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These days, purchasing properties to build assets has become quite a sought-after source of passive income. Yet there are some parts of our lives that we simply cannot compartmentalize with heavy purchases. One such component is the use of commercial real estate.
As you know, commercial property is any building structure that conforms into an office building, warehouse, manufacturing plant, garages, center for medical practices, small business office space, individual practice firms, general stores, pharmaceuticals, restaurants, and other such commercial space.
Read also – How To Calculate Commercial Rent?
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Practically speaking, it can be quite a hassle to purchase commercial space because:
- You may want to downsize or upgrade as per the progression of your revenue.
- You may want to relocate your family and your business at any point of life stages.
- God forbid, your business takes a massive hit and you have to shut it down.
There is the possibility that you can rent or lease your commercial property to another business and earn a passive income while you set up your own operations elsewhere. Now, two distinctive scenarios can work in your favor at this point and you can benefit significantly from both.
Hence, today, we are going to take the time to understand the different types of commercial leases so you can make an informed decision.
Keep in mind, you can utilize any of these commercial lease agreements to sublet your own property or explore lease options for your own businesses instead of purchasing the commercial space. We will also discuss a few important lease terms so you can familiarize yourself with the basic components of lease agreements.
Without much further ado, let’s get started.
Read also – What is Commercial Lease Agreement?
Different Types of Commercial Real Estate Leases:
When we talk about leasing commercial real estate, there are three important types of commercial leases that you can choose from.
Net lease – The first type is the Net lease. According to the United States Commercial Real Estate Association, the net lease is the most affordable and reasonable form of a lease agreement that the tenant pays to the owner.
These highly efficient lease terms dictate that the tenant paying for operating expenses such as the real estate taxes, maintenance costs, their own utilities, structural repairs, property insurance, and additional expenses.
Since these leasing agreements define that all operating costs are borne by the tenant, the base rent for the property is considerably lower. Simply put, the monthly lease options are calculated after deducting the operating costs on the property thereby resulting in lower base rent.
The types of net leases are:
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1. Single Net Lease or N lease
The single net lease is bifurcated into property or building expenses that the tenant pays based on the usage of maintenance fees incurred on the square foot of property they lease. They pay for the janitorial services, the base rent, and a percentage of the total maintenance costs incurred in accordance with the overall space that they have leased in the building.
This type of Net lease requires the lessee to pay only one of the net costs which is the property insurance apart from their obligatory costs, hence the name.
Read also – The Gross Rent Multiplier (GRM) in Commercial Real Estate
2. Double Net Lease or NN lease
In these double Net lease agreements the tenant pays for building insurance and property taxes along with the base rent and their own utilities while the landlord pays for any structural repairs on the property and the costs incurred on the common area maintenance.
This type of lease agreement requires the lessee to pay for two of the major net costs incurred on commercial spaces, i.e., the property taxes and building insurance, thereby it is called the double net lease.
3. Triple Net Lease or NNN lease
In triple net lease agreements, also known as the NNN leases, the tenant pays for all utility costs incurred throughout the property including the common area maintenance costs and structural repairs. The property owner is excluded from charges as per the lease terms discussed former to signing the lease agreement.
These lease agreements offer the lowest amount of rental rates as the lessee is required to cover the three major net costs incurred on the property. They are the building’s property taxes, the building insurance, and building maintenance costs, thereby naming it the triple net lease.
Read also – What Is The After Repair Value and How To Calculate ARV for Real Estate?
4. Absolute Triple Net lease
This is an extension on the triple net lease where the tenant must pay the base rent, property taxes, property insurance, and maintenance costs along with any additional expenses incurred on the property.
5. Gross Lease or Full-service Lease
The gross lease agreement entitles the tenant to pay the agreed-upon amount for the retail spaces which include the property rent, maintenance fees, costs of janitorial services, and utilities. The property owner accumulates the total rent or full-service lease amount received from the tenants and proceeds to pay for all the property management services and building expenses.
Please note that the gross lease option does not cover building or property insurance. Therefore, if you deem it necessary then you must either discuss the terms with the property owner or pay property insurance on the square foot of the building that you lease.
You can opt for a modified gross lease wherein the tenant must pay the base rent at the beginning of the leasing period along with a percentage of the property taxes, maintenance costs, and insurance premiums paid by the landlord.
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6. Percentage Lease
Lastly, the percentage lease is a form of lease agreement where the tenant or lessee pays the base rent on the percentage of the overall property they utilize along with a pro-rata share of the revenue. The lease terms must thoroughly specify the percentage of pro-rate share of terms of total revenue earned in a monthly, bi-monthly, quarterly, or yearly option as per the convenience of both lessee and lessor.
The percentage lease agreements strictly apply to large commercial buildings such as malls, retail spaces, chain stores, etc.
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The Different Types of Lease Terms You Must Know
Regardless of whether you are a property owner or a tenant, you must be familiar with the following terminologies in a lease agreement:
a) Base rent:
This is the base amount that you pay on the property you rent from the landlord. It is determined based on the deductibles on your property.
b) Rent information:
These include the terms of the lease agreement specifically the late charges incurred on rent and maintenance fees, due dates for payments, break-ups of the rental terms, and late fee allowances.
c) Fixed lease:
Here the duration of the lease agreement and its termination period is specified at the time of signing the lease agreement.
d) Periodic Lease
In this type of lease, the duration of the tenancy is open-ended therefore the tenant can renew the lease for as long as the landlord permits.
e) Maintenance fee:
The terms specifying what percentage of the maintenance costs the landlord pays and the amount to be borne by the tenant.
f) Structural repairs:
It specifies whether it is a full-service lease where the landlord pays for structural repairs or the tenant bears the costs on net leasing.
g) Property insurance:
The compensation you are entitled to as a property owner or tenant as per the contractual agreement.
h) Operating costs:
These signify paying your own utilities while partaking in the operational costs in common area maintenance of the overall property.
i) Access rights:
This is a binding agreement to specify who is allowed to conduct business on the premises and what rights they are entitled to.
Leasing a commercial property is a viable solution as property taxes and charges incurred are widely minimized for both the tenant and the landlord. Both parties stand to gain substantially which gives them a financial edge.
