Check Than A Box (Post 2 of 3 on LLC Basics)

Arapahoe Basin Spring 2016.  Copyright, David C. Uhlig 2016.

     This is the second in a series of three posts concerning LLC basics; the first covered operating agreements, this one covers taxation and a future post will cover liability protection and piercing the corporate veil.

Depending on the entity, the irs taxes income and losses differently.

     Working with entrepreneurs in real estate and other realms is a lot of fun because it affords many opportunities to listen to the plans and ideas of creative and intelligent people and and assist them with making those plans a reality.  Almost daily, people call or sit down across from me and want to talk about creating an LLC.  The plans for the entity and experience of the clients vary. Sometimes, they are financially savvy and/or they’ve talked extensively with tax advisors in advance and have a solid understanding of LLCs, why that entity will work best for their purposes and exactly how it needs to be structured to reap the maximum benefit for them and their co-venturers.   Other times they haven’t thought about entity formation much beyond knowing they need one and they’ve heard that LLCs are a great choice from a tax perspective. To me, the first scenario is always preferable because while I can describe the different ways that various entities, including LLCs, will be taxed, I don’t purport to advise clients on the consequences the taxation regimes will have on the various members, partners or shareholders. When it comes to planning the structure of an entity, all but the most sophisticated clients are best served by working with a team of advisors which includes, at a minimum, an attorney, a business CPA and a financial advisor.  Depending on the entity chosen, income generated or losses incurred are treated differently for tax purposes. Let’s take a close look at how the IRS treats LLCs and some of the basic structuring options that are available to owners that choose to operate as an LLC.

     The IRS treats single member LLCs as disregarded entities.  The entity does not file a return. From a tax perspective, it’s as if the LLC doesn’t exist. As with a sole proprietorship, the member simply attaches a Schedule C reporting the profits or losses of the business to their individual tax return.  Unless the LLC elects to be taxed as a corporation, LLC income is passed through to the member and is taxed as his or her individual income. Unlike single member LLCs, corporations are treated as separate entities by the IRS.  As such, C corporation income is taxed at the corporate tax rate and when part of that income is paid to shareholders as wages or salaries, it is taxed again at the individual tax rates (unless the corporation is an S corporation); this is the infamous “double tax” synonymous with doing business as a C corporation.   So, if a single member LLC is taxed like sole proprietorship, which doesn’t require any formalities, why form and operate under an LLC?  Unlike with a sole proprietorship, the members of a properly organized and operated LLC are insulated from the debts and liabilities of the LLC.  For that reason alone, in most cases creating and operating as an LLC is worthwhile; certainly if there is any possibility of exposure to third party liability.

single member llcs are disregarded entities; multi member llcs are tax reporting entities but not tax paying entities.

     Unlike single member LLCs, the IRS recognizes multi member LLCs as reporting entities, like a partnership. They file a separate return, but the multi member LLC’s income or losses are passed through to the members rather than taxed to the LLC itself.  In common parlance; pass through entities such as partnerships, multi member LLCs and S Corps are tax reporting but not tax paying entities.  The pass through is accomplished by attaching Schedule K-1s to the LLC’s tax return describing each member’s pro-rata share of the LLC’s income. 

     One thing to bear in mind when evaluating choice of entity and whether an LLC is the best entity form for a business is that the most substantial tax savings realized by LLC members is often not on income taxes.  Individual and corporate tax rates are not widely disparate until income amounts are very high; that isn’t a problem commonly suffered by early stage companies.  More substantial tax savings can be realized by LLC members if the business expects long term capital gains or if it incurs losses.  The individual tax rate on long term capital gains is 15% for all but top earners.  Conversely, corporate long term capital gains are taxed at the corporate income tax rates: 15% on the first $50,000, 25% on the next $25,000, 34% on the next $25,000 and then 39% on the next $235,000.

     At the risk of stating the obvious, many startup companies and early stage businesses experience losses in their early years.  If an individual is a member of an LLC with losses and that person has other alternative sources of income, it may be possible to offset the LLC’s losses against that other income and/or completely eliminate income taxes otherwise due.  Each business and its principals have a unique equation so, it’s important to closely scrutinize choice of entity.  That being said, the advantages with respect to treatment of losses and of long term capital gains present a strong case for many early phase businesses to utilize an LLC instead of a corporation.

