If you consider renting a commercial space, you likely know that the leases can be quite different from residential leases. However, you may not realize that there are several types of commercial leases. The different types primarily describe the possible arrangements between tenants and landlords for sharing expenses. Understanding the main types of commercial lease agreements will help you to find the right arrangement for your needs.
The landlord pays for all the building expenses, maintenance fees, insurance, and real estate taxes in a full-service lease. The tenant is only responsible for paying base rent in most cases. However, some full-service leases may have a loss or load factor built in to cover certain common area expenses. This is a portion of rent for a section of the building that the tenant benefits from but does not occupy. In some cases, this may be referred to as “common area factors,” “add-on factors,” or a similar term.
Depending on the specifics of the arrangement, the landlord may pay for certain utilities such as heating. However, in other gross leases, the tenant may be responsible.
From the tenant’s perspective, a full-service lease is usually the simplest. For the most part, there is a single amount owed to the landlord each month. However, the base rent is usually high compared to other lease types because the landlord is handling all the building expenses.
A net lease is an opposite approach to expense sharing compared to a full-service or gross lease. The tenant covers some portion (though not all) of the building’s operating expenses with a net lease. How much the tenant pays depends on the type of net lease. This can be a single, double, or triple net lease.
Keep in mind that this is a category of lease types rather than a type itself. If you are entering into a net lease, make sure you know exactly which type and what you will be responsible for in terms of building expenses.
Single Net Lease
The tenant(s) pays the base rent, utilities, and property taxes for the building with a single net lease. The landlord is responsible for the building insurance and maintenance expenses.
If there are multiple tenants, then the property taxes are divided fairly between them. In most cases, this will be on a prorated basis, with each tenant covering a percentage of the taxes based on the percentage of rentable space that the tenant occupies. However, other arrangements may be made in the case that certain spaces have special characteristics, such as a retail storefront.
A single net lease will usually have a small reduction in base rent compared to a gross lease. However, the rent will be higher than other types of net leases.
Double Net Lease
In a double net lease, the tenant(s) are responsible for their base rent, utilities, property taxes, and building insurance. The landlord is responsible for the building’s maintenance. This type of lease may be used for commercial properties in which the tenants’ activities impact the cost of insurance.
As with a single net lease, the building expenses are typically divided fairly between tenants. This may be done on a prorated basis or some other basis, depending on the specifics of the situation. Furthermore, the base rent will be adjusted to be competitive with the market value of the rental space using a different type of lease.
Triple Net Lease
Triple net leases require the tenant to pay base rent, utilities, property taxes, building insurance, and certain maintenance expenses. Depending on the specifics of the lease, the landlord or the tenant may be responsible for major structural maintenance. However, in a triple net lease, the tenant is always responsible for the maintenance of the tenant’s space.
Typically, triple net leases have relatively low base rent because the tenant is responsible for so much of the building’s operating costs. As with other net leases, the costs are split evenly between the tenants if there are multiple.
Modified Gross Lease
A modified gross lease offers a compromise between a net lease and a gross lease. The tenant pays base rent, utilities, and some portion of operating costs. This is typically described as a percentage of the operating costs. So, rather than covering certain categories of the operating costs, as in a net lease, the tenant pays a percentage of them.
The details can vary between modified gross leases. For example, a tenant may only pay base rent and utilities in the first year, then a portion of the operating costs afterward. This is a relatively flexible type of lease.
Absolute NNN Lease
An absolute NNN lease is a lease in which the tenant covers all costs associated with the building, regardless of the situation. This type of lease is often confused with triple net leases because the terms seem similar. However, in a triple net lease, the landlord will usually pay for the roof or structure maintenance. With an absolute NNN lease, the tenant will cover those expenses.
This type of lease is usually reserved for situations in which the tenant occupies the entire building. Additionally, it is often reserved for tenants with large, well-established footprints and exceptional credit. In exchange for covering all expenses, the tenant can often negotiate favorable terms or lease very desirable real estate.
A percentage lease is a type of commercial lease that requires the tenant to pay a percentage of sales to the landlord. This is often used in premium retail locations for which the location adds significant value for the tenants and/or the landlord attracts customers to the location. For example, retail malls often use percentage leases.
Generally, landlords ask for 7% of sales or less. Tenants should be wary of landlords asking for 10% or more as this is unusual.
Other Lease Factors To Know
Ultimately, all commercial leases are up for negotiation. Depending on the value of the lease and the competitiveness of the market, the tenant may be able to negotiate a more favorable type of lease or better terms.
Nonetheless, it can be useful to understand the terminology of the types of commercial lease agreements. This can help you get a rough sense of the lease terms without going into details. For example, you may know that you want the simplicity of a gross lease or an absolute NNN lease negotiating power.
Get Help Navigating the World of Commercial Real Estate
Unique Properties provides commercial real estate services to tenants, landlords, sellers, and buyers. We have experience with all commercial leases and can help you achieve all your real estate goals. Contact us today to learn more.
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