What Is A Net Lease?
Net Lease can refer to either a category of leases, or a specific type of lease. First, Net Leases may refer to a category of lease types where a tenant pays the landlord a base rent, plus its portion of all or a combination of the property’s taxes, insurance, and maintenance.
As a category, net leases can encompass either a single-net lease (N lease), double-net lease (NN lease), or triple-net lease (NNN Lease). Net Lease is also used to refer to just the triple-net lease, or NNN lease. In a triple net lease, the tenant pays the taxes, insurance, and maintenance.
Do Your Due Diligence
It’s important to note that ideally the use of the net-lease, N lease, NN lease, or NNN lease would follow a standard convention when they are used in practice. Unfortunately, the only way to know what expenses the tenant is truly responsible for is to thoroughly study the specifics of the lease, even if it’s being labeled as a N, NN, or NNN lease.
The Gross Lease
To help understand the concept of a net lease, it helps to know about the Gross Lease. In its simplest terms, the gross lease is a lease where the tenant pays a simple rent periodically to the landlord. All the property expenses are the responsibility of the landlord, and the landlord pays them out of the rent that is collected.
What Is The Rational Of A Net Lease?
Of course, paying the expenses out of the rent it collects places a burden and a risk on the landlord. First, expenses may increase over the lease term reducing the profit and increasing the landlord’s risk. Second, taking responsibility for the payment of all the expenses can add a management burden for the landlord.
The solution to the landlord would be for the tenant to bear the burden and risk of the expense. The tenant would pay a rent to the landlord, but the tenant would also deduct the portion that would go to pay the property expenses. Semantically, the tenant would be paying the rent “net” the expenses it is responsible for, hence the term “net lease.”
Definitions of Single Net, Double Net, and Triple Net Leases
The property costs that are allocated to the tenant in a net lease include 1) taxes and assessments, 2) insurance, and 3) maintenance and repairs. The expenses are often “netted” in order, from taxes to maintenance.
| Expense
| N
| NN
| NNN
|
| 1. Taxes |
x |
x |
x |
| 2. Insurance |
|
x |
x |
| 3. Maintenance |
|
|
x |
However, this order in which expenses are netted is not always the case. Lease transactions can as be complex as the world of business. The landlord and tenant are free to structure the property expenses in the lease in a way that makes sense for both parties, and in consideration of the given market conditions and practices.
Single Net Lease – N Lease
In a single net lease (N), the tenant is responsible for one of the three expense categories. By convention, the tenant will often be responsible for 1) taxes and assessments. The landlord will then be responsible for 2) insurance and 3) maintenance and repairs.
- tenant pays for one category of expenses (e.g. 1-taxes and assessments)
- landlord pays remaining expenses (e.g. 2-insurance and 3-maintenance)
In a single net lease, the only way to be sure which expense is the responsibility of the tenant is to read the lease and confirm the understanding with the landlord.
Double Net Lease – NN Lease
In a double net lease (NN), two categories of expenses are the responsibility of the tenant. One category of expense is the responsibility of the landlord. For example, the tenant will pay 1) taxes and assessments and 2) insurance. The landlord will be responsible for 3) maintenance and repairs.
- tenant pays two categories of expenses. (e.g. 1-taxes and assessments, and 2-insurance)
- landlord pays for one category of expenses (e.g. 3-maintenance)
Similar to a single net lease, the tenant must read the lease to confirm an understanding with the landlord about which specific expenses fall under the responsibility of the tenant.
Triple Net Lease – NNN Lease
In a triple net lease (NNN), the tenant pays for all three categories of expenses. The tenant pays for 1) property taxes and assessments, 2) insurance, and 3) maintenance and repairs.
The landlord may or may not be responsible for the maintenance and repair of the building shell and roof. If the tenant is responsible for the building structure and roof, and not the landlord, then the lease is referred to as an Absolute Triple Net Lease.
- tenant pays all expenses
- landlord may just be responsible for roof and shell unless absolute NNN lease.
Net Leased Investments
Properties whose tenants have entered into net lease agreements can prove to be attractive investments. The reason is many of the property's expenses become the responsibility of the tenant in accordance to the lease.
First, the risk of increasing expenses is born by the tenant. Provided the lease is structured appropriately, the landlord is insulated from an increase in expenses that can reduce the return on the property. Second, net leases mean the landlord has less to manage.
Generally, net leased investments imply a triple net (nnn) leased investment. However, investors should always perform their due diligence in analyzing the lease to see how the burden of expenses is allocated between landlord and tenant.
Many net leased properties tend to be industrial or retail properties. Many of these are standalone buildings. Single tenant net leased investments offer minimal management for investors looking for a simple cash flow without the management burden.
Since there is only one tenant, the risk to the landlord stems from the credit worthiness of the tenant, and length of the lease. In a single tenant net leased investment, the tradeoff for simplicity is having one egg in one basket.