How does a net (NNN) lease differ from a gross lease? What stays the same? And how do you know which is a good fit for your business?
While every industrial lease has its own set of particulars, there are two main types of leases in use today.
Chances are you occupy your space pursuant to a net (aka NNN) or gross Lease. In general, net leases are used on most single tenant, freestanding buildings and larger multi-tenant warehouse projects, many of which are institutionally owned. Gross leases are used primarily in multi-tenant business parks and by property owners who choose to have tighter controls over how their properties are managed.
There is a bit of misconception out there as to the differences between the two lease types that goes back a long way. Let’s take a high altitude look at both options to help you decide which option is best for you.
The three N’s in NNN commonly refer to property taxes, property insurance and maintenance. So, a rate of $.90 NNN is an amount “net” of those items, meaning the tenant pays them in addition to their “base” rent. Net charges vary widely, primarily due to the property tax component that depends on when the property being leased last changed hands. In today’s world, net charges can run anywhere from 10 to 30 cents per square foot per month.
A gross lease rate includes the property taxes and the basic property insurance premium for the initial or “base” year of the lease, along with the cost to maintain the roof and the structural elements of the foundation and exterior walls. Increases in property taxes and insurance premiums beyond the base year are passed through to the tenant. The gross lease rate is correspondingly higher than a net lease rate to reflect the base year taxes and insurance.
In both net and gross leases, the tenant is responsible for all other maintenance costs associated with the property. This is an often misunderstood fact, as many tenants leasing on a gross basis assume the maintenance costs for the entire facility are included in their rental rate.
While that is true for most office property leases, it is not the case for industrial properties. So, if you lease on a gross basis, you must maintain all building systems inside and out, including landscaping and parking areas. You are even responsible for painting the exterior walls. The only thing the landlord really has to do is service the roof.
In the case of a business park with multiple tenants, the landlord might assume responsibility to perform certain maintenance items, but will then impose a CAM, (or Common Area Maintenance) charge to recover those costs. This methodology makes sense in business park environments due to the economies of scale afforded by hiring single vendors for each maintenance component. At the end of the day, the tenants pay for it all whether or not the landlord is involved.
With regard to all other aspects of both types of leases, they are virtually identical.
Lease documents provided by the American Industrial Real Estate Association (AIR) are the most commonly used in California. Compared side-by-side, it takes a trained eye to discern the differences between the net and gross lease documents. Most of the standard clauses are identical, but that doesn’t mean that either one is right for you as a tenant or as a landlord.
In our next post, we will take a closer look at determining which lease you should be using based on the unique circumstances of the transaction. Stay tuned.