There is a certain subset of investors who want the benefits of owning commercial real estate assets, but not the hassle of actually managing them. Fortunately, there are a number of commercial property investment options available to meet this preference. Among the most popular are properties with “net leases.”
In this article, we will define what a net lease is, describe the different variations, and highlight the differences between two specific types of net leases known as the “triple net lease” and the “absolute net lease.” By the end, readers will have a thorough understanding of net leases and will be able to put this knowledge to use as part of their commercial real estate investment due diligence process.
At First National Realty Partners, our investment focus is on grocery store anchored retail properties. Occasionally, these properties contain tenants with net leases. To learn more about our current investment opportunities, click here.
What is a Net Lease?
There are two types of leases commonly used in commercial real estate, “gross” and “net.” The difference between the two has to do with whether the tenant or the property owner is responsible for payment of the property’s operating expenses.
In a gross lease – sometimes called a full service lease – the tenant pays one monthly rental amount and the landlord pays all of the operating expenses. Tenants like this structure for its simplicity and property owners like it because they can charge higher rents. But, tenants may not appreciate the higher rents and property owners are exposed to the risk of rising operating costs that they can’t pass through to the tenant.
A net lease agreement is the opposite. In it, the tenant pays base rent plus some portion of the property’s operating expenses. The exact portion depends on the specific type of net lease, of which there are four:
- Single Net Lease: Tenant pays base monthly rent plus their share of one of the property’s major operating expense categories, usually property taxes.
- Double Net Lease (NN Lease): Tenant pays base monthly rent plus their share of two of the property’s major operating expense categories, usually property taxes and insurance.
- Triple Net Lease (NNN Lease): Tenant pays base monthly rent plus their share of three of the property’s major operating expense categories, usually property taxes, insurance, and maintenance.
- Absolute Net Lease: Tenant pays base monthly rent plus all of the property’s operating expenses.
The last two types, triple net and absolute, are particularly popular with investors who want the benefits of commercial real estate ownership, but not the hassle of day to day management. But, they are somewhat similar so it is important to note the differences between the two.
Key Differences Between Triple Net and Absolute Net Leases
The major difference between triple net and absolute net leases is highlighted above, but additional detail is necessary to truly understand it.
A triple net lease requires that the tenant pay their monthly rent plus all costs related to: (1) real estate taxes; (2) insurance, and (3) maintenance. This is why it is called a “triple” net lease. Within the category of maintenance, the specifics of the lease will detail exactly what the tenant is responsible for paying, but it usually involves things like common area maintenance, landscaping, and basic repairs.
In an absolute net lease structure – sometimes referred to as a bondable lease or absolute NNN lease – the tenant is responsible for all operating costs. This includes property taxes, insurance, and maintenance like the triple net lease. But, it also includes the cost of things like replacing a roof or HVAC system or rebuilding the property in the event of storm damage. In addition, they must continue paying rent in the event that a property is condemned.
While subtle, these differences are very important and real estate investors must be aware of them prior to committing capital to a net lease property investment.
Net Leases and Private Equity
The business model of a private equity firm is to raise capital and use it to invest in the equity of other companies…including those that own real estate. And, within those real estate assets, private equity firms may or may not invest in properties that have absolute and/or triple net leases.
When a real estate investor places their capital with a private equity firm, it is up to them to understand the firm’s investment strategy and whether or not it includes absolute and/or triple net leases. When it does, they must perform their own due diligence – independent of the private equity firm – to ensure that the opportunity is a good fit for their own investment objectives, risk tolerance, and time horizon.
Summary and Conclusion
A net lease is a type of commercial real estate lease that requires the tenant to pay a base monthly rental amount plus some portion of the property’s operating costs, depending on the specifics of the lease.
There are four types of net leases: single net lease, double net lease, triple net lease, and absolute net lease. The last two are particularly popular with investors seeking a passive income stream.
In a triple net lease, it is the tenant’s responsibility to pay for all costs associated with property taxes, insurance and maintenance.
In an absolute net lease, the tenant is responsible for all costs associated with operating the property including those associated with repairing/rebuilding a property in the event of a loss or condemnation.
Although subtle, these differences have an impact on the risk profile of a real estate investment and investors should study them closely to ensure an investment is a good fit for their risk profile and investment objectives.
Interested In Learning More?
First National Realty Partners is one of the country’s leading private equity commercial real estate investment firms. With an intentional focus on finding world-class, multi-tenanted assets well below intrinsic value, we seek to create superior long-term, risk-adjusted returns for our investors while creating strong economic assets for the communities we invest in.
If you are an Accredited Real Estate Investor and would like to learn more about our investment opportunities, contact us at (800) 605-4966 or email@example.com for more information.