Rental leases in the residential real estate industry are fairly straightforward and similar. For example, the tenant usually pays a gross rental amount and may assume most or all responsibility for utilities. The landlord typically pays for property taxes, property insurance and maintenance on a residential investment property. With commercial real estate leases, however, there are significant variations in the lease term options. By asking what is a triple net lease, you can better determine which property to invest in or how to structure your commercial leases with tenants going forward.
The Concept of a Triple Net Lease
A triple net lease, or NNN lease is a common commercial lease structure. In this type of lease, the tenant is responsible for paying the property’s taxes, insurance, and maintenance costs, in addition to the rent.
The NNN lease is most suitable for office, retail and special use properties, such as gas stations, restaurants and more. If you own a commercial multifamily property or a self-storage property that has dozens or even hundreds of individual leases with smaller tenants, a standard or gross lease is more common. Some property types even use a residential lease to let individual apartment units to tenants.
A true triple net lease has advantages and disadvantages for both parties. Many landlords view this is the most profitable and convenient way to manage a commercial property. However, there are instances when this type of structure may actually be disadvantageous for one or both parties.
Remember that when you ask what is a triple net lease, this type of lease requires the tenant to pay for common property-related expenses rather than simply a gross rental payment each month. It can be cost-prohibitive for a tenant to assume all of these expenses. This is especially true when another landlord is offering a similar unit on a gross lease. Because of this, the actual rental rate for a triple net lease is usually reduced in comparison to the rental rate on a gross lease to compensate for the other expenses that the tenant is required to pay.
Advantages and Disadvantages of Triple Net Leases
When you want to know what is a triple net lease, you need to spend time analyzing the advantages and disadvantages of this common type of commercial lease. It can affect your investment decision when you are buying a rental property with an established lease in place. It can also affect the lease terms that you choose to offer to a prospective tenant. With a closer look at the advantages and disadvantages regarding what is a triple net lease, you can make a better overall decision about how to choose investment properties or how to structure your commercial leases going forward.
Advantages of a Triple Net Lease
As you examine what is a triple net lease, you will discover that they are very popular with both landlords and tenants.
Many tenants enjoy the fact that they have a lower rental payment and greater direct control over the property’s expenses. For example, they choose which repairs and maintenance items to complete and which contractors to hire to get the job done. They also have direct control over utility expenses and only pay the actual expenses associated with the property. This is opposed to paying a higher rental rate that is designed to cover all possible expenses that a landlord may pay regardless of whether those expenses are actually realized or not.
On the landlord’s end, the benefit of having all expenses paid for by the tenant decreases the overall exposure to potential loss. This loss may be related to property damage or excess wear and tear by the tenant, higher utility bills, and more. Such factors can easily erode overall profits for the landlord.
In addition, many commercial leases are ten years or longer. During this time, common expenses like property insurance and taxes can easily escalate. However, the rental rate with a long-term tenant is locked in. Even with a lease agreement that has escalating rental rates over a period of years, there is still some risk. This risk comes from the uncertainty about how high these expenses may increase. The tenant assumes this risk with a triple net lease, and the landlord’s overall profitability is better ensured.
Disadvantages of a Triple Net Lease
When you spend time analyzing what is a triple net lease, you must also review the negative aspects of this type of lease.
For the tenant, the primary risk or downside relates to the possibility of substantial increases in property taxes, insurance and other expenses. Because the tenant is responsible for these varying expenses from year to year, it will be more difficult to manage business expenses and to budget properly.
Furthermore, the actual tracking and payment of these expenses can be time-consuming and tedious. Property repairs also become burdensome to the tenant. Rather than making a quick phone call to the lender to address a maintenance or repair issue, the tenant must locate a contractor, set up service and monitor the service activities.
A triple net lease is not without its risks for a landlord as well. For example, not all tenants will act according to the terms of the lease. For example, some may fall behind on property insurance and tax payments, and this is a vulnerability for the landlord.
In addition, the tenant may not take as great care of the property as the actual property owner may. Over time, the property may fall into a state of disarray. This could negatively affect property value, and create high repair expenses for the landlord after the tenant vacates the property.
A final and important point to consider relates to overall profits. An alternative to a triple net lease is a percentage lease, where the property owner receives a certain percentage of the income that the tenant generates from the property. This is an excellent lease structure for landlords who are timid about getting locked into a fixed rate of return for years to come. A triple net lease does not leave any room for future rent increases until the lease expires, unless rent escalations are built into the lease. A percentage lease, on the other hand, lets the landlord directly profit from the business activities on the property.
When you ask what is a triple net lease, you also must understand what a gross and percentage lease are. To decide if a triple net lease is the best overall structure for your property, you must weigh its pros and cons. You should also consider the pros and cons of the other possible commercial lease types. Assess your short and long-term goals, your time availability to monitor the property directly and numerous other factors. Then, you may decide that one lease option is more desirable than another. When you list a property for lease with a local real estate agent, you typically will market the property for sale with a specific type of lease required.