     At this point, you may be wondering ‘why not elect corporate taxation and file an S election so the business can utilize the corporate structure, benefit from a liability shield and obtain pass through treatment for income tax purposes?’  Additionally, S Corporations have an employment tax advantage. Wages and salaries paid to S. Corporation shareholders are subject to employment taxes, paid through withholdings, but not other S. Corporation income reported on a shareholder’s K-1.  The S. Corp can hold back income for reserves or capital acquisitions and avoid employment taxes on that corporate income when it’s distributed as dividends or when shareholders sell their stock.  Despite other tax advantages, LLC’s aren’t ideal when it comes to employment taxes.  All LLC income is treated as wages to the Members and as such it subject to employment taxes.  In 2016 the rate is 15.3% on net income up to $118,500.00 and 2.9% of the rest.   

s corporations are subject to several restrictions that dont apply to llcs.

     Still with me?  In summary, subject to exceptions based on circumstances and plans, an LLC is often better than a C corporation for early phase businesses but LLC’s do not enjoy, at least not readily, certain tax advantages enjoyed by S corporations, such as employment tax savings. S corporations also enjoy tax free reorganization benefits that are especially attractive in certain acquisition contexts.  If you are thoroughly caffeinated, you may now be wondering why one would consider an LLC when it’s possible to obtain pass through taxation and employment tax advantages by incorporating as an S corporation.  The short answer is, it’s not that simple!  S corporations have several disadvantages, mostly in the form of restrictions, that LLCs do not suffer from.  To name a few big ones: S corporations may only have a single class of stock; unlike LLCs, S corporations can’t use special allocations to assign disproportionate losses (or gains) to certain shareholders that may want those losses; and likewise, S corporations must distribute their income pro-rata, according to share ownership.  This last restriction, when combined with the first, makes preferred returns very difficult.  In short, S corporations afford many of the same benefits as LLCs, as well as some notable extras such the employment tax advantages, but they are much less flexible than LLCs from a structural standpoint. At some point, I’ll do a post examining the relative advantages and disadvantages of S corporations, but, sticking to the theme, LLC basics, there is a final twist:  LLCs, even single member LLCs, may elect corporate taxation, then file an S Election and thereby enjoy the employment tax benefits of the S. corporation structure! 

     When an LLC makes an S election it agrees to play by the S corporation rules.  That can be a non-starter for many businesses; it’s a decision that should be carefully evaluated.  An LLC that elects corporate taxation may not change back for 5 years and then must wait 5 years before it may again elect corporate taxation (i.e., a company cannot pick and choose based on how any given year is going).  Further, changing back to an LLC is treated as a liquidation which can be a taxable event.

     This blog only scratches the surface, the waters become deeper and murkier fast.  There are many nuances that are not addressed here in the interest of sticking to the theme.  Ideally, when working with clients on choice of entity matters, its best for attorneys who are not tax specialists (such as myself), to work with a team comprised of a business CPA and/or a financial planner, at a minimum.  While most business attorneys should understand and be able to explain the basic tax methodologies applicable to different business entity forms, a CPA or tax specialist should consider and advise clients on all the nuances and how they impact a particular client’s overall financial picture.  Thanks again for taking the time to read the Summit 6 Legal blog.

 

Commercial Real Estate Finance - Helping Borrowers Herd Cats.

Looking over Confluence Park April 2016.  Copyright: David C. Uhlig 2016

Looking over Confluence Park April 2016.  Copyright: David C. Uhlig 2016

     The reasons property developers and owners borrow money are as varied as the types of loans and lenders available: acquisition; rehabilitation; and re-financing are common.  A veritable buffet of lenders is available to those in need of funding, including: all sizes of conventional banks; pension funds; insurance companies; hard-money lenders and private individuals, just to name a few.  Loan rates, terms and structures vary greatly depending on the nature of the project as well as a borrower's financial picture and can become creative and complex, very quickly.   By the time a borrower is presented with a loan application or commitment letter, they've often spent a good deal of time and energy working with brokers, shopping various lenders, analyzing and negotiating loan terms, and are ready to get their project rolling forward.  Invariably, numerous other issues and ticking timelines demand attention.  One memorable client and I used to joke that the entire process is like herding cats!  It is at this point, where limited time and an ever expanding task list tempts one to 'just sign and move on', where it behooves one to slow down and proceed cautiously.  Before putting pen to paper on loan applications, loan commitments and loan documents, and then closing and pulling down funds, there is more to think about.  To ensure a smooth project, its essential for borrowers to have an attorney they can rely on to help ensure their interests are properly represented and protected in the loan documents, while paying attention to the loan closing timeline and its relation to other timelines.  

