A triple net lease refers to a type of lease for a commercial property where the tenant pays all or part of the property taxes, building insurance and maintenance (the three “nets”) on top of the monthly rent and utilities. Triple net leases typically have a lower rent charge because the tenant takes more responsibility for the ongoing costs of the property.
Three Types of Net Leases
There are three different types of commercial real estate leases. They are organized according to the rent calculation method: gross and net. The tenant pays a lump sum for the rent for gross leases and the landlord pays his expenses from that sum. In the case of net leases, the tenant pays part or all the other costs and benefits from a smaller base rent in return.
Some of the expenses associated with maintenance and operations in commercial leases include real estate taxes, building insurance and common area maintenance items (CAMS), including property management fees, water, sewer, janitorial services, landscaping, parking lots and more.
There are several types of net leases, ranging from single net leases, in which tenants pay the base rent and a pro-rata share of the property tax, with the landlord covering all other expenses, to double net leases where the tenant is responsible for base rate and a pro-rata share of property taxes and insurance. Finally, in triple net leases, the tenant pays all the three “nets,” i.e., property taxes, insurance and CAMS, on top of the base rent.
Understanding Triple Net Leases (NNN)
Triple net leases are the most popular lease option for retail spaces and freestanding commercial buildings. The tenant is responsible for paying the base monthly rent plus property taxes, insurance and CAMS. Some operating expenses and common area utilities are also lumped in; for instance, the tenant would be responsible for covering the cost of a lobby attendant.
Under a triple net lease, landlords typically estimate the expenses they have with the property and then charge the tenants a portion of those expenses based on a pro-rata share. For example, if a tenant leases 2,000 square feet of a 20,000 square foot property, they would be responsible for 10% of the property taxes, building insurance and CAMS.
Triple net leased properties have become popular investment options for investors who are looking for steady incomes that carry comparatively low risks. These investments may include shopping malls, office buildings, industrial parks or freestanding buildings that are operated by restaurant chains, banks, or pharmacies.
What Are the Pros and Cons of a Triple Net Lease?
Triple net leases come with pros and cons for both landlords and tenants. If you’re wondering whether this type of lease would be suitable for you, have a look at the pros and cons listed below for landlords and tenants.
If you’re a building owner, there are multiple ways a triple net lease would benefit you. The most important of them are listed below.
Long term leases — the typical commercial real estate lease is three to five years, but triple net leases can last for 25 years or more. Long term leases benefit landlords because there is less opportunity for vacancy and less turnover to worry about.
Consistent income — these leases are structured with a fixed increase in the lease payment to account for inflation or a flat rent. As a result, it’s typical to see a rent increase structured into a triple net lease agreement. This means that the landlord can expect to see some profit growth, even if the lease term is long.
Minimum responsibility for the landlord — because most of the cost of running the property is the tenant’s responsibility, landlords generally have minimal obligations. Triple net leases generally require the tenants to pay the cost of taxes and property insurance as well as any construction costs to make the property usable for their particular business.
Transferable leases — triple net leases are generally transferable, meaning that landlords who want to sell their interest in the property can do so even if a lease is in place and the property is occupied. This is very important for many landlords because they can move on with their investment strategies when it makes sense without having to worry about the tenants in the property.
Just like with any other type of property lease, there are some cons to be considered if you are a landlord looking to sign a triple net lease. Below are some of the most important disadvantages.
Difficulty finding a tenant — it is typically more difficult for landlords to find a tenant for this particular type of lease, mostly because tenants don’t want to take on that level of financial responsibility. As such, I expect the process of finding a suitable tenant for the lease to be somewhat of a challenge.
Earning caps — rents on triple net leases are normally lower than those you might expect for single or double leases. This happens because you’ll pass many of the costs associated with owning and operating to attend. Even though this type of rental is likely to provide you with a consistent income source for a long time, especially if you negotiate a fixed rate for inflation, you may not be able to get a rate that matches market rates.
High rollover costs — no matter what type of lease you have in place for property, changing it comes with rollover costs. With a triple net lease, you can expect these costs to be higher than they would for a different type of commercial lease or a residential one. If you have a tenant in place for decades, you should be prepared to deal with a lot of wear and tear at the end of the lease, together with space and move-in ready for the next tenant.
