Arizona’s commercial leases present a labyrinth of complexity, but within this intricate landscape lie opportunities tailored for landlords and tenants. Whether you aim to secure long term occupants as a landlord or find a solid base for operations as a tenant, traversing this field becomes less daunting with the guidance of a seasoned commercial real estate attorney. Legal counsel can transform complexities into valuable opportunities, making it not a mere luxury, but a necessity. While there are many variations within the common agreements, here are the most common types of commercial leases and some key things for landlords and tenants to understand.
Types of Commercial Leases
Stepping into the world of commercial leases can feel like opening a box full of diverse and colorful puzzle pieces. Each lease type – from Gross to Triple Net Lease – carries its unique structure and balance of responsibilities between landlord and tenant. Navigating this intricate landscape can certainly be complex. However, it’s within this complexity that you’ll find a wealth of opportunity. With the right understanding and negotiation, these diverse lease options can be shaped into powerful tools to propel your business towards success. These leases serve as a canvas where landlords and tenants can creatively draft a mutual agreement that aligns with their specific needs and aspirations.
Here are the main types of commercial leases to understand:
Gross Lease
In a gross lease, the tenant pays one flat fixed rent that takes into account the fact the landlord covers all operating expenses, such as property taxes, insurance, and maintenance. This arrangement simplifies budgeting for the tenant as they pay a flat fee every month, with no surprise costs. For example, if a tenant is paying $2,000 per month for a retail space downtown, that’s their total expense. The landlord covers the building’s operating costs, like insurance, utilities, maintenance, landscaping, repairs and security. Gross leases may sometimes, upon agreement by the parties, be modified to meet the needs of the owner and tenant, or the unique characteristics of the property.
Single Net Lease (Net or N Lease)
A single net lease sees the tenant paying the rent plus a pro-rata share of the property taxes on top of their rent. The landlord, however, remains responsible for building insurance, management, maintenance, etc. For instance, a small shop owner might agree to a single net lease where they pay $1,500 in rent and an additional amount towards the building’s annual property tax bill.
Double Net Lease (Net Net or NN Lease)
With a double net lease, the tenant takes on even more responsibility, covering property taxes and insurance in addition to the base rent. The tenant may also pay a share of utilities and janitorial service. A larger corporation might opt for this, factoring these costs into their annual operating budget. An example would be a warehouse operation where the tenant pays $10,000 per month in rent, plus a proportionate share of the property taxes and building insurance.
Triple Net Lease (Net Net Net or NNN Lease) – The Most Common Commercial Lease
A triple net lease offloads the most financial responsibility onto the tenant. Along with rent, the tenant pays a proportionate share of the property taxes, property insurance, and common area expenses and common area utilities. This lease is the common lease in commercial real estate, where businesses absorb a lot of the costs. For example, a fast-food franchise might have a $15,000 per month base rent and also cover the costs of insurance, taxes, and common area maintenance, providing the landlord with a more predictable and hassle-free income.
Handling of Common Area Maintenance (CAM)
In many commercial leases, including the Triple Net Leases described above, the tenants pay a share of common area maintenance (CAM) costs. CAM charges generally encompass expenses that benefit many parcels or tenants. These CAM costs generally include expenses for cleaning, garbage services, landscaping, property management and maintaining shared facilities like restrooms and elevators. CAM costs are usually found in the “Additional Rent” term of a commercial lease. This helps determine which kind of lease you are entering.
The method of calculating CAM costs should be clear in the lease agreement to prevent misunderstandings. Trusted legal counsel can point out whether or not the provisions are clear and what should, or should not, be included.
Pros and Cons of Different Types of Net Leases
Net leases provide a range of benefits and potential drawbacks for both landlords and tenants. Here, we’ll break down these pros and cons, offering informative insights and concrete examples to guide your lease decision-making.
Pros of Net Leases
- Predictability for Landlords: Net leases provide landlords with a steady income stream. Since the tenant takes on some or all of the property-related costs, landlords don’t need to worry about fluctuating expenses that could impact their returns. For instance, if a landlord has a triple net lease agreement with a tenant who pays $3,000 in monthly rent, the landlord can reliably anticipate that income without needing to subtract variable costs like maintenance or insurance.
- Possibility of Lower Base Rent for Tenants: Often, net leases have lower base rents compared to gross leases. This reduction can make premium locations more affordable for businesses. For example, a startup could secure a prime downtown location with a double net lease, offering a lower monthly base rent that fits within their budget, while they also cover the property’s insurance and tax costs. Of course, the “devil is in the details” with net leases, and a tenant must be mindful of which type they are entering.