Borrowers should have their attorney review the loan application and loan commitment before executing.

     Most lenders require borrowers to provide a legal opinion certifying the enforceability of the loan documents but experienced borrowers understand they need counsel for more than the borrower’s opinion letter.  Wise borrowers involve their attorney early in the process and have them review the loan application and commitment before executing them.  Sometimes, lenders provide an abbreviated loan commitment and a dense loan application containing material terms and providing for substantial fees up front, when the application is executed.  Therefore, early and as often as necessary, borrowers should have a detailed discussion with their attorney concerning their project and plans for the funds, their overall timing requirements, and any burning questions or issues they have about the loan process.  Only then is it possible for the borrower’s attorney to effectively review the loan application and subsequent loan commitment with an eye toward confirming that the loan reflects the deal the borrower expects.  When representing borrowers my initial approach is to follow the money.  The application and/or the commitment addresses the fees, costs and expenses that the borrower will pay to the lender, such as application fees.  While its important for a borrower to understand when these fees are due, its essential that the triggers for non-refundability of the fees make sense.  Fees shouldn’t become non-refundable before studies such as environmental analysis and appraisals are approved and other approvals and conditions to closing the loan are buttoned up.  Loan applications and commitments are often vague or inconsistent concerning refundability of fees but if the loan doesn't close because the lender is dissatisfied with the results of post application due diligence or due to issues beyond the borrower's control, the borrower should receive a refund of advance fees.  Clients are very grateful when I'm able to remedy such refundability issues before they sign the application or loan commitment and it makes me feel great to add value early on.

Borrowers can best serve their own interests, and avoid delays, by involving their attorney in the conversation around the loan transaction as early as possible.

     One of the primary tasks a borrower's attorney performs is reviewing loan documents and providing a borrower's opinion letter that is satisfactory to the lender and lender's counsel.  Often, with commercial projects or even a straight forward re-finance, there are business entity structuring or restructuring tasks that must be completed.  That is another example of how borrowers can best serve their own interests, and avoid delays, by involving their attorney in the conversation around the loan transaction as early as possible.  Sometimes reviewing the loan documents for a borrower is a straight forward exercise confirming the documents match the business terms in the loan commitment, are compliant with Colorado law and don't contain any unwarranted or overly burdensome terms.  However, since the actual loan documents are almost always prepared by the lender's counsel, I never assume that will be the case and want to get my eyes on the draft documents as early as possible.  Invariably, the documents need help; sometimes its a little and sometimes, a lot.  The amount of work required at this point is usually directly related to the complexity of the loan transaction and the sophistication of the lender and their attorney.  I never cease to be surprised at this phase; even in the smoothest of transactions, often, lender's counsel is busy and working on several transactions at once and the draft loan documents contain incorrect or inapplicable terms and provisions.  While rare, sometimes large and sophisticated national or global lenders, with out of state counsel, are unaware of Colorado's public trustee systems and require input and help with the deed of trust and other documents referring to the security documents.  To my frustration (and horror), I've seen banks insist on using loan documents clearly designed for residential transactions and then balk at necessary changes to them.  In the end, my point here is that while I always hope for loan document review and finalization to proceed smoothly, invariably there are issues, and sometimes they are numerous!

     With the borrower's loan opinion, at a minimum, most lenders require opinions confirming enforceability of their loan documents, proper organization of any borrower entities and due authority of borrower signatories.  Lenders usually provide a form of opinion they'd prefer borrower's counsel to execute.  When representing lenders, from time to time I've seen borrower's counsel execute the suggested form opinion after merely confirming the accuracy of the listed loan documents and making a few minor changes.  Again, I realize practitioners become very busy but in such instances I always feel badly for those borrowers!   As is the case with legal negotiations over other standardized transaction documents, loan opinion letters usually warrant some borrower side revisions that come as no surprise when properly requested. In loan opinion letters drafted by lender's counsel, those include assumptions, qualifications and exclusions.  Its on the borrower's counsel to draft such changes to the opinion letter and its true that borrower's counsel is the one most exposed by signing legal opinions without requesting, and where necessary, insisting on the appropriate changes, but, from the client's perspective, one has to wonder what else the attorney missed if they didn't appropriately limit the borrower's legal opinion!

When borrowing funds it behooves borrowers to adhere to the maxim, Caveat Emptor!

