This question came up in another post. I thought a simple overview of the different lease structures would be beneficial to future RE monkeys.
The three basic types of leases are:
- Gross
- Modified Gross
- Net (single, double, triple, and absolute net)
Gross or Full Service Lease:
In a gross lease, rent is all-inclusive which means the tenant pays one lump sum and from that the landlord pays all the property expenses. This makes the lease very favorable to tenants since the risk of rising taxes or utilities is wholly on the landlord. This also means the tenant does not need to worry about paying numerous bills or maintaining the property. This allows the tenant the ability to easily budget rent expense. Given the all inclusiveness of the rent, a gross lease will be $6+ per square foot more than a net lease in order to cover the property operating expenses.
The negative for the owner/landlord is a gross lease is much more involved. The owner will need to have a property manager to ensure the bills are paid and the property is properly maintained.
Modified Gross Lease:
The modified gross lease is the happy medium between a gross and net lease and is very common for office properties. Like a gross lease, rent is paid in one lump sum and the landlord will pay property operating expenses from that. However, the landlord and tenant will agree on shared amount of maintenance expenses. For instance, the parties may agree that the landlord will pay for all operating expenses except for utilities, taxes, and insurance.
A base-year lease is a type of modified gross lease. Under this structure, the landlord will pay the agreed upon operating expenses up to a set base-year amount and the tenant will pay any additional expenses above the base-year amount. Let's say, for example, the base-year amount is set at $100. If operating expenses were $150 for the year, then the landlord would pay $100 and the tenant would pay the remaining $50.
Net Leases:
There are four types of net leases: Single Net Lease (N), Double Net Lease (NN), Triple Net Lease (NNN), and Absolute NNN.
Single Net (N): The tenant pays base rent plus its pro-rata share of property taxes. The landlord covers all other building expenses.
Double Net Lease (NN Lease): The tenant pays base rent plus its pro-rata share of property taxes and property insurance. The landlord covers all other building expenses.
Triple Net Lease (NNN Lease): This is the most popular type of net lease for commercial buildings and retail space. The tenant pays base rent plus its pro-rata share of property taxes, insurance, and common area maintenance
Absolute Triple Net Lease: This lease is the most rigid of the net leases. The tenant pays base rent plus all the expenses under a NNN lease. Additionally, the tenant is responsible for all roof, structure, and parking lot repairs and replacements.
One thing I would like to add regarding Modified Gross (with the caveat that each market is different, explaining why so many people have different views on this topic). Here in Los Angeles, MG is a common type of lease, specifically found in medical office leases. MG is a hybrid of NNN & Base Year- with tenant paying NNN on janitorial & utilities, and all other expenses are paid over a Base Year.
Thanks Gentleman and Scholar for your insight regarding the LA region! Agreed that within each region (and property type for that matter), lease structures will vary quite a bit. Understanding leases is not difficult, it just takes time looking at them and having a baseline understanding of each structure.
Structures also vary depending on the property type. For example, in healthcare you have more popular RIDEA based leases where the landlord gets a base + a portion of EBITDA/NOI that is earned by the business. The actual structures of these are highly dependent on the negotiations between the landlord and tenant.
Another heavily negotiated point on lease terms is the funding of working capital/TI that is outside of the triple net lease structure discussed above.
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