Mastering the Different Types of Commercial Leases

Commercial leases can be confusing, especially if you’ve never had to find commercial space for your business. With many different lease types, it’s crucial to understand their differences to make the best decision for your business’s future.

A commercial lease is a contract between a landlord and tenant for commercial property use. The tenant pays rent to the landlord, who allows the tenant to use the property for business purposes. Commercial leases are typically longer and more complex than residential leases, so it’s essential to understand your lease terms before signing.

Overview of Industrial Properties

Industrial properties could include anything that falls within the categories of; warehouses/distribution centers, manufacturing facilities, flex spaces, and data centers. It is especially important to pay close attention and exercise a full understanding of the lease on industrial properties, as this will provide the parameters that you will be able to lawfully occupy the space.

Considerations for Businesses

Some key considerations for industrial leases:

• Lease Term: Industrial lease terms can vary significantly. Depending on tenant and landlord requirements commercial leases typically range from 1-10 years+. ReadySpaces only asks for a 3-month commitment.
• Rent Structure: There are 6 main different lease types, depending on your lease type you could have wildly different rent structures.
• Zoning & Use: Tenants will need to confirm that the building is zoned for their intended business use.
• TI’s & Modifications: A lease will generally outline the ability to make improvements or modifications to the property.
• Access & Infrastructure: What type of loading docks and entry access does the building have? High-clearance ceilings?
• Utilities & Services: Industrial leases often charge tenants for utilities, which can include electric, water and waste management.
• Maintenance: The lease agreement will also cover what maintenance and repairs the landlord will be responsible for and what the tenant will be responsible for.
• Insurance: Tenants will most likely be required to provide a COI to the landlord, proving insurance coverage.
• Incentives & Renewals: Depending on the market, tenants may negotiate incentives such as rent discounts, improvement allowances, or flexible lease terms.

The main types of commercial leases are full-service gross, net, modified gross, triple net, percentage, and gross. Each has its pros and cons:

Full-Service Gross Lease: In a full-service gross lease, the tenant pays a fixed monthly rent amount, and the landlord covers all property operating expenses. It’s often used for office or retail spaces and is simple to understand and budget for. However, the tenant has no control over operating expenses or rent increases.
Net Lease: With a net lease, the tenant pays some or all property operating expenses in addition to their monthly rent. There are three types: single net, double net, and triple net. Net leases often result in lower monthly rent payments but can financially burden tenants due to unexpected expenses.
Modified Gross Lease: A modified gross lease is a hybrid between a full-service gross lease and a net lease. The tenant pays a fixed monthly rent amount and some property operating expenses. It offers more control over costs and lower rent payments but can be more complex and require additional financial contributions from the tenant.
Triple Net Lease: In a triple net lease, the tenant is responsible for property taxes, insurance, and repairs, in addition to their rent. This lease type gives tenants more control over expenses but can be financially burdensome if costs are higher than expected.
Percentage Lease: A percentage lease requires the tenant to pay a percentage of their sales in addition to their monthly rent. This lease type offers more flexibility but can be harder to understand and may result in less negotiating power.
Gross Lease: In a gross lease, the tenant pays a lump sum for rent and all operating expenses. This lease type often results in lower monthly payments but can be more challenging to understand and may require tenants to cover all operational costs.

 

Avoiding mistakes when leasing industrial space is crucial for businesses to ensure they secure favorable terms and avoid unforeseen costs or legal issues. Here are some common mistakes to avoid when dealing with commercial leases:

Not Reading the Entire Lease

• Consequence: Overlooking important clauses or terms that could introduce unexpected costs, responsibilities, or restrictions.
• Prevention: Carefully review the entire lease agreement, ideally with the assistance of a legal professional experienced in commercial real estate.

Failing to Negotiate

• Consequence: Accepting the first offer without negotiation can lead to less favorable terms, higher costs, or missed opportunities for incentives.
• Prevention: Negotiate terms, including rent, lease duration, renewal options, and tenant improvements. Market research and professional advice can support stronger negotiation.

Ignoring Lease Length and Flexibility

• Consequence: A lease that is too long or too short can restrict business growth or result in penalties for early termination.
• Prevention: Opt for a lease length that matches business plans and market conditions. Consider negotiating flexibility such as subleasing options or early termination clauses.

Neglecting Location, Space, or Zoning Requirements

• Consequence: Insufficient space can hinder operations, a location that does not suit the business’s operational needs or is not zoned appropriately can result in relocation needs or legal complications.
• Prevention: Carefully assess current and future space needs, considering business growth. Research the location’s accessibility, proximity to suppliers and customers, and zoning laws to ensure it fits the business’s requirements.

Overlooking Property Maintenance

• Consequence: Unanticipated repair and maintenance costs can arise if the property’s condition is not thoroughly assessed before signing the lease.
• Prevention: Conduct a detailed inspection of the property and negotiate responsibilities for maintenance and repairs.

Negotiating a lease for an industrial property requires a strategic approach to secure terms that support your business’s operational needs and financial goals. Here are three crucial negotiation tips to consider when dealing with industrial properties:

Leverage Market Research and Comparables

Tip: Before entering negotiations, arm yourself with detailed market research and information about comparable properties in the area. Understanding the going rates for similar industrial spaces, current market conditions, and the availability of alternative options can give you leverage during negotiations.

• How to Apply: Gather data on recent lease transactions for similar properties, including rental rates, lease terms, and any concessions landlords have made to tenants. Use this information to build a case for the terms you are seeking, demonstrating your knowledge of the market and readiness to explore other options if your terms are not met.

Negotiate Flexibility and Scalability

Tip: Industrial operations can change significantly over time due to business growth, technological advancements, or shifts in demand. It’s essential to negotiate lease terms that offer flexibility and scalability to accommodate these changes.

• How to Apply: Seek to include clauses in the lease that allow for expansion, contraction, or early termination under certain conditions. For example, negotiate the right of first refusal on adjacent spaces, options to renew at predetermined rates, or the ability to sublease part of your space without undue restrictions. These terms can provide the flexibility needed to adapt to future business needs without incurring prohibitive costs.

Focus on Total Occupancy Costs, Not Just Rent

Tip: The base rent is often the focus of lease negotiations, but the total occupancy cost—including utilities, maintenance, insurance, taxes, and any common area maintenance (CAM) charges—can significantly impact your bottom line. Negotiating these terms can lead to substantial savings over the lease term.

• How to Apply: Understand all the potential costs involved in leasing the property and negotiate caps on annual increases for operating expenses and CAM charges. Consider negotiating a cap on the total percentage increase over a certain period to prevent unexpected cost spikes. Additionally, identify and negotiate any charges or fees that could be reduced or eliminated, such as parking fees, management fees, or contributions to marketing funds.

By applying these tips during negotiations, you can secure a lease that not only meets your current needs but also provides the flexibility to adapt to future changes in your business.