     To conclude, while all parties in a loan transaction are eager to close and on a certain level, so long as payments are timely met there may be no problems, when borrowing funds it behooves borrowers to adhere to the maxim:  Caveat Emptor!  Whether a borrower is a seasoned and sophisticated real estate developer or an eager entrepreneur learning the ropes as they go with a smaller project, borrowers trying to pull a project together are pulled in several directions at once and even the most able cat herder can benefit from an attorney who understands their overall goals and who is well versed in helping facilitate loan transactions.  Luckily, fee structures at Summit 6, based on statements of work, allow me to engage in preliminary conversations with clients as early and as often as they desire, off of the clock, so that both of us can get a handle on the overall picture, what needs to happen and how to get there most effectively.  When representing borrowers my goals are: to be sure they are covered legally to the greatest extent possible, to shoulder the burden of nuanced legal issues in the loan documents to the extent my client is comfortable with that, and always keeping the transaction moving steadily toward a timely closing. Giddy Up, Cat Herders!


LLC Operating Agreements: More Than A Form (Post 1 of 3 on LLC Basics).

Sunrise Cashregister.  COPYRIGHT:David C. Uhlig 2015

Sunrise Cashregister.  COPYRIGHT:David C. Uhlig 2015

Filling Out And Filing Articles of Organization Is Only The First Step In Forming An LLC to Conduct Business.

     The other day a friend asked if I’d send him an operating agreement that he and some others could use for an LLC they were setting up.  He assumed drafting an operating agreement for the multi-member LLC would be a simple matter of filling in the blanks.  It quickly became clear he’d confused the operating agreement with articles of organization.  I'm the first to admit it, except for the question of who will manage the entity, creating an LLC is simple.  One only needs five minutes to fill out the form articles of organization on the Colorado Secretary of State's website and $50.00 to cover the filing fee.  Designating manager managed, instead of member managed, in the form articles can have consequences related to securities laws so it is important to make the correct designation when filing out the online form, but, after registering the entity, it legally exists.  Filling out and filing articles of organization, however, is only the initial step in establishing an LLC to conduct business. 

Every llc needs an operating agreement, establishing basic parameters and procedures for the members to operate it

     While not required under Colorado law,  every LLC needs an operating agreement that establishes basic parameters and procedures for the members (LLC owners are referred to as members) to operate it.    Even a simple single member LLC needs a basic operating agreement. Form operating agreements are easy to find online for those willing to risk drafting on their own, and on-line legal sites offer very basic services at cut rates, but I advise founders against either of those approaches; the text in operating agreement provisions have legal and tax consequences and in most cases, there are differing ways to approach operating agreement provisions, depending on the circumstances.  An LLC operating agreement is a resource containing the answers to many of the questions that come up in the day to day operation of an LLC and should be the cornerstone of any new business.  As such, it should be properly considered and agreed upon by all LLC members, with the assistance of an experienced business attorney, before the LLC commences operations.

     Most founders forming an LLC, either on their own as a single member LLC, or as a group in an LLC with multiple members, do so with the desire to shield their personal assets from liability for the LLC’s debts and actions.  If properly created and maintained, an LLC will exist as an entity separate and apart from its members and limit the liability exposure of its members to the assets of the LLC.  What many don’t realize, or quickly forget once they become engrossed in the day to day operation of their business, is that just forming and operating as an LLC in name only, without observing corporate formalities, eliminates any limited liability the LLC would otherwise afford its members.  If the LLC is sued, a plaintiff’s lawyer will look for a way to argue that the LLC should be ignored and that its members should be personally liable for the LLC's debts or actions, especially if the LLC has insufficient assets to cover the alleged damages.  This is known as “piercing the corporate veil” and the ability of a plaintiff’s attorney to succeed in the argument and get at the personal assets of an LLC’s members, depends on their ability to prove certain facts.  I'll go into greater detail in a separate post about the various factors supporting efforts to pierce the corporate veil of an LLC but suffice it to say, the lack of an effective operating agreement describing how the company operates is one factor a plaintiff’s attorney will focus in on if possible.  From a practical standpoint, if the members didn’t take the time to think through an operating agreement describing the operational parameters of their business, its probable they’ve ignored corporate formalities from day one and demonstrating that the LLC is effectively the alter-ego of its members, and therefore an ineffective liability shield, may not be difficult. 

operating as an llc in name only eliminates any limited liability the entity otherwise affords its members.

