Commercial Real Estate Lease Types
A Variation of One of These Might Work for You
A good landlord/tenant match in commercial real estate requires a lease that benefits both sides. Landlords need income from rent and to control costs to assure a profit. Tenants want to peg their rental costs as closely as possible.
Residential leases are far simpler—the tenant typically pays her rent and her own utilities, exclusive of sewer and maybe water or trash. There are many more considerations in commercial leases.
A retail business can have seasonal or other factors that influence sales quite a bit over the course of a year and they require leases that accommodate that. Offices with steady business flow prefer to pay like residential leases. Manufacturing, industrial, or machine-intensive businesses are heavy utility users, and they also tend to be harder on the structure and facilities. A variety of leases can fit one or more of these situations.
The gross lease in commercial real estate is sometimes described as something different from a full service lease, but the difference really isn't great. A gross lease might fit an attorney, consultant, or accountant because there's a fixed monthly amount and possibly payment of utilities, but none of the other expenses of building maintenance or operation are the responsibility of the tenant.
This isn't to say that costs aren't passed onto tenants, however. They're often referred to as the "load factor." Rent would be substantially less were this load factor not included. It's typically a percentage of costs associated with maintaining common areas, such as a lobby, and the percentage is commensurate with the percentage of the overall building that the tenant occupies as his own premises.
A triple net (NNN) lease in commercial real estate requires that the tenant pay a significant share of the expenses of the operation. This type of lease helps the landlord by fixing her costs, but tenants aren't fond of it, particularly with older properties.
A triple net lease is different and separate from a double net lease, which typically only requires that the tenant pay base rent plus taxes and insurance. The triple net lease goes a bit beyond taxes and insurance and adds a third cost: maintenance. An "absolute lease" is the far extreme, typically passing financial responsibility for the entire building onto the tenant.
From auto repair shops to major manufacturing plants, some businesses are heavy utility users, and these can all be costly tenants for a landlord. The landlord will prefer a triple net lease. If the tenant balks, the parties might potentially agree on a modified net lease.
The modified modified net lease is a compromise between a gross lease and a triple net lease. It's quite helpful in assisting landlords and tenants to structure lease terms that work for both of them. Tenants typically pay just base rent in the first year, then a percentage of operating costs in subsequent years.
This can be particularly beneficial for new businesses that might need a year or more to achieve profitability.
A percentage lease typically requires that the tenant pay base rent, plus an additional percentage of monthly sales volumes. Percentage leases are commonly executed in retail mall outlets. The location and nature of the business can have a dramatic impact on percentage rent.
For example, a Christmas store owner won't make nearly as much money in the summer as he will in November and December. This tenant would prefer low lease payments in slow months and would be willing to pay more when money is flowing.