Pros and Cons of Net Leases in Commercial Real Estate
A net lease is a type of commercial real estate lease in which the lessee or tenant pays for their space, but also pays the landlord for all, or some part of, certain “usual costs.” These usual costs are typically expenses that are associated with operating, maintaining, and using the property. These are costs that the landlord would ordinarily pay.
Some Examples of Usual Costs
Expenses incorporated into net leases often include taxes, utilities, janitorial services, property insurance, property management fees, and sewer, water and trash collection. These costs are generally broken down into three categories: maintenance, insurance, and taxes.
Different Kinds of Net Leases
There are three basic types of net leases: a single net lease that requires the tenant to pay only the property taxes in addition to rent, a double net lease (whereby the tenant pays the property taxes and insurance premiums), and a triple net lease, also known as an NNN or net-net-net lease, which requires the tenant to pay rent plus all additional expenses.
Single net leases are the least common type of net lease. Less risk is shifted to the tenant because only the property taxes (and not the insurance premiums and maintenance costs) are their responsibility. Even though the tenant is responsible for paying the taxes in a single net lease, most landlords prefer that the payment passes through them so that they know the taxes are paid on time and in the correct amount.
Be Cautious and Negotiate
Net leases almost always favor the landlord. They can and should be negotiated to include caps—the maximum amount you, the tenant, are liable for over the basic rent amount each year. Keep in mind that you'll be liable for these extra expenses no matter how well or how poorly your business does during the lease term.
This is a major difference from some other common commercial leases that require a tenant to pay the landlord an agreed-upon percentage of the business's gross revenues once it reaches a specific threshold. At the very least, your rent before a percentage of usual costs are applied (in other words, your price per square foot) should always be less than it would be if you were to enter into a standard lease agreement.
What Is the Alternative to a Net Lease?
A gross lease is what most people think of when they consider entering into a contractual agreement to rent a commercial property. In this case, you would pay a flat amount of agreed-upon rent each month to the owner of the property. In exchange, the property owner or landlord pays for all the property's associated expenses.
This kind of lease is most commonly used with regards to residential properties, but some commercial leases are occasionally gross leases as well. Gross leases can be modified and very often are. The tenant might pay some reasonable additional costs, such as utilities or liability insurance.
Do Your Research
If you're concerned about entering into a lease, first explore the different options, speak to savvy business owners that you know, meet with your accountant, and contact your local Chamber of Commerce for advice.
Next, whatever the terms are, it's always smart to try to negotiate a hybrid alternative with the property owner. If you're a business owner who is contemplating signing a lease for commercial space for the first time, you might also want to bone up on rentable square feet and usable square feet.