            In addition to helping limit the liability of LLC members, an effective LLC operating agreement should establish how the company operates and answer many key questions clearly and concisely: who contributed what initially, how cash accounts are handled, any differences between classes of membership interests, how the management structure works (even if it is only one person), the duties of the various officers, who is entitled to manage and make certain decisions on behalf of the LLC and for those decisions requiring consensus of more than one member, subject to what voting methods. LLC membership interests are personal property and as such, under Colorado law, are transferable.  Therefore, if a business has more than one member (LLC owners are referred to as members), its important for the operating agreement to establish procedures that establish how events like divorce of a member will be handled, as well as sensible conditions and pre-requisites applicable when a member desires to disassociate with the LLC by selling their membership interest.  Other important events include bankruptcy of a member, the death of a member, and disability or incapacity of a member.

     Aside from corporate formalities, operating parameters and transfer rules, there are many practical reasons for operating agreements.  If a business applies for financing, receives a purchase offer, is looking at bringing on investors or applies for numerous types of licenses, the applicant will be requested to provide a copy of the LLC operating agreement and numerous additional documents tied to it, demonstrating compliance with it.  It can be a big problem when a bank or potential investors ask for the operating agreement and other corporate records, such as minutes, and none exists; it never ceases to surprise me but, it happens.

Summt 6 Legal offers a flat rate to help entrepreneurs and start-ups establish single member LLCs.

     Can one create an LLC and start running a business without an operating agreement?  Yes, they are optional documents under Colorado law.   Is it advisable?  I hope that after reading this short post, the answer is obvious; No.  Doing so is the height of folly!  Any business with owners who desire to shield their personal assets from liability for the debts and actions of the LLC must operate pursuant to corporate formalities.  Working with a corporate attorney to implement an operating agreement that makes sense is a good first step in ensuring your business will be run appropriately from the beginning.   Summit 6 Legal offers a flat rate to counsel clients about setting up a single member LLC and to draft a custom single member operating agreement for them.   For more complex operating agreements, as with all services offered by the firm, legal fees are estimated and capped up front so our clients always know the maximum they’ll spend and can rest easy knowing that an attorney has their back.  

Just a Simple Lease? Think Again.

IMG_1968.JPG

Downtown Denver Early A.M. photo by David C. Uhlig

AFTER LANDING A POSITION WITH A 17TH STREET LAW FIRM I SPENT THE NEXT 5 YEARS FOCUSSED ON LEASING

     In May of 2000, after graduating from law school, I packed all my possessions into a Ryder truck and headed west. I’d recently turned down a generous offer with a reputable firm in Texas because, well, it was in Texas, and instead I started sending resumes to every law firm in Denver with over five lawyers; none responded.  It was a risky move but I was 25, full of confidence, ready for adventure and excited to finally execute on a dream I’d had since I was a kid, moving to Colorado.  I grew up around the oil business and was mentored by a couple oil and gas lawyers, so while I would’ve taken just about any job offer, in my heart I wanted to be a deal lawyer more than anything, like those early mentors.  Long story short, after a couple weeks I landed a part time job in the legal department of a national hotel company where my first assignment as a new lawyer was to draft a display window lease for a hotel. I'd arrived!  A couple months and hundreds of cover letters later, I landed a position with a 17th street law firm and then spent the next five years, day in and day out, drafting and negotiating leases: cell tower leases, office leases, storage space leases, retail leases, airplane hangar leases, trans-loading facility leases, and leases for national restaurant chains.  I used to dream about leases.  Former colleagues of mine from certain firms that shall remain nameless, who may be reading this, are currently nodding their heads – or maybe shaking them!  That story is the long way of circling back to the title of this post.  There is a statement every real estate lawyer has heard, probably more often than he or she cares to admit; “Its just a simple lease, take a quick look and let me know its okay.” As often as I’ve received the request, I’ve yet to see a “simple” lease. They may have short terms of duration, be for small spaces or involve low rental rates and I’ve definitely seem them drafted on short forms (short in both length and in thought), but leases are contracts, and like any contract, lease provisions, or lack thereof, can have serious consequences for both landlords and tenants.  Any lease, whether for a display window or several thousand square feet of space, involves many issues.  Parties proceeding on their own, without competent counsel, do so to their detriment.   