Triple net leases have benefits for tenants as well and the essential ones to keep in mind are listed below.
Low price point for base lease — getting a lower price point for the base lease is the most obvious benefit of a triple net lease for tenants. Because you will be absorbing some or all of the taxes, building insurance and maintenance expenses, you’ll also be able to enjoy a lower monthly rate than with other types of leases.
Source of leverage during negotiations — you can use the particulars of a triple net lease to get some extra leverage when negotiating. Because landlord’s favor tenants that have a solid track record, you can use your creditworthiness to lower the base monthly rate and make the lease work in your favor.
Location — triple net lease properties generally offer prime, accessible locations for businesses. The properties are often close to other popular businesses, which means that the tenant will gain better traffic and exposure.
Triple net leases also come with downsides, with the most important listed below.
Cost of large scale or emergency repairs — this is generally the largest risk associated with triple net leases for tenants. There are ways to mitigate the risks and tenants may be able to limit the systems they are responsible for (plumbing, electrical, HVAC, etc.) or negotiate limit caps on repair costs. It’s always a good idea for tenants looking to sign a triple net lease to hire a third-party inspector to review the property and identify potential high ticket items.
Tax liabilities — in a triple net lease, tenants are responsible for annual property taxes, which means that they will be prone to any potential tax liabilities as well, including, for example, fines and penalties for incorrect or late tax remittance.
Why Would You Sign a Triple Net Lease?
Signing a triple net lease brings with it lower rents for tenants than signing gross leases. Landlords typically factor in the cost of repairs and maintenance expenses into the rent when it comes to a gross lease and they are very likely to include a safety margin in their estimates. If there is no upkeep of the building required during the lease time, the money remains in the landlord’s pocket.
While this may sound tempting, you should keep in mind that this is a double-edged sword. Tenants take on more risk with a triple net lease because they pay out of pocket for any repairs that might be necessary throughout the lease. This also means that tenants can also save money if the building is in good condition and doesn’t require much maintenance. But tenants who rent a building in need of substantial repairs may find out that NNN leases can quickly become more expensive than gross ones.
What is the landlord liable for in a triple net lease?
In some cases, the landlord may end up having to pay nothing at all with a triple net lease. This is because the tenant is expected to pay for all the costs associated with the upkeep and maintenance of the building.
There are, however, some things that the landlord is still expected to take care of for the duration of the lease. These expenses are typically associated with serious structural issues, such as problems with the foundation or the roof. If the landlord is financing the property, they also need to pay their mortgage, but the tenant’s rent payments indirectly cover this cost.
Are triple net leases good investments for landlords?
Triple net leases can be attractive investments for landlords, mainly because the tenant bears the responsibility of covering most unexpected expenses. This is the opposite of what happens in the case of a gross lease, where the bulk of the risk is carried by the landlord.
In the case of triple net leases, the landlord generally has to settle for lower rent payments, but this comes with the added advantage of not having to worry about unexpected repair bills.
If you’re an investor looking for a low-maintenance investment, purchasing and leasing a property under a triple net lease to a tenant who will take care of upkeep costs and property taxes may be a worthwhile option.
However, you need to keep in mind that triple net leases are for commercial real estate, so the initial investment in a property can be costly. In addition, finding a reliable, long-term tenant willing to take on a triple net lease can be a time-consuming undertaking.
As with any other type of investment, there is no guarantee of any returns and you need to consider the pros and cons before making a move.
Triple net leases have become popular investments for investors interested in steady income that doesn’t come with a high risk. Some types of commercial properties that are typically part of portfolios of properties let under triple net leases include office buildings, industrial parks and shopping malls. The typical term for the lease ranges between 10 to 25 years, but in some cases, they can go for up to 99 years.
When evaluating options for commercial property leases, both landlords and tenants should compare the different types of leases available, keeping in mind all expenses and not just focusing on base rental rates. In most cases, base rental rates for NNN leases tend to be much lower than with gross leases, but all additional expenses need to be factored in.
As a rule of thumb, market forces typically even out rental rates for comparable commercial properties, independent of the lease type. As a result, tenants should expect to have roughly the same costs with a triple net lease or modified gross lease for similar quality properties in the same area.