If you are investing in commercial properties, you will learn that there are two main types of leases that you can use in renting out a property. There is the gross lease, where you collect rental payments and allocate a portion of your income to finance your operating expenses, and there is the net lease, where you are not responsible for paying these costs, but rather the tenant of the lessee.
Net leases are also broken down into three categories, depending on which expenses (taxes, insurance, and maintenance) the tenant is required to handle, on top of the base rent. These are:
- Single net lease – The tenant is responsible for paying only one of the three expense categories.
- Double net lease – The tenant handles the payment of two of the three expense categories.
- Triple net lease – The tenant agrees to pay the taxes, insurance, and maintenance costs incurred in running the property.
Now, among these three categories, the triple net lease is the most popular among landlords. After all, it frees you up from most of the financial responsibilities that come with operating such properties.
However, like any other form of investment, triple net investment properties also have their own set of advantages and disadvantages. And, you have to weigh them up in order to reach a well-informed decision.
Triple Net Lease Pros and Cons
Triple net lease (NNN) properties bring about unique benefits that both owners and tenants will enjoy, but there are also limitations that you need to understand.
Pros of NNN Properties
NNN properties are very attractive from a commercial investment standpoint due to the following reasons.
Fewer Responsibilities
As previously implied, owning triple net investment properties will rid you of the responsibilities of managing them and processing payments for the taxes, insurance, and maintenance. Simply put, you (as the landlord) will not be tied to the property with your money and time.
This means that you will have more time for your job (if you are also working full time) or to tend to your other properties if you have any.
Reliable Stream of Passive Income
NNN property contracts are structured to include a definitive amount of rent every month over an agreed period of time. With such, you will be guaranteed a stable source of income, especially when you have a tenant with strong credit, which tends to stay in place and even renew your contract when the time comes.
Moreover, because all of the operating expenses are passed on to the tenant, you will be protected against any unexpected costs that can affect your finances.
Long-Term Occupancy
The best triple net investments will guarantee you long-term occupancy. This is especially true with single-tenant deals, and your property is being used by a reputable business chain or franchise.
Typically, NNN lease contracts stipulate at least 10 years of occupancy, and can even go beyond this span of time depending on the type of property or tenant you have. This will not only give you the assurance of long-term income from monthly rents, but it also eliminates the stress of finding new tenants every now and then.
Equity
Adding NNN properties to your real estate portfolio is a low-risk strategy to build more equity. For example, you can hang on to a property, build equity on it for a certain number of years, and sell it when the market hits a high point. Then, you can use the equity for your next investment.
Protection from Increases in Operational Expenses
Since your tenant is responsible for handling your property’s operating expenses, you will be protected against cost increases. For example, your government might increase property taxes, or the insurer might do the same for their interest rates. In these cases, you will be off the hook to cover the differences.
Transferability of Leases
Like any other form of commercial real estate investment, the leases that come with NNN properties are also transferrable. This means that you can flip it to another investor in case you want to invest in another property or move your capital to another project or investment opportunity.
Cons of NNN Properties
While there are many benefits of buying and owning NNN properties, there are also things that you have to look out for in this type of investment.
Limited Profitability-Increase Potential
More often than not, a triple net property has limited upside potential. As the lease agreement stipulates long-term occupancy at fixed monthly rental rates, you cannot just decide to increase rent to boost your income. You can only implement such updates after the contract expires or when the tenant moves out.
Vacancy Risks
Like with any other rental space, a tenant would default, which can result in losses as you try to find a new lessee.
Also, while a tenant does not default, there are also situations where it can be difficult to re-lease your property. For example, your previous tenant had renovated the building to accommodate their specific needs. For the next business to occupy the space, some adjustments to the floor plan might be needed. This would entail a high rollover cost.
Price Gaps
It is important to remember that every tenant perceives risks differently. Aside from that, every real estate market commands different prices.
With these factors considered, negotiating rental rates each time you negotiate with a new lessee can be difficult. After all, there will be differences between what your tenant is willing to pay and what you ask.
Regardless, you can make things easier by double-checking the details, arming yourself with proper knowledge, and negotiating with an open mind.
Conclusion
Generally speaking, the pros of owning triple net investment properties easily outweigh its cons. Now, you can use an objective approach to making your decision without letting your gut feeling dictate your choice.
However, this does not mean that all of these properties are equally capable of providing you with the income you desire. You still need to find the best investment opportunities out there that will provide you with the highest profitability. So, do your research and seek the help of professionals who specialize in this type of investment.
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