EACH CLAUSE IN A LEASE HAS AN OPTIMAL POSITION FOR EITHER SIDE AND USUALLY SEVERAL FALL-BACK POSITIONS

     Whether you are a landlord or a tenant, the lease you are considering was likely drafted, at some point, by a lawyer. While very desirable tenants may control the form of lease initially presented, its been my experience that the initial lease is usually prepared by the landlord’s attorney.  Love us or hate us, an important thing to remember about attorneys is we have an ethical duty to vigorously advocate for our clients.  That means the lawyer drafting the initial version of the lease, if competent, drafted it to their client’s ultimate advantage and in their client’s favor. Every clause in a lease has an optimal position for either side and usually several fall - back positions.  Whether representing landlords or tenants, a competent leasing attorney always asks for certain things and will know the appropriate counter-proposals to changes proposed by the other side.  So, when one chooses to go it alone, without a real estate lawyer involved, or if they engage a lawyer without leasing experience, the attorney who prepared the lease notices. The drafting attorney often reminds the soloist that they do not represent them (we always should) and asks if they have an attorney.  If the answer is “no, its just a lease”, their eyes light up!  It’s the small pleasures in life after-all.

     A few examples of leasing issues to think about follow below; it’s the least I can do if you’ve suffered my reminiscence this far.  Commercial landlords usually require personal guaranties from smaller, “mom-n-pop” tenants and its not an uncommon request of sophisticated and proven tenants.  Tenants with enough clout may be able to get around that requirement.  Even a smaller tenant may be able to negotiate some burn off or other relief in the guaranty agreement.  There are many possibilities and while it never hurts to ask; from a negotiation standpoint, it can hurt not to ask.  What does the lease say about assignment?  If a lease silent is silent about assignment and/or subletting, then the tenant is free to assign or sublet at their discretion.  Landlords don’t like that much.  Conversely, there are usually circumstances when tenants should be able to assign or sublet the space, perhaps with just an advance notice to the landlord and a copy of the documents. The landlord’s counsel won’t be surprised by the request.  What state will the landlord deliver premises to the tenant in?  When?  Is there an outside date for delivery? A landlord’s form lease is sure to specify that rent will commence upon delivery of the Premises but it might not provide for a pre-delivery inspection, not to mention consequences to the landlord for failing to deliver on time.   Landlords typically prefer to prevent dark space.  Post occupancy, what if the tenant pays rent but doesn’t open for business or ceases operations in the premises?  What if the tenant doesn’t operate during the hours the landlord prefers?  Form leases typically describe the tenant’s maintenance obligations but often contain sparse, if any, details about the landlord’s obligations.  If the landlord fails to satisfy its obligations does the tenant have any recourse other than a lawsuit for breach of contract (an expensive and thus, impractical solution for many tenants)?  I could go on but suffice to say, for nearly each of the 35 to 55 clauses in a proper arms length commercial lease there are several negotiation points and changing one clause often requires conforming changes to other provisions in the lease.  If a commercial lease is on 1 to 3 pages, or only has clauses addressing term, rental amounts and identifying the parties, such a state of affairs, while it is certainly “sloppy” is far from “simple.”  Believe it or not, I see those from time to time and when they are already signed its always bad news for the client.  Fixing such leases, or getting out of them, if possible, invariably costs the client more than it would have to negotiate an appropriate document in the first place.   

     See, not so simple, right? You should feel sorry for your real estate attorney.  Real estate attorney training is grueling and by all accounts, is similar at most big law firms: i. partner hands new lawyer a lease document and informs them whether the client is the landlord or tenant, ii. new lawyer revises the lease and returns it to partner, iii. depending on partner’s mood, new lawyer is either mercilessly berated on each counter they missed, or walked through every point he or she missed with the stern admonishment, “don’t make me show you this again” before being handed a fresh lease to review, and iv. new lawyer stays up all night and is extra careful to catch all of those changes, only to be admonished for missing a whole new set of points.   Once you start catching all of the negotiation points, you are rewarded with more leases at once and shorter deadlines!   It goes on like that for a few years, until you are dreaming about leases between being awakened by the dinging crackberry on the nightstand; remember those?  Eventually, usually after the partner observes a dangerous glint in an associate’s eye, they’ll take the associate off lease patrol and give them something more complex and humbling. However, there is always leasing work, its part of a real estate practice.

A REAL ESTATE ATTORNEY CAN IDENTIFY THE PERTINENT ISSUES AND HELP YOU FOCUS ON THOSE

     If the other party hands you a “simple” lease to execute, whatever you do, don’t go it alone, even if your budget is limited.  It’s a better use of resources to make sure the lease you sign is properly balanced than to try to fix it after the fact.  Negotiating a lease doesn’t have to be a protracted process.  If nothing else, a seasoned real estate attorney should be able to identify which issues are most pertinent to you and your business and help you focus in on those.  Regardless of how simple the space may be, or how complex the negotiations prior to the lease, there are always issues to think about in the lease, even the “simple” ones.

