Understanding the Types of Commercial Leases Available for CRE Investment
Commercial property leases provide stable returns and long-term appreciation potential for commercial real estate (CRE) investments. The trickiest aspect is knowing which types of commercial leases make the best use of your CRE investment dollars. And, with the best commercial lease type decided, you must negotiate a deal that is favorable for yourself and the occupants.
Which is why serious CRE investors partner with a reputable CRE broker, like LiNC Commercial Realty, who understands the local area and will oversee leasing negotiations on your behalf. Whether it’s office space, industrial CRE, or retail, careful planning and skilled negotiation are critical for getting the best ROI.
This article looks at the different types of commercial leases and the pros and cons of each for CRE investors.
Types of Commercial Leases and Variants
All commercial lease types are viable as a means of CRE investment ROI if the property and tenants check the right boxes. There are three main types of commercial leases to consider, each with their own variants:
- Gross lease or full-service lease
- Net lease or NNN lease
- Modified gross lease and modified net lease
Let’s go over each of these and their associated variations.
#1 Gross/Full-Service Lease
The gross or full-service lease is an agreement where the tenant pays the property owner only a base or fixed rent for occupancy. There are no other reimbursements to worry about with this type of lease. These agreements typically cover utility costs, common area maintenance (CAM), and other property operating expenses.
Even so, it’s important to check the final contract for any hidden, variable cost potential.
| Gross Lease Tenants: A popular leasing option for those desiring a predictable, stable rent payment without extra charges and surprises. Gross lease agreements tend to attract small businesses, startups, and businesses with limited financial resources that would have difficulty incurring additional surprise costs. |
#2 Net Lease
A net lease is a highly customizable agreement. It may offer a considerably lower base rent than the above gross lease. However, the tenant pays fixed operating expenses, e.g., property taxes, insurance, and CAM costs, in addition to their lower base rent. Four different types, or variations, are available to help you find the most suitable lease option for your investing purposes.
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Single Net Lease (SNN)
In an SNN, tenants must pay a base rent plus contribute towards property taxes and utility bills. Conversely, the landlord pays the property’s insurance and associated CAM costs. In a single net lease, the tenant picks up some operating expenses but less than the double or triple lease variations we will cover below.
Disadvantages of an SNN include the following:
- Higher rents than other lease options
- Limited opportunities for contract negotiation
- Limited ability to control costs
| Single Net Lease Tenants: This leasing type attracts businesses or startups that want to maintain a low base rental rate in exchange for control of other agreed property expenses. |
Double Net Lease (NN)
The double net agreement is like the single net option above. The primary difference is the tenant pays part of the building insurance and property tax. Landlords pay CAM costs, but utilities and garbage collection remain the tenant’s responsibility.
Disadvantages of NN leases include the following:
- Limited control over the rented property
- Property-related costs like taxes and insurance can add up
- Unpredictable expenses, e.g., potential rises in taxes and insurance
| Double Net Lease Tenants: Attractive to those looking for a mid-range rent payment with some surplus financial means to handle additional costs. Such tenants may include small business owners, retail stores, medical specialists, and other office professionals. |
Triple Net Lease (NNN)
This type of lease is most popular with CRE investors, as it shifts most operating expenses and associated risks to the tenant. That means tenants pay all or most property taxes, insurance, and CAM costs related to the property. CRE tenants also like it, as they get a stable, low base rent with increased control to potentially reduce the property’s operating costs.
Disadvantages of this NNN lease for CRE tenants may include the following:
- Responsible for paying operating expenses
- May experience limited flexibility with long-term agreements
- Potential unexpected increases in property-related expenses
| Triple Net Lease Tenants: Attracts financially stable tenants who want greater control over their overall space, tenure, and costs. That typically includes larger corporations, national retail chains, or savvy small business tenants willing to take charge of most operating expenses. |
Absolute Triple Net Lease (Bondable Lease)
The absolute triple net is an extension of the triple net agreement above. With this type of contract, the tenant assumes full responsibility for all building-related expenses. Think of it as having total control over the premises without purchasing the property.
Disadvantages of the bondable lease type include:
- Tenants responsible for all property expenses, including unexpected costs
- Monthly expenses are typically higher compared to other lease agreements
- Increased risks and less overall protection
| Absolute Triple Net Lease Tenants: Attractive to well-established, creditworthy leaseholders who want total control over property management or to use the lease as preparation for purchasing their own commercial real estate. These may include retail chains, fast-food restaurants, banks, and other businesses with deeper pockets. |
#3 Modified Gross Lease/Modified Net Lease
The modified gross lease focuses on balancing the needs of tenants and property owners. This middle ground allows for flexible negotiations over operating expenses while maintaining a fixed base rent. Thus, increases or decreases in operating costs will not affect the lease rate.
Disadvantages of the modified gross lease include:
- Limited control over building maintenance can impact long-term operations
- Potentially higher base rent compared to triple net lease agreements
- Possible fluctuations in operating costs
| Modified Gross Lease Tenants: This lease variation is a good fit for those who seek flexibility in expenses and more control over their cash flow. Examples are small to medium-sized businesses and professional service providers, e.g., attorneys, accountants, and retail tenants. |
Summing Up the Different Types of Commercial Leases
Commercial leases can offer stable income and long-term appreciation potential for investors. All commercial lease types and their variations have specific advantages and disadvantages that will make them more or less attractive to certain types of CRE investors and potential tenants.
What works best depends on several factors, such as lease duration, the type of business, budget, location, and space requirements. That’s why it’s best to always consult a professional CRE firm, like LiNC Commercial Realty, with extensive local market, lease negotiation, and tenant management experience for guidance.
