Commercial Lease Types Explained

Landlords have a number of options to choose from when it comes to the commercial lease types they can utilize for full-building or multi-tenant commercial real estate rentals.

In order to better budget annual expenses, ensure lease provisions don’t put undue restrictions on your business growth, and so you’ll be able to negotiate where you can, we’ve created this primer to help businesses understand the differences between each of the most common commercial lease types.

Familiarizing Yourself With Lease Lingo

Becoming better-versed in commercial real estate leasing vocabulary doesn’t take a lot of time, but it’ll save you hours as you deal with landlords, lawyers, bankers and accountants. Take a moment to get up to speed on common lease terms before we start out.

Understanding Base Rent

The foundation of all commercial lease types is what’s known as “base rent.”

Expressed as a formula: Base rent = Rentable square footage X Rental rate

It’s important to understand that landlords often roll a building’s common spaces into the estimate of each tenant’s rentable square footage. So, for example, if the actual, usable square footage of the space you want to lease is 2,000 square feet, the rentable square footage – if it includes a prorated portion of the building’s lobby, rooftop, halls and elevator space – could be as much as 2,500 square feet or more.

The additional square footage charge, also known as a “core charge,” can add considerable heft to your base rent, so tenants need to determine whether core charges are included in their base rent from the get-go.

Common Commercial Lease Types

Gross Leases

Gross or Full-Service Lease

A gross or full-service lease is one in which a business tenant pays a landlord a flat monthly or annual rental fee to occupy a commercial space, with the understanding that the landlord will be responsible for covering all operating expenses associated with it, including utilities, insurance, property taxes, maintenance, etc.

With only one fixed lease payment to worry about each month, businesses can budget better and focus on making sales or developing new technologies instead of attending to the cash outlays and paperwork that go along with managing operational expenses.

But while tenants may find gross leases convenient because landlords define what operating costs to include in a tenant’s base rent figure, gross leases are likely to incorporate expenses a tenant usually wouldn’t be responsible for.

Costs related to the landlord’s marketing, administration, property management, landscaping and even legal bills can be rolled into the monthly amount. Because commercial real estate owners and investors are all about generating ROI, a significant markup will be levied on it all.

Gross Lease with Stops

Many landlords are unwilling to offer tenants a pure gross lease that puts all the onus for covering operating costs on them. Because property tax increases can be unpredictable, utilities are vulnerable to inflation, and maintenance materials can balloon in the face of supply chain disruptions, to safeguard their profits, landlords might offer a gross lease “with stops” instead. In this case, if certain operating costs like property taxes and utilities rise beyond an agreed level, tenants will be asked to help pay them.

Landlords usually consider the first year of a tenant’s lease as a “base year” against which they measure any increases in operating costs.

When negotiating the terms of commercial lease types such as gross or gross with stops, try to keep the costs listed under the operations umbrella as few as possible, and in a multi-tenant building, make sure you know which costs will be billed on a prorated basis (for example, snow clearance for the building’s parking lot), and which on an as-use basis (for example, HVAC, water and hydro).

Where Is The Stop Point?

Your landlord will want you to contribute to operating costs if their profit margin drops substantially. A tenant’s ability to negotiate the stop point depends on the market. In a tight market, where space is scarce, and rents are high, your pleas for a higher stop point will likely be brushed aside. In a low market, landlords who want to hang onto their tenants will be more willing to meet you partway.

Does The Stop Point Remain The Same During The Life Of The Lease?

Because prices for materials and services almost always escalate over time – unless the stop point is fixed – you’ll likely pay an increasing portion of the landlord’s costs each year unless you negotiate a periodic upward adjustment of the stop point.

If your lease contains some form of yearly rent increase, you can argue that if it’s reasonable to increase your base rent based on the assumption that operating costs will increase, it’s also reasonable to raise the stop point so you’re not double-paying for those increases.

Net Leases

There are three types of net leases: single net leases (N), double net leases (NN) and triple net leases (NNN). In each of these commercial lease types, the tenant pays base rent plus utilities and one or more costs associated with the commercial property they want to lease.

Single Net (aka Net, N) Leases

A single net lease requires tenants to pay base rent plus utilities (water, hydro and Internet) and a prorated amount (or all, in the case of a single tenant occupancy) of the annual property tax on the building or space they occupy. Repairs to any of the building’s structural components – including the roof and foundation – remain the landlord’s responsibility, as do all other maintenance and operating costs, including insurance.

Double Net (aka Net-Net, NN) Leases

With a double net lease, tenants pay base rent, utilities, property taxes, and insurance. The landlord continues to handle all building maintenance and structural repairs.

Triple Net (aka Net-Net-Net, NNN) Leases

A triple-net lease is basically the opposite of a gross lease. Triple net leases start with base rent and utilities, then require tenants to pay for property taxes, insurance and most of the costs of operating the building – including all building repairs and maintenance.

Because tenants are willing to take on additional expenses associated with the space, landlords usually reduce the base rent in these commercial lease types. Landlords may allow extended lease terms of 10 to 15 years, add caps or concessions on yearly rent increases, and even permit tenants to transfer their lease to a new tenant should they decide to move.

Tenants who prefer a triple net lease vs. gross lease cite longer lease terms, reduced base rent and increased transparency regarding operating costs as the main reasons for choosing these commercial lease types.

Percentage Leases

Percentage leases require tenants to pay a percentage of gross sales (once levels pass an agreed-upon threshold) in addition to a low base rent. A typical revenue-share rate is in the area of seven to eight percent.

Retail malls often feature these commercial lease types.

Which of These Commercial Lease Types is Best?

Opting for a gross, net or percentage lease depends on many factors, including the type of business you run, the kind of building or space you rent and what makes the most sense for your company.

Your commercial real estate agent and a real estate lawyer who understands the ins and outs of different commercial lease types can help you weigh the pros and cons of your landlord’s initial offer and create counter-offers that get closer and closer to a final contract that best serves your business.

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