Thanks for reading!

Dave

Colorado Law on Non-Compete Agreements - What is Enforceable, What Isn't?

THE GENERAL RULE IS THAT NON-COMPETES ARE UNENFORCEABLE

      I’ve received several questions over the last few weeks related to covenants not to compete.  These clauses raise questions at companies, both for employers and employees. Employers wonder what they can require their employees to sign, and how to go about it.  They may worry that employees with access to sensitive information might use it for their own or another company’s advantage if the employee departs. On the other side of the coin, employees want to understand the consequences of agreeing to non-competes.  Rather than retaining flexibility to found their own competing business in the near future, employees are usually more concerned about whether signing a non-compete will impair their ability to find a similar job if the current one doesn’t work out.  Both sides have equally valid concerns and, from a practical standpoint, want to keep the other side happy. Fortunately, in Colorado the answers are pretty clear.  Under Colorado law the general rule is that non-competes are void and unenforceable.   This is because public policy tilts against restricting an employee’s or contractor’s right to make a living by performing skilled or unskilled labor.

ENFORCEABLE NON-COMPETES: 4 EXCEPTIONS TO THE GENERAL RULE

     As with most rules, the general rule that non-competes are unenforceable is subject to four relatively straight-forward exceptions.  First, non-competes entered in connection with the sale of a business or of business assets are enforceable.  Likewise, non-competes designed to protect trade secrets are enforceable.  Third, if an employee has worked for a company less than two years and the company pays for them to obtain additional education, such as an MBA, the company may restrict the employee’s right to work for a competing business as a means of recovering its costs. Finally, non-competes are enforceable against executives and management level employees and also professional staff to executives and management level employees.

EVEN WHEN AN EXCEPTION APPLIES, NON-COMPETES MUST BE REASONABLY LIMITED

     Over the years, in addressing and interpreting the underlying rule and its exceptions, Colorado courts impose a reasonableness restriction on covenants not to compete.  To be enforceable, non-competes must be reasonably limited in time and geographic scope.  For example, a non-competition clause in a stock purchase agreement, prohibiting the sellers from opening a competing business, is enforceable only if the restriction expires after a reasonable period of time and is reasonably limited as to where the sellers aren’t allowed to compete.  Naturally, this rule leads one to ask what is “reasonable.”  The answer depends on a question of fact; what is the non-compete intended to protect?  When acquiring a business, the buyers wants to protect the goodwill of the acquired business as well as more tangible assets like customer lists.  So, while a perpetual and worldwide prohibition against competition will always be void, the reasonableness of less broad non-competes depends on the nature of the business being sold.  For example, depending on the nature of a business, a prohibition against opening a competing business for two years within a 5-mile radius of the store location or one restricting completion for two years within the entire state can each be enforceable, or unenforceable.       

     Non-Solicitation clauses provide an interesting twist on the rules. Colorado courts treat prohibitions on soliciting existing clients and customers of a business the same as non-competition agreements.  Therefore, a non-solicitation agreement restricting an employee from actively soliciting a company’s present customers and clients after he or she quits or is terminated can be enforceable if one of the four exceptions applies, and if the scope of the restriction is reasonably limited.  Customer lists and contact lists may or may not be trade secrets under Colorado’s trade secret law.  If they are, then in addition to possible remedies under the trade secret law, employers may restrict a departing employee’s right to solicit customers and contacts on that list with a binding non-solicitation agreement.  If a company doesn’t protect such lists as trade secrets, a non-solicitation agreement or provision may still be enforceable if another exception to the general rule against enforceability of non-competes exists.  To date, non-solicitation agreements forbidding employees from soliciting their co-workers to leave a company haven’t been construed as covenants not to compete and therefore, aren’t subject to the requirements applicable to non-competes.   

            Having enforceable non-compete and/or non-solicitation agreements and policies is important in many industries and ideally, should be part of an over-all internal policy that is consistently applied.  It is particularly important to include the concepts in any agreement to acquire a business and to be sure such agreements are enforceable.  Summit 6 Legal is here to help your company navigate these issues and manage the conversation around them with your employees and can also help buyers or sellers be sure they are appropriately covered in purchase agreements for the sale of a business or business assets.  

