§ 19.04 Consumer Price Index

• Jurisdiction: United States
• Publication year: 2022

§ 19.04 Consumer Price Index

Landlords typically like to keep inflation from eroding the profit portion of their base rent over the years of the lease. However, the index or "deflation" formula used to keep this figure adjusted is not always applied just to the profit portion.¹ If this were the case, there would be no problem to discuss regarding the application of the Consumer Price Index to obviate the impact of inflation on the buying power of the profit portion of the base-rent dollars to the landlord.

If the particular components of base rent could be broken down, it would not be unusual to find that somewhere between 15% and 25% of the base rent is profit. Therefore an adjustment of the base rent for inflation from year to year in a reasonable and fair world should only be applied to the extent of the profit portion of the base rent. In the best case, the portion of the base rent that is adjusted should not be greater than 25%.²

The largest part of the total expenses associated with the running and operating of the building are the increases in the labor rates and the costs of energy and fuel. Some landlords tie escalations to the percentage increase in the rates or costs (two different concepts) of electricity charges or gas or steam charges; or quite frankly, to a combination of all three with different rates in the calculation to the portion of the fixed rent.³ The tenant should protect itself from unreasonable escalations by requiring that the deflation mechanism only be applied to that portion of the base rent that is not otherwise adjusted for increases in cost.

The application of the deflation formula should be done in such a way as to prevent subtle compounding. For example, compounding occurs if (1) the landlord adjusts the base rent by the application of the deflator formula; (2) the next year, the landlord adds that year's deflator adjustment to the previously adjusted base rent; and (3) the process repeats itself each year, with the base rent to which the deflator is applied continuing to be higher and higher.

The fair method for adjusting the base rent to account for inflation is to take the original base rent, net of any rent inclusion electric or other similar type of components, less the deflatable escalation components or those that are fixed such as debt service with a fixed mortgage rate; figure the additional rent for that escalation each year, based on a comparison of the current year's deflator index to the first year index.

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