Commercial Real Estate Lease Types - YouTube

Welcome to CRE Fast Five and today’s discussion on  lease terminology. I’m Karly Iacono. This will be  

a short episode today meant to clarify the basic lease  structures. Now we love net lease – or at  

least I do. But the term net lease refers to  a category of deals in which the tenant pays  

some or all of the expenses and there are many  variations of lease types just within net lease itself.

Not to mention gross or modified gross leases  which are in another category altogether. Today we  

are going to cover the lease types from the most  landlord responsibilities to the least, so let’s  

start with gross leases. In a gross lease, also  called a full service lease, the tenant pays rent  

only and the landlord is responsible for all other  building related expenses including maintenance,  

taxes and insurance. Modified gross leases  typically mean that the tenant pays some portion  

of operating costs and utilities in addition to  rent. The details vary from contract to contract.  

In some modified gross leases, tenants pay  only base rent and utilities for the first year  

but in each additional year the tenant pays a  pro rata share of the building’s operating costs.  

Gross and modified gross leases are most often found  in multi-tenant retail centers. Next in the  

lineup is the single net lease. Under a single  net lease, the tenant pays rent along with taxes  

and occasionally utilities. Taxes are the only net  fully covered in this scenario. Under a double net  

lease typically the tenant pays rent, real estate  taxes, insurance, and perhaps some but not all  

of the maintenance. Here the two nets that are  fully covered are taxes and insurance. The double  

net structure is quite common in the discount store space and medical net lease among others. Moving on to  

the very popular triple net lease. Under the NNN structure the tenant fully covers real estate taxes, insurance,  

and building and property maintenance. The three  nets taxes, maintenance, and insurance are all  

fully paid for by the tenant. Note however that  capital improvements such as roof and structural  

repairs and replacement are usually still be on  the landlord in a triple net lease investment.  

This is a very common misconception in the industry.

NNN leases are common in the day care and  automotive segments among others. The next  

category is the very popular absolute net lease.  Under an absolute net lease the tenant pays taxes,  

maintenance, insurance, AND all capital expenses  in addition to rent. In essence the tenant covers  

absolutely everything making it one of the  most passive forms of real estate ownership.  

Absolute net leases are common in QSR deals,  convenience, and drug stores. Now we will move  

on to a structure you will see less frequently  on single tenant properties and that is the  

percentage rental lease. Percentage rent leases  requires tenants to pay a base rent in addition  

to a percentage of business sales. Percentage rent  leases can be double, triple or absolute net as  

the defining percentage rent clause only impacts the rent the tenant is paying and not the responsibilities. Percentage rent  

leases are fairly uncommon in retail net lease but  I do see them on some drug store and QSR deals.  

Usually there will be a floor giving the  investor some level of guaranteed income  

not tied to performance. The final lease type I’ll  cover tonight is the ground lease. This is both  

a form of ownership and a lease type. A ground  lease separates ownership of the building from  

that of the underlying ground. If you own a ground  lease property, you own a fee-simple interest in  

the ground only − not the building. The landlord  has zero responsibility making it a second form of  

passive ownership in addition to absolute net.  Note that when the tenant vacates in a ground  

lease investment, the building reverts back to  the ground owner and can then be converted to fee  

simple ownership. This distinction is relevant  to the landlord from a tax and depreciation  

standpoint and is something your accountant  can weigh in on further. Certain tenants,  

like Chase Bank will only ground lease properties  where as others prefer to pay higher rent  

and have the landlord or developer participate in  the build out creating a fee simple property. To  

the investors both ground leases and absolute net  leases can be pure passive ownership structures  

with no landlord responsibilities. In summary  the lease classifications are tied to the level  

of landlord responsibility on the property but  the terms are often used incorrectly so as always  

read your leases carefully. That was CRE Fast  Five. I’m Karly Iacono. I’ll see you next week.