Happy Friday!
Dave 

High Value Real Property Sales: Keep Calm, Ask Your Attorney.

     It's no secret, Colorado and Denver are growing fast! In 2015 Forbes ranked Denver the 6th fastest growing metropolis in the country, just behind Seattle. That influx is apparent to anyone navigating our city streets, let alone I-25 or I-70. Accordingly, real estate prices are increasing rapidly, as is the demand for high value homes, condominiums and luxury residences.  While “high value” is a relative term, in Colorado it certainly includes any property selling for $1,000,000.00 or more, and arguably includes properties selling for $500,000.00 and up.  Steep purchase prices and large deposits, especially when paid in cash, enable buyers to close quickly, with fewer contingencies than other buyers. Those factors should afford buyers of luxury real estate a reasonable amount of leverage and justify their insistence on fair and accurate contracts. 

STEEP PURCHASE PRICES SHOULD AFFORD BUYERS SOME LEVERAGE

     In ordinary residential deals with buyers purchasing a primary residence with a traditional bank loan, real estate agents, brokers and the title companies usually have the expertise needed. Conversely, an experienced real estate attorney can be essential in high value real property transactions.  High value sales frequently involve complications and scenarios that aren’t addressed in the form contracts used by agents and brokers. Using form contracts as the base for high value real property sales is fine so long as the contract accurately reflects the realities of the deal and does not place buyers at an unfair disadvantage.  A broker’s authority to modify the form contracts they use is restricted by law so, a skilled real estate attorney is necessary to protect buyers and help them, their agents and brokers keep complex deals on track and moving toward timely closing. Below are a few examples of how an experienced real estate attorney can help buyers acquiring high value property.

buyers should have the right to terminate a contract for any reason, or no reason, and receive a refund of the deposit until they are ready to proceed to closing

     The first thing a real estate attorney should do for a buyer is to consolidate the numerous and overlapping contract termination rights and deadlines in the form contract into a single date, before which a buyer may terminate the contract for any reason or no reason and receive a refund of the deposit.  I’ve never heard a strong argument against that revision.  Further, large deposits should always be held by independent escrow agents, preferably the title company, in an account accruing interest for the buyer.  An attorney should order an ownership and encumbrance report (O&E) and based on that, estimate the length of time a contract should allow for reviewing the property.  That way, after the contract is signed, but before a buyer’s deposit is non-refundable, a real estate attorney can help buyers evaluate a property and identify any troublesome issues in the real estate records. For example, buyers planning to remodel existing structures or construct new structures or landscaping should know if an HOA and/or ArchitecturalReview Committee (ARC) has approval rights over their plans.  If an HOA or ARC has approval rights, buyers should understand the process, timing and likelihood of receiving plan approval before the deposit becomes non-refundable.  Additionally, a properly drafted contract should allow buyers to terminate the contract and get their deposit back if they are unable to obtain required approvals. Tax implications associated with high value real estate transfers should be understood and addressed before a purchase contract is executed.  Things to think about here include any transfer taxes at the city level as well as IRC section 1031 tax deferred exchanges that either party may be closing in connection with a sale.  For example, the City of Aspen, Colorado imposes substantial transfer taxes on real estate sales.

Buyers of luxury properties shouldn't feel rushed

     Ultimately, when representing a buyer, its most important to protect their right to get out of the deal and receive a refund of their deposit for as long as possible until they are ready to close.  In the current Colorado real estate market, with a dwindling supply of properties and seemingly unending increase in ready buyers, its easy for someone to get swept away and sign contracts reflexively. It is my opinion that buyers of high value real property should never feel rushed. Anyone considering acquiring high value or luxury property should seek the counsel of an experienced real estate attorney before signing the contract, or at a minimum, ask their agent or broker to include an attorney review contingency in Section 30 of the form contract.  Buyers with an experienced real estate attorney on their team, who is aware of their activities and needs, are in the best position to react quickly and make an appropriate offer on a high value property and close those deals. Over the years, I’ve helped many buyers, and also sellers, close high value real property transfers, including sales of estate class homes, luxury condominiums, trophy ranches and even fractional properties. During a 4-year stint practicing law in Aspen,Colorado I routinely managed high value sales of properties selling for several millions of dollars. When working on any luxury or high value real property purchase, I take a team approach and work with my client’s agent or broker while keeping my focus primarily on the special legal issues necessitating my involvement, always keeping the wheels moving toward a timely closing.