Typically, real estate leases come in two forms: net lease and gross lease.
For real estate investors, it is vital to understand the difference between the two types of lease agreements, as this knowledge could help them choose the option that fits their investment strategy.
This article will discuss in-depth everything you need to know about gross lease investments in real estate. Let’s dive in:
What Is a Gross Lease Investment?
A gross lease is a lease agreement that involves a landlord giving a tenant exclusive rights to a rental property in exchange for a flat fee.
Typically found in commercial real estate, a gross lease agreement doesn’t require the tenant to pay any of the operating costs of the apartment or building aside from the agreed rent.
Thus, a gross lease investment is in stark contrast to a net or triple net lease, where the tenant pays the rent for the property alongside the operating costs, such as property tax, insurance, and repair and maintenance.
Typically, gross lease investments are a straightforward lease agreement for property owners and tenants, as both parties understand their roles in the payment structure.
For tenants, gross leases are an excellent option for their budgets, as it ensures they do not spend needlessly on any operating costs that may arise during their stay on the property.
Types of Gross Lease Investments
Generally, there are two types of gross lease Investments: full-service gross lease and modified gross lease. Quickly, we’ll take a look at these two gross lease agreements:
Full-Service Gross Lease
A full-service gross lease is the most basic form of gross lease investment. Under this kind of lease agreement, the tenant pays only the rent, while the landlord accounts for all operating costs.
Full-service net leases are usually common in commercial real estate properties with multiple tenants, such as office buildings.
In such properties, it might be challenging for the property owner to calculate the utility usage of each occupant and fix it into individual rent. As such, an excellent solution would be a base rent for each tenant.
However, property owners usually calculate all additional costs of running the property, such as tax and insurance, and include it in the rent.
As a result, the rent for a full-service gross lease is usually expensive. Nonetheless, this type of lease agreement is still more appealing to most tenants, as they’re able to predict their rent every month or year and, thus, have more control over their budget.
Modified Gross Lease
A modified gross lease combines a gross lease and a net lease agreement.
Generally, in this type of gross lease investment, a tenant pays the rent for a property while splitting the operating cost with the landlord.
For example, the tenant may cover some of the expenses for utility, while the landlord handles insurance and taxes.
Usually, the landlord and the tenant discuss the terms of a modified gross lease agreement to specify the costs that each party will bear.
Also, in an apartment building with multiple tenants, each occupant pays the specified operating costs for their unit.
However, the specific operating cost may differ from tenant to tenant. In other words, while one tenant may pay electricity utility bills, another may handle maintenance and repair.
A modified net lease is appealing to landlords because it relieves them of some of the property’s financial responsibility.
For example, in a modified gross lease agreement where tenants handle repair and maintenance, property owners don’t have to account for such costs from their budget.
They also have the assurance that their properties will be in excellent condition whenever the lease expires.
Moving on, the next section of this gross lease investment guide will look at the advantages and disadvantages of gross lease investments.
Advantages of Gross Lease Investments
The advantages of a gross lease agreement are different for both parties involved.
For tenants, a gross lease relieves them of some of the expenses attached to running the property. As such, they spend less on elements like maintenance and utilities and, thus, have more control over their budget.
For the property owner, there’s the opportunity to fix the operating costs into the rent and charge a higher fee as a result.
This way, the rent covers any expenses involving utility and repair. As such, they don’t have to foot these bills themselves.
Furthermore, a modified gross lease enables landlords to hand over some operating costs to the tenant while taking responsibility for others.
This way, the financial burden on the property owner is reduced.
Disadvantages of Gross Lease Investments
The disadvantages of a gross lease agreement also differ for both parties.
For example, while the tenant has to pay only rent for a full-service gross lease, the landlord still has the power to include operating costs in the charge.
As a result, the tenant may have to pay more expensive rent for the property.
On the other hand, if property owners decide not to include the operating costs in the rent, the financial burden becomes higher since they have to account for elements like maintenance and taxes.
The financial responsibility becomes even more challenging if the tenant is careless with utilities like water.
There’s also the administrative burden on the landlords, as they have to make sure they pay all operating costs on time.
However, they can reduce this administrative burden through a modified net lease that shifts some operating costs to the tenant.
This scenario might be a disadvantage to tenants, as they’ll have to deal with more financial and administrative duties.
Gross investments are a straightforward lease agreement for both tenants and landlords. And, while there are advantages for both parties, it is not without its cons, as well.
For property owners, choosing between a gross or net investment in lease agreements depends on their preferred investment strategy.
For landlords who want to be part of the administrative running of their properties, a gross lease agreement would be an excellent option.