Commercial leases take various forms, and the type you choose, either as a tenant or an investor, may impact your financial results. A gross lease means that the landlord (owner) covers all the property's operating expenses with the tenants paying rent for their respective space, perhaps with a load factor for common areas. Sometimes the utility costs are included in the rent, and at other times they are charged separately by the tenant. In a modified gross lease, the tenants pay rent plus a portion of the building’s annual operating expenses, subject to individual negotiations.
Net leases include single, double, and triple net options and obligate the tenants to pay rent and some portion of the building operation's associated costs. Typically, these are as follows:
- Single Net: Tenant pays rent plus property taxes
- Double Net: Tenant pays rent plus property taxes and insurance
- Triple Net: tenant pays rent, property taxes, insurance, and maintenance fees
- Absolute Lease: Tenant pays rent, all net lease items plus repairs
Triple net leases generally offer the tenant a lower base rent because the tenant assumes more of the cost of maintaining the property. Offering low rent may make it easier to find a tenant, so that this arrangement may be an advantage to both parties. For the property owner, a triple net lease may also provide a stable real estate investment that doesn't require much active management since the tenant shoulders much of the responsibility for the property. Asset types that favor a triple net leasing structure include office buildings, shopping malls, industrial parks, and free-standing retail buildings operated by banks, pharmacies, or restaurant chains.
Suppose the triple net lease property is part of a larger project like a shopping center. In that case, the lease may require the individual tenants to pay a pro-rata portion of the common area expenses, including the parking lot, security, repairs to elevators, external signage, and other large items. If the property investment is a smaller building, both the investor and the tenant need to agree on needed maintenance. A tenant might prefer to "live with" a defect to avoid a substantial investment in a property they do not own. At the same time, a landlord is interested in seeing that the property is appropriately maintained during the lease term.
Triple net terms are more often used in long-term leases and in cases where the tenant occupies most or all the building. Typically a triple net lease would extend for ten to fifteen years, with rent escalation built into the terms. This isn't uniform, but it makes sense for both the property owner and the tenant. In this scenario, the tenant may assume the insurance policy for the entire building, and negotiate directly with an insurance provider, while also protecting the owner. If multiple tenants share the building, the lease should be clear about the proration of overhead. There can be significant financial implications if the calculations consider leasable space versus occupied space. If the tenant is one of five equal occupants sharing the overhead evenly, the difference in language is crucial when one or more tenants vacate.
A well-written NNN lease will not confer a clear advantage to either the landlord or the tenants, but will equitably distribute the benefits and risks to both parties. The allocation of costs should be straightforward and depends on the property's condition at the time of the lease commencement and other factors, including the type of business the tenant is engaged in, the type and age of the property, and more.
