Commercial Real Estate Leases & How They Work

Commercial Real Estate Leases & How They Work

A commercial real estate lease is an implied or written agreement specifying conditions that a lessor accepts to let out a property to be used by a lessee. The agreement promises lessee use of the property for an agreed length of time while the lessor is assured consistent payment over agreed rental period. Both parties are bound by contract terms, and there is a consequence for failure to meet contractual obligations. Projecting the cost of renting space in a commercial building can be straightforward, but it’s important to fully understand all the steps. After you select a commercial space to lease, the next steps are to negotiate the cost and terms, sign the lease agreement, and move into the space.

To handle these steps correctly and fully understand a commercial lease you’ll greatly benefit by obtaining help from a professional broker like Joseph & Camper Commercial Real Estate Brokerage. They will help negotiate who will be responsible for paying property taxes and insurance (you or the landlord), who will pay for utilities, and who will cover maintenance expenses. These are all based on the type of commercial lease you are signing. There are several different commercial real estate lease types for office space.

Below are five different types of commercial real estate leases. Each type of lease described below gives you an idea of a tenant’s expected expenses, but there are no absolute rules. Every lease is negotiable. A thorough review of the lease with your broker and attorney is how to truly know which expenses will be your responsibility.

Full-Service/Gross Lease

A full-service or gross lease means you are responsible for paying the base rent. Typically, the landlord pays any additional building expenses, including maintenance fees, insurance, and real estate taxes. This may result in a higher rental rate, but you as a tenant only receive one bill covering all expenses. With some full-service/gross leases, tenants are required to pay their proportionate share of operating expenses above their base year. This limits how much a landlord pays for tenant expenses past a certain amount. This is why you must thoroughly examine your lease, so you understand whether any conditions, such as additional expenses, are present in the agreement.

• Typical space: Commercial - typically properties occupied by multiple tenants, like office buildings.

• Landlord pays: All building expenses, including maintenance costs, insurance, and real estate taxes.

• Tenant pays: Base rent and utilities.

• What to know: Tenant may incur additional expenses beyond base rent after the first year of tenancy.

Net Lease

Net lease refers to a category of commercial real estate leases. Net leases typically require tenants pay a proportionate share of building operating expenses. Such as common area maintenance (referred to as CAM) fees, property taxes, and insurance. Types of net leases include triple, double, and single. Each type of net lease has its own level of financial obligation that the landlord passes onto the tenant.

For commercial real estate, landlords typically calculate each tenant’s pro-rata share of operating expenses by taking the total operating cost per square foot for all rentable space in the building and then dividing that sum among tenants based on the percentage of the building occupied by each tenant.

• Typical space: Commercial.

• Landlord pays: The other part of the expenses (if applicable).

• Tenant pays: Rent and utilities plus a proportionate share of the building operating expenses—property taxes, insurance, and maintenance.

• What to know: The specific percentage will be stipulated in the lease.

The following are the specific types of net leases when renting commercial space.

Triple Net Lease (“NNN”) Lease

Triple net leases are essentially the opposite of a gross lease. The tenant agrees to pay for not only the fees for rent and utilities but also all commercial property operating expenses, such as maintenance fees, building insurance, and property taxes. Typically, triple net leases have reduced rental prices because the tenant has assumed responsibility for operating expenses. NNN leases are often longer-term with concessions for rent hikes written into the lease. Maintenance fees can be higher than expected for some tenants, leading them to try to renegotiate or break their lease. Hence, pre-emptive landlords often use a “bondable” net lease, which cannot be ended before it expires, nor can rental costs be updated.

• Typical space: Commercial - common commercial real estate lease type.

• Landlord pays: Base building maintenance and repairs.

• Tenant pays: Rent and utilities and their pro-rata share of all building operating expenses, including maintenance fees, building insurance, and property taxes.

• What to know: Basically, this is the opposite of a gross lease. Sometimes “absolute lease” and “triple net lease” are used interchangeably, but really are not the same.

Double Net Lease (“NN”) Lease

Double net lease requires tenant to pay rent and utilities, property taxes, and building insurance. Landlord pays directly for the building structural maintenance expenses. As with other net leases, base rent is generally lower since tenant is responsible for additional expenses. Landlords renting an office building to multiple tenants typically divide the property tax and building insurance expenses fairly among the tenants.

• Typical space: Commercial.

• Landlord pays: Maintenance costs.

• Tenant pays: Rent and utilities plus property taxes and building insurance premiums.

• What to know: Very popular commercial lease type. Also called a “net-net” lease.

Single Net Lease (“N”) Lease

Single net lease stipulates tenants pay rent and utilities as well as property taxes. Landlord pays building insurance and maintenance expenses. It’s important not to confuse a single net lease with a net lease. A net lease refers to a category of leases including single, double, and triple.

• Typical space: Commercial.

• Landlord pays: Building insurance and maintenance.

• Tenant pays: Rent, utilities, and property taxes.

• What to know: Not the same thing as a net lease, which refers to a category of lease types.

3. Modified Gross Lease

Modified gross lease is the middle ground between a gross lease and a triple net lease. Typically, with a modified gross lease tenant pays base rent, utilities, and a portion of operating costs. Details vary in contracts. Some modified gross leases require tenants to pay only base rent and utilities for the first year but in each additional year pay a pro-rata share of building operating costs. Share of expenses is typically based on percentage of the building tenant occupies.

• Typical space: Commercial - highly common lease type.

• Landlord pays: The other portion of operating costs.

• Tenant pays: Base rent, plus a portion of operating costs.

• What to know: Modified gross lease agreements, and the division of obligations within, can vary widely from lease to lease.

Absolute NNN Lease

Often the terms “absolute NNN lease” and “triple net lease” are used incorrectly as if interchangeable. Triple net leases require tenants to pay for some or all building repair expenses (such as structural or roof repairs), but landlord does assist with those expenses. An absolute NNN lease absolves landlord from all responsibility for building expenses in every case. Tenant covers all building expenses, including maintenance or repairs to the building roof and structure. Basically, tenant owns building without purchasing it. Usually applies only to tenants with national or regional footprints and excellent credit (long-term lease). Base rent for an absolute NNN lease is typically lower than other types.

• Typical space: Long-term leases to credit tenants (quite rare).

• Landlord pays: Nothing - no responsibility for building costs.

• Tenant pays: All building expenses, including any maintenance or repairs to the building roof and structure.

• What to know: Typically applies only to tenants with national or regional footprints with excellent credit.

Percentage Lease

Percentage leases require tenants to pay base rent in addition to percentage of gross business sales (after sales pass a threshold). Landlords typically require seven percent. Dig deeper if a landlord asks for 10 or 12 percent. Typically, retail mall outlets have these leases. An upside of percentage leases is they typically offer lower base rents than standard leases since tenant pays a portion of sales.

• Typical usage: Retail space.

• Landlord pays: Typically, some or all property taxes, insurance, and maintenance fees.

• Tenant pays: Base rent plus a specified percentage of revenue.

• What to know: Tenants agree to pay the landlord a percentage of gross sales, which is usually around 7 percent.

Understanding the needs of property owners in the leasing of commercial real estate is a strength of Joseph & Camper. Our brokers are licensed and committed to serving local businesses and the community. Joseph & Camper Commercial Real Estate Brokerage helps clients explore commercial listings all over Central Illinois, including Peoria, Tazewell, McLean, Woodford, Marshall, Stark, Fulton, and Knox counties. Use our map to explore a wide variety of commercial properties in Central Illinois. Contact us today or call 309-691-5919.