Before investing in triple net (NNN) leases and enjoying benefits like steady cash flow, it’s important for investors to take into consideration how broader market conditions affect these assets.
One factor that must be examined is interest rates, especially in terms of how they affect the NNN lease. Understanding the possible opportunities and challenges that may arise helps investors make more informed decisions. Below, Realized 1031 explains exactly how interest rate changes impact triple net lease investments. Let’s take a closer look!
Basics of Triple Net Lease Interest Rates
A triple net lease is a lease structure where financial responsibility for three net operating expenses is assigned to the tenant. The tenant will handle the expenses for property taxes, insurance premiums, and maintenance costs, all while paying the investor monthly rent. Thanks to this structure, landlords and investors enjoy a more hands-off approach to property management.
Naturally, to acquire an NNN lease, many investors will need financing, and as such, interest rates are a common consideration when investing in such an asset. The fluctuation of these rates can affect the cost of borrowing and the relative attractiveness of the asset, directly affecting returns and property valuation.
What If Interest Rates Go Up?
Certain scenarios, like increased demand for credit, result in rising interest rates. This period is generally unfavorable for NNN investing. The most immediate effect is that higher interest rates make borrowing more expensive. You end up paying more towards the debt service, reducing your net income.
Another effect of rising interest rates is that it also increases cap rates, which is the potential rate of return for the investment. The higher cost of borrowing makes real estate investments less profitable, which then causes landlords to demand a greater return to justify the risk.
What If Interest Rates Go Down?
Lower interest rates are ideal for NNN investing. Since borrowing costs are lower, you can keep more of your income, leading to potentially higher returns. There’s also the fact that lower interest rates can compress cap rates, driving up property values and offering appreciation potential.
For those at the end of NNN investing, lower cap rates are also beneficial. Decreased borrowing costs also lead to more buyers. As a result, selling the property can be easier, boosting liquidity for investors who need cash.
Strategies for Investors in Changing Rate Environments
Interest rates are dynamic, rising or falling in multi-year trends. As such, a savvy investor must take proactive steps so their investment remains stable even when interest rates are fluctuating.
- Choose Fixed Rates: Financing services typically offer fixed interest rates for NNN investors. Locking in these rates shields you from the impact of interest rate fluctuation.
- Focus on Tenant Quality: Creditworthy tenants reduce risk during market uncertainty. Their reliable payments help ensure consistent income regardless of borrowing costs.
- Monitor Market Conditions: Before committing to a financing contract, make sure to check Federal Reserve policy and other economic indicators. That way, you can better predict the best moment to commit to fixed-rate financing. The same best practices apply even to those who’ve already entered a financing contract, as refinancing is still possible.
Wrapping Up: Basics of NNN Interest Rates Interplay
Since NNN assets are typically acquired with financing, interest rates play a part in the income they generate and the long-term success of the investment. Decreasing rates are favorable since borrowing becomes more affordable, and the reverse is true when rates increase. While investors don’t have control over these market conditions, being proactive with investing can help enhance the chances of success, regardless of the interest rate environment.
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