Negotiation Strategy: Understanding Lease Types

The Logistics of Leasing

We have partially covered lease types so far in the lease proposal section earlier. For starters, there is no authority on lease types. The purpose of lease types is to set expectations and give a broad brushstroke for what to expect, but the specific language buried deep in the lease dictates. As a result, you can find two leases with identical language be called different types of leases. Therefore, it is essential to come to each lease with a fresh perspective, ready to identify who is responsible for what.

The classification of lease types is a broad spectrum based on inclusion or exclusion of property operating expenses. Lease types include Industrial gross, gross, modified gross, modified net, single net, double net, triple net, and absolute net.

Industrial Gross, more commonly called Gross, is the most inclusive lease meaning that the rental payment includes all of the property tax, insurance, and common area maintenance expenses. On the other side of the coin is the triple net lease, whereby the rental payment excludes operating expenses. Each “net” within the triple net lease represents an operating expense, namely, property tax, insurance, and common area maintenance. The term Modified Gross is in the middle where it can include property tax and insurance but not maintenance.

Part of the difference between an office lease and an industrial lease is the sharing and payment of utilities. Office buildings usually have common lobbies, corridors, and bathrooms for which the landlord needs to cool, heat, clean, and provide water, drainage, and electricity for. When they do, the office lease concept called Full-Service Gross applies when the lease includes property tax, insurance, common area maintenance, electricity, and janitorial services. You’ll find office leases will include all utilities when they are shared. If the office building is a one or two-story suburban office building, you might find it without a lobby, with exterior walkways and separately metered utilities. As such, these one and two-story office buildings will usually be modified gross leases, which include property tax, insurance, and common area maintenance but not electricity. Industrial buildings generally have separate entrances, bathrooms, and electricity service, which is why they are either gross or triple net.

All of this is usually confusing to non-industry insiders and young executives at first. At the bare minimum, you should be prepared to take care of all of the interior property maintenance on your own, including HVAC maintenance, doors, windows, ceiling tiles, lights, bathroom fixtures, and roll-up doors dock bumpers. It pays to have your broker or attorney explain it to you and look out for you until you have grasped this concept. If you don’t understand it right away, that is okay, just be aware that there are different kinds to ensure that your team is ensuring that the lease is structured correctly.

In today’s modern industrial real estate arena, the onus is on the tenant to take care of the property as if they owned it. The tenant might take care of the property with their internal facilities management staff or with external vendors. The landlord might take care of the property and bill back the tenant for all of these expenses. Who takes care of the property can be a mix of the two; for instance, the tenant takes care of everything except the roof. Some institutional landlords will service the HVAC units themselves and bill the tenants back for the quarterly service. The thought process here is that the landlord completes any need service to the highest level to extend the useful life of the building systems and preserve the property’s value. In other instances, the landlord turns the units over to you and expects to get them back in property working condition at the end of the lease.

There is a cost for the landlord to provide these services so they will be higher than if you performed them yourself because they will include property management fees to perform such duties. On the other hand, you might have a facility manager that already takes care of everything in your warehouse and adding the exterior building responsibilities to his job duties is a minimal extra burden.

In industrial leases, electricity and janitorial services are always separately paid for by the tenant. The main reason for this is that each industrial tenant has its unique use, and therefore, their own specific electrical need makes it impractical for a landlord to predict.

80% of the time, the answer to what type of lease you need is determined by which building you choose. For example, if we find the perfect building and a large institution owns it, it is likely that they already have a specific way they operate their buildings. Having the landlord in charge of common area maintenance is especially true in business parks because it is essential to pool expenses and maintain the business park’s image. Single-tenant buildings are where there can be some flexibility in how we handle building operations.

The moral of the story is that you want to be very clear about what you are signing up for during the lease negotiation. You want clarity on what you are responsible for.