How to Limit What Tenant Can Review During Audit

If your lease is like many we've seen, it probably has a big loophole that could hurt you when a tenant performs an operating expense or CAM cost audit. What's the loophole? Your lease says that the tenant may audit your “books and records” without restriction. So the tenant could force you to dig up many more books and records than it needs to effectively conduct its audit, which means you'd have a giant administrative headache for no reason. The tenant could also get access to confidential data about your building's or center's operations—or to data that's irrelevant to its audit.

If your lease is like many we've seen, it probably has a big loophole that could hurt you when a tenant performs an operating expense or CAM cost audit. What's the loophole? Your lease says that the tenant may audit your “books and records” without restriction. So the tenant could force you to dig up many more books and records than it needs to effectively conduct its audit, which means you'd have a giant administrative headache for no reason. The tenant could also get access to confidential data about your building's or center's operations—or to data that's irrelevant to its audit.

Some leases try to plug this loophole by saying that the tenant must be “reasonable” when requesting certain books or records. But even this solution is problematic—you and the tenant could wind up in a dispute over what “reasonable” means. To avoid disputes with the tenant, ease the administrative burden of an audit, and keep confidential and irrelevant information away from the tenant, put a list in the lease of all the documents that the tenant can and can't review during its audit, says real estate expert Deborah E. Harry. There's a Model Lease Clause on p. 8 that you can adapt and use in your leases for that purpose.

List Available Books and Records

The list of books and records you agree to make available for a tenant's audit should include only books and records that relate to operating expenses or CAM costs, says Harry. Most of the items on the list will be basic books and records that you'll most likely keep for tax purposes, she adds. So providing them shouldn't be a big deal when the tenant requests an audit, she says.

Here are some examples of what your list should include:

Books. Put the “operating expense ledger” (but not a general ledger) on your list, and only relevant journal entries, says Harry [Clause, par. a].

Records. Put supporting documentation on your checklist—such as accounts payable information, paid tax and vendor bills, vendor contracts, and details of expense allocations, says Harry [Clause, par. a]. You should also put payroll records on your checklist—but limit which payroll records the tenant can review, she says, because some of their contents are confidential.

Practical Pointer: Another benefit of having the list in your lease is that it may protect you if the tenant later takes you to court to demand items that aren't on it. If the tenant agreed to the list, but later argues that it's not extensive enough, a court may be less willing to order you to hand over any additional books or records to the tenant, says Harry.

List Excluded Books and Records, Too

It's also a good idea to list the books and records that the tenant and its auditor can't review, says Harry. That is, you don't want to give it access to certain books and records that disclose confidential or irrelevant information about your building's or center's operations, she explains. For instance, say in your leases that the tenant or its auditor can't review your income tax returns and the leases of your other tenants. And try adding the catchall exclusion of “any other record not included on your checklist,” she says [Clause, par. b]. But a savvy tenant may balk at this catchall exclusion, Harry warns.

Practical Pointer: For further information see “Limit Tenant's Right to Audit Your Books and Records,” CLLI, June 2001, p. 1.

CLLI Source

Deborah E. Harry, CCIM: President, Deborah Harry & Assocs., 47 Churchill Dr., Elverson, PA 19520-0249; (610) 286-1970; deharry@ccim.net.

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