A triple net lease for commercial real estate provides numerous pros to both investors and renters. Still, there are also cons that you must consider before deciding if a triple net lease is the best option for you and your property.
In this article, we’ll review the most significant pros and cons of using a triple net lease for commercial real estate. Understanding these pros and cons should help you determine if a triple net lease is something that you would want to pursue.
Pros of a Triple Net Lease
Triple net (NNN) leases are appealing for commercial real estate because of the numerous benefits they provide to property owners and renters. In no particular order:
1) Long-Term Occupancy
Triple net leases are usually structured to provide long-term tenant occupancy. Terms can often last up to 20 years, which is advantageous to you as an investor because it reduces the amount of time that a property may sit unoccupied between tenants.
This is also a pro for triple net lease tenants because they know they can create a reputation in the city by building their presence in the community without having to tell their customers that they’re changing locations every year.
2) Arguably Lower Risk Than Residential Leases
In a residential lease, the tenant is often responsible for a security deposit to cover any small damages along with some wear and tear. However, if a tenant causes significant damage, that cost will likely fall on the property owner. Additionally, in a residential or multifamily property, the owner bears all the costs including taxes, insurance, and maintenance.
In a triple net lease, the tenant bears all property costs, including everything from taxes and insurance to regular maintenance. With this, you as the property owner know exactly what your cash flow will be without worrying about needing to replace an HVAC system and losing all of your cash flow for a few months.
3) Reliable Income Stream
As mentioned in the pro above, a triple net lease provides a reliable, consistent, and passive revenue stream. With this, you know what type of income to expect every month without having to worry about unknowns and surprise costs.
4) Triple Net Leases Are Transferable
There are many commercial real estate investors who would purchase a property with a quality tenant and NNN lease in place. This is great because triple net leases can be transferred from one owner to another at the time of sale. The renter is not required to vacate the premises before or after the sale. The prior owner’s terms must be followed by the new owner.
As the property owner, this provides you with flexibility since you don’t need to hold on to the property until the current triple net lease is complete and it also provides stability for the tenant since their terms remain consistent despite ownership change.
Adding a triple net lease property to your portfolio is a stable, low-risk way to increase your equity in the property and your net worth in general. It’s common for investors to hold on to a triple net property for five to seven years in order to make a return on their money and build equity. After an investor feels like they’ve built a certain level of equity, they may sell the property when the market peaks, population increases, or they’re ready to employ that equity in their next investment.
6) Limited Landlord Duties
Since a triple net lease passes the maintenance and repair costs on to the tenant, there are not too many landlord duties required from you as the property owner. With a triple net lease in place, you are not obligated to the property in terms of time or money. Low-touch management frees up your time for other endeavors and assures you that you are not obligated to perform landlord chores.
The Cons of a Triple Net Lease-Property Owners
Like most things in life, while a triple net lease provides several benefits to both investors and renters, they don’t come without trade-offs. Here are some of the cons associated with triple net leases.
7) Earning Caps
While a triple net lease delivers a reliable and passive cash flow for you as the property owner, the amount of cash flow is usually predetermined for the life of the lease. This means that once the triple net lease is signed, you can’t raise the rent any more than the predetermined rates even if property prices in the neighborhood rise more. So while you can secure consistent, long-term cash flow, you might also be limiting your earning potential during periods of growth.
8) Vacancy Risks
Although triple net leases are long-term contracts, there is always a chance that a tenant defaults, which can cost you as you try to refill the property with a new tenant. While you can mitigate this risk by adequately screening renters and their companies, it’s always something you have to be mindful about.
9) Rollover Costs
After a tenant vacates a property, you need to prepare the property to show and lease out to a new tenant. If your former tenant rented the space for 15 years, there’s a high probability that they didn’t take appropriate care of the property or make the necessary repairs over time. As a result, it’s your responsibility as the property owner to update these things before renting it to a new tenant.
Additionally, if the previous tenant customized the space to their own needs, you may need to pay significant costs to “neutralize” the property or bring it back to a simple, bare-bones shell so that the new tenants can do what they want with it. These repair and remodeling costs can quickly add up.
10) Difficulty Finding Tenants
Since tenants assume virtually all financial responsibility with a triple net lease, it may be difficult to locate tenants that are prepared to pay for the additional expenditures, even at a reduced rate. There are certainly benefits for a tenant to rent a property with a triple net lease, but you may have to wait a while for the right one to come around.
Is a Triple Net Lease a Good Idea?
As with other key decisions regarding your commercial real estate portfolio, the decision to use a triple net lease is ultimately yours. There are pros to using a triple net lease, and there are cons. The question comes down to whether you believe the pros outweigh the cons in your unique situation and with your unique goals.