Cons of Net Leases
- Potential for Unexpected Costs for Tenants: The primary drawback of double and triple net leases for tenants lies in the potential for unforeseen expenses. The responsibility for property taxes, insurance, and common area maintenance can lead to unexpected costs if, for example, the property needs significant repairs. In addition, these common area maintenance charges may vary from year to year.
- Lack of Control for Landlords: While net leases reduce financial responsibilities for landlords, they may also limit landlords’ control over their property.
Net leases offer a unique balance of costs, benefits, and responsibilities. The right lease for any given situation will depend on the specific circumstances of the landlord and tenant, including their financial stability, desire for control over the property, and tolerance for potential risk. Understanding these pros and cons can help both parties negotiate a lease that best serves their interests.
Capital Improvements in Commercial Leases
Capital improvements are major alterations or upgrades to the property which increase the value of the property are generally defined as Capital Improvements. These may include items such as a roof replacement or entirely new HVAC system. The definition of these terms is important as the wrong language could move the item from a “Capital Impovement” to a “CAM charge”. For instance, roof repair may be a CAM charge, whereby roof replacement would necessarily impact the value increase of the property and therefore be considered a Capital Improvement.
Personal Guarantees
Personal guarantees are often included in commercial leases, providing additional security for the landlord. This is one of the most often negotiated (and litigated) provisions of a commercial lease, and for obvious reasons. Tenants are reluctant to place personal assets on the line while Landlords appreciate the security and guarantee received. In fact, Landlords generally require them regardless of the solvency of the entity.
Often the idea of a personal guarantee is a “dealbreaker” in many negotiations However, skillful attorneys may be able to negotiate a limited personal guarantee which caps the liability to a set amount or time frame, reducing risk for the tenant.
How Real Estate Attorneys Can Assist in Lease Negotiations
Engaging a skilled commercial real estate attorney can be crucial during lease negotiations.
As discussed, they can limit potential exposure and ensure that the lease terms are clear, fair, and protect your interests. Whether you’re a landlord or tenant, an attorney can guide you in understanding the financial implications, liabilities, and legal obligations outlined in your lease.
Attorneys play a pivotal role in shaping commercial leases, offering expertise in several key areas:
- Negotiation: Commercial leases involve a myriad of terms that can significantly impact both landlords and tenants. Many times tenants ask “Is this a normal term” when asking for advice. A seasoned attorney can skillfully discuss, explain and ultimately negotiate these terms, ensuring they align with your specific needs and protect your interests. For instance, if you’re a tenant, an attorney could negotiate a more favorable rent escalation clause, keeping your costs manageable over the term of the lease.
- Document Review: Leases are often dense, laden with legal jargon, and their implications are significant since they’re legally binding. An experienced attorney can meticulously review these documents, identifying and mitigating potential risks or liabilities. For example, an attorney can spot a clause that could potentially expose a landlord to undue liability for injuries or accidents on the property and negotiate its modification.
- Dispute Resolution: Commercial lease agreements can, unfortunately, lead to disputes, from maintenance issues to breaches of contract. In such cases, an attorney can be an invaluable ally. They provide professional representation, advise on legal rights, and propose solutions. Should a tenant fail to fulfill their maintenance responsibilities under a triple net lease, an attorney can guide the landlord through the dispute resolution process, ensuring their rights and the property’s condition are preserved.
In the intricate world of commercial leases, having an experienced attorney by your side offers a significant advantage, whether you’re drafting, reviewing, or negotiating lease terms, or navigating a dispute.
Navigating commercial leases is complex, making the expertise of a seasoned Arizona real estate attorney essential. Every lease type carries unique financial implications for landlords and tenants, requiring careful negotiation. Failing to grasp these nuances can lead to significant consequences.
RSN Law attorneys, skilled in Arizona’s commercial real estate landscape, provide invaluable guidance. We shield our clients from potential pitfalls, negotiate favorable terms, and ensure compliance with state laws. We’re not just legal advisors; we’re strategic partners, tailoring our approach to support our clients’ goals. With RSN Law, you gain an advantage in commercial lease negotiations, safeguarding your interests and maximizing your opportunities. Contact our firm today at 480-712-0035 or schedule an appointment on the contact us page of our site.
RSN Law intends this article to be for informational purposes, not to be relied on a specific legal matter, and does not create an attorney-client relationship.