By Tenant Advisory Group · Updated
Short answer
Landlords ask startups for large deposits because a young, unprofitable company is a credit risk and the landlord often funds build-out and commissions up front. You can usually reduce the burden by offering a letter of credit instead of cash, negotiating a burn-down schedule tied to on-time payment, presenting your financials and runway clearly, and refusing an open-ended personal guarantee.
Why landlords ask startups for so much security
From a landlord’s side, a lease is a long-term loan of space. The landlord often spends heavily before you pay a dollar of rent: a tenant improvement allowance for your build-out, brokerage commissions and sometimes free rent. It recovers that investment over the term. If the tenant fails partway through, the unrecovered balance is at risk.
A venture-backed company may have strong investors and plenty of cash in the bank, but it usually has a short operating history, net losses and a balance sheet that depends on the next round. Landlords and their lenders underwrite that as credit risk, and the security deposit is how they cover it. The more the landlord is investing in your space, and the longer the term, the more security it will ask for.
Understanding that logic is the key to negotiating it. Security is not a fixed number; it is the landlord’s answer to how much it could lose. Change the exposure, or show the risk is lower than it looks, and the number can move.
Cash deposit or letter of credit
Security usually takes one of two forms: cash held by the landlord, or an irrevocable standby letter of credit from your bank that the landlord can draw on if you default. Each has trade-offs.
- Cash: simple, but the money leaves your balance sheet and sits with the landlord for the term. Ask whether it is held in a separate account, whether it earns interest for you, and what happens to it if the building is sold.
- Letter of credit: the cash stays with your bank, though the bank will often require collateral, and for an early-stage company that collateral is frequently cash held at the bank. Expect an annual fee.
- Letter of credit terms landlords commonly require: automatic annual renewal (an “evergreen” clause), a bank that meets the landlord’s standards, the right to draw if the letter is not renewed, and a duty to replace it if the issuing bank no longer qualifies.
Before you agree to a letter of credit, talk to your banker about the collateral, fees and timing, and have your attorney review the landlord’s required form. A letter of credit that your bank cannot issue in the landlord’s form can hold up a signed lease.
Burn-down schedules: getting your security back over time
A burn-down (or reduction) clause lets the deposit or letter of credit step down during the term if you perform. It recognizes that the landlord’s exposure shrinks as it recovers its investment and as your company builds a payment history.
The negotiation is over the conditions. Landlord-favorable language may require that you have never been in default during a look-back period; tenant-favorable language typically requires only that you are not currently in monetary or material default beyond any notice and cure period. Some reductions are tied to time alone, others to milestones such as a new financing round, reaching profitability or meeting a net worth test.
- When does the first reduction occur, and how much does each step reduce the security?
- Is the condition “no current default beyond cure periods” or “no default ever”?
- Can reductions accelerate if we close a new round or reach a financial milestone?
- Is there a floor below which the security will not drop?
- Is the reduction automatic, or does it require landlord approval, and how quickly must the landlord act?
- If we are acquired by a stronger company, can the security be reduced or released?
“His insight and knowledge of both the market and the negotiating process kept us at ease and feeling well informed.”
Personal guarantees and good-guy guarantees
Some landlords ask founders to guarantee the lease personally. For a venture-backed company, an unlimited personal guarantee is usually a poor trade: it puts a founder’s own assets behind a corporate obligation that investors are already backing with equity. It is usually worth offering more corporate security instead, such as a larger letter of credit, a shorter term or a smaller allowance, rather than accepting personal liability for the full term.
If some form of guarantee is unavoidable, limit it. Options include a cap on the dollar amount, a guarantee that expires after a set period of on-time payment, or a guarantee from a parent company rather than an individual.
A “good-guy” guarantee is another limited form. The guarantor is responsible for rent only while the tenant occupies the space. If the tenant gives advance written notice, pays all rent through the date it leaves and surrenders the space in the required condition, the guarantor is released from rent for the rest of the term. Good-guy guarantees developed in New York City and are common there; they are not universal, and many landlords in other markets do not offer them. Any guarantee should be reviewed by your attorney.
Presenting your financials and runway
Landlords rarely see a startup’s full picture unless you give it to them, and a vague answer tends to produce a conservative security requirement. A clear, confidential credit package lets the landlord underwrite you as a funded company rather than as an unknown.
- Agree on a confidentiality arrangement before sharing anything sensitive.
- Provide recent financial statements, prepared or reviewed by your accountant if available.
- Show current cash and a realistic runway, based on your actual burn rate.
- Summarize your funding history and lead investors, and note any committed future capital.
- Explain revenue, customer concentration and the growth plan that justifies the space.
- Offer a short call between your CFO and the landlord’s credit team to answer questions directly.
Compare the security each building asks for alongside rent and allowance. A lower rent with a much larger deposit can cost your company more in tied-up cash.
Using competition to reduce the ask
Security requirements vary by landlord. Some owners are comfortable with early-stage credit and will trade a smaller deposit for a longer term or a smaller build-out; others have lender requirements that limit their flexibility. The way to find out is to run a competitive process and put security terms in every request for proposal, so credit support is negotiated alongside rent and concessions rather than after the other terms are settled.
Tenant Advisory Group works on the tenant side, never for the landlord, and on behalf of technology, software and data companies we negotiate deposit size, letter of credit terms, burn-down schedules and guarantee limits as part of the overall deal. This article is general information, not legal or financial advice; have your attorney and accountant review the security and guarantee terms before you sign.
Frequently asked questions
Is a letter of credit better than a cash security deposit?
Often, because the money stays with your bank rather than the landlord. But banks usually require collateral for early-stage companies and charge a fee, so compare the real cost with your banker before choosing.
What is a burn-down clause?
It is a lease provision that reduces the security deposit or letter of credit over the term, usually if the tenant is not in default. The timing, conditions and any floor are all negotiable.
Do we have to give a personal guarantee?
Not necessarily. Venture-backed companies can often avoid one by offering more corporate security, such as a larger letter of credit, or by limiting the guarantee in amount or duration.
Are good-guy guarantees available everywhere?
No. They are common in New York City commercial leases but are not standard in every market, and landlords elsewhere may not offer them.
Sources
This guide is general information, not legal, tax or financial advice. Have your attorney review any lease before you sign it.