What to Look Out for When Reviewing an NNN Lease
What is a Triple Net Lease?
A lease agreement where the tenant agrees to cover all expenses, including property taxes, building insurance, and maintenance, in addition to paying rent and utilities, is known as a triple net (NNN) lease. This is a type of commercial net lease. In comparison, a single-tenant net lease requires the tenant to pay property taxes along with rent, while a double net lease adds property insurance to the tenant’s responsibilities.
Why are NNN Leases Important for Investors and Owners?
Specifically for shopping center owners, NNN leases are essential because they shift much of the financial burden for property-related expenses onto tenants. Under an NNN lease, tenants are responsible for paying property taxes, insurance, and maintenance costs, in addition to their base rent. This structure allows shopping center owners to have a more predictable and stable cash flow because the variability of operating expenses is minimized. By transferring these costs to the tenants, owners are shielded from unexpected increases in taxes, insurance premiums, or maintenance fees, which can otherwise erode their profits.
Additionally, NNN leases create a more hands-off management approach for shopping center owners. Since tenants handle the day-to-day expenses and upkeep, owners can focus more on long-term asset management and property growth, rather than dealing with operational issues. This makes NNN leases especially attractive for institutional investors and shopping center owners with multiple properties, as they reduce administrative burdens and enhance the overall profitability of their investment. The tenants’ vested interest in maintaining the property also contributes to its overall upkeep and curb appeal, benefiting both the owner and the shopping center’s long-term value.
Key Details in Understanding an NNN Lease
Capping Common Area Maintenance (CAM) expenses, real estate taxes, and insurance in leases can expose shopping center owners to significant financial risk by limiting their ability to pass on rising costs to tenants. These expenses often fluctuate due to factors like inflation, increased property taxes, or rising insurance premiums. If a lease includes caps on these costs, and the actual expenses exceed the cap, the landlord is forced to absorb the difference, reducing profitability and undermining the stability of their cash flow. This is particularly concerning in scenarios where real estate taxes are reassessed after a property is sold. In such cases, the property’s value may be significantly increased, leading to higher taxes that the landlord must cover if there is a cap in place. Without a cap, tenants would typically absorb the increased tax burden, keeping the landlord’s financial position more secure.
Moreover, capping these expenses weakens one of the key advantages of NNN leases, where tenants are responsible for the operational costs of the property. By limiting what tenants pay, landlords are not only left vulnerable to cost increases, but may also find it difficult to properly maintain or improve the shopping center without incurring out-of-pocket costs. This can impact the long-term value of the property and its attractiveness to future tenants or investors. Ultimately, while expense caps may seem tenant-friendly, they create financial unpredictability for owners, who are left balancing rising costs with potentially diminished returns.
