Triple net charges
In an effort to re-coup operating expenses and provide for inflation, building owners do one of two things: either they quote a higher rate which they think will cover all of these things, or they quote a lower price and bill the tenant directly. Sometimes they quote a price somewhere in the middle that includes only some of the things on the chart below. The following are ESTIMATES based on typical conditions in Lincoln.
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GROSS — A rate quoted by the landlord that covers all of the operating expenses. In cases like this, the landlord typically also contracts for the services. Landlords usually guess high to cover themselves.
NET—The quoted rent contains only some of the operating expenses listed above, and tenant and agent must inquire as to what additional operating expenses will be added to the quoted price. Frequently heard terminology to explain this is semi-gross, modified gross, or semi-net.
TRIPLE NET — Tenant and agent must inquire as to what all of the additional operating expenses are to be added to the quoted price. Most of the time, the tenant also contracts for the services as well, though sometimes the landlord selects the contractor and bills the tenant back. This is the most precise, accurate way to bill the additional expenses.
CAM CHARGES — Technically, this means Common Area Maintenance charges: parking lot repair, snow removal, lawn care, cleaning and maintenance of common halls, etc. However, in Lincoln, the phrase is sometimes used as a catch-all to mean the same thing as Triple Net.
EXPENSE STOPS — This means the landlord will agree that the rent covers up to a certain amount of the operating expenses; they are capped. Usually there are more, and the tenant must pay for the overage.
PASS THROUGHS — The landlord must budget for increases in inflation in taxes and other expenses. Sometimes a lease has a clause stating that INCREASES can be passed through to the tenant.
INCREASES OVER BASE YEAR — This means that Year 1 of the lease is used as a guide for pass throughs; charges in subsequent years that exceed that are billed to the tenant.
A landlord will re-coup the operating expenses by sending the tenant a bill at the end of the year, or when the expense actually occurs. Sometimes a landlord will estimate what the triple net bill might be, raise the rent and charge the same number each month (like a tax escrow for a house), then adjust accordingly at the end of the year.
Rentable vs Useable square feet
Thus, landlords will sometimes calculate and add on to the measurement a load factor: a number indicating a percentage of the whole entire space as compared to the spaces the tenants are actually occupying. The load factor in Lincoln is not uncommonly 12% to 20% more than the actual space leased to the tenant. It can even vary upward or downward from these numbers depending on how fancy or non-existent the common lobbies, hallways, common conference rooms, rest rooms, hall closets, etc. are.
If a tenant objects to paying for rentable square feet and insists on paying for useable square feet only, the landlord will probably have to charge a higher price per square foot. The monthly rent to the landlord is still going to be the same. Thus, the important questions are really whether or not the furniture fits and if the monthly rent is affordable.
When measuring a tenant’s space, the question sometimes arises: Do I measure from the window, or from the wall? The answer is, whichever portion is dominant. Another common question is, Do I count the pillars? The answer is yes, because the space can’t be leased without support pillars!
Gross square feet means that the building was measured outside wall to outside wall. It makes no deductions for anything. This method is primarily used by tax assessors, but is convenient for Realtors to use and may sometimes be the type of measurement that appears on the marketing materials.
The lease vs own decision
Even though the American dream is to own, there are many business owners that do elect to lease. Why? Some industries do not like to tie up capital and feel they can get a better return on their dollar by investing in their own specialty. Some companies are in a risky business, with employee pools expanding or shrinking rapidly, and these need to avoid long-term obligations. Some wish to avoid the headaches related to the ownership and management of property. Others see real estate as an additional investment alternative and a way to diversify.
Advantages for Leasing
- Owner generally takes more risk for the building than the tenant
- Rent and tenant improvements are fully deductible as an expense
- Lower initial costs
- Easier to reach a consensus by organizations with many partners, boards of directors, etc.
Disadvantages of Leasing
- Rental payments are never recouped
- Problems with landlord
- Lack of control over neighboring tenant and the property
- Rental increases at renewal time
- May be forced out by a growing neighbor
Advantages of Owning
- Expected return on investment over time
- Pride of ownership
- Diversification of assets
- Hedge against inflation
- No landlord problems
- Tax and depreciation advantages
- Stable address for one’s business
Disadvantages of Owning
- Not easily liquidated
- Future unknown and ever increasing government regulations
- Property management issues
- Total liability for keeping the property fully occupied
- Exposure to liability and law suits from accidents
- The business sometimes provides a better on the dollar return than real estate
- Building obsolescence – the building trends and fads change over time
- High up-front costs, capital tied up
For companies contemplating purchasing a building, some of the headaches might be mitigated by the use of a property management firm. Commercial real estate managers keep apprised of never-ending government regulations and building codes, and they are well organized to keep up the real estate, collect the rent, and lease out unused space or ultimately sell the building.
Still, every business and its accountants should take a very hard look at what’s referred to as opportunity cost. In other words, for every dollar a business spends, what is its return? Three percent? Twelve percent? One hundred eight percent? Commercial real estate is similar to the stock market. It’s a gamble. Some properties devalue over time, some reap terrific rewards, but over the long haul, the targeted return is about 5% to 8%. So unless a company simply wishes to diversify its assets or there are few options to lease, it needs to evaluate whether it can make more money in real estate, or in itself.
Who does the Realtor represent
According to Nebraska law, unless the real estate agent actually has a listing with the owner on the property being shown, the real estate agent is presumed to be representing the prospective buyer or tenant.
If an agent is representing a seller or landlord, he cannot divulge how low the seller or landlord will go in price or other confidential information. If the agent is representing the tenant or buyer, he can divulge this kind of information and is not obligated to tell the seller or landlord confidential information about the prospect.
In cases where the agent has a business relationship with both the prospect and the landlord/seller, sometimes the agent is more comfortable declaring a dual agency. In this case, the agent represents the interests of both parties in trying to put together a transaction.
In spite of the various forms of representation, the commissions are virtually always paid up front by the seller/landlord. The seller/landlord obviously recoups the cost of the commission by virtue of the fact that an agreement was met.
The agent is able to provide you with a disclosure brochure explaining these relationships. You are asked to sign that the agent gave this to you, although it does not represent any kind of a contract.
The following, in addition to the Disclosure of Brokerage Relationships brochure, explains some of the differences in duties an agent will perform for you, depending on whether or not you choose to sign a representation contract with that agent.
CUSTOMER SERVICES PROVIDED BY AGENT FOR PROSPECTIVE BUYERS AND TENANTS (NO CONTRACT SIGNED WITH AGENT)
- Agent will assist with viewing properties that are listed with real estate agents.
- Will write letter of intent or purchase offer on desired property.
- Will make general suggestions for items that should be included in the lease or purchase document before submission to attorney.
- Will recommend contractors for remodeling.
- Will provide comparable sale and lease information from Multiple Listing or in-house records.
CLIENT SERVICES PERFORMED BY AGENT FOR TENANT/BUYER REPRESENTATION (ACTUAL CONTRACT SIGNED WITH AGENT)
- Agent will approach property owners who do not have space listed with a real estate agent.
- Will prepare an RFP (Request for Proposal) from multiple owners.
- Will review contract document and suggest language changes, or provide contract documents to be used, before submitting to attorney.
- Will assist with soliciting bids for the remodeling process.
- Will obtain courthouse records for comparable sale information and lease information from outside sources, if necessary.
ONE-PARTY LISTING AGREEMENT WITH OWNER OF BUILDING
Agent usually still only represents the tenant/buyer, not the building owner. The one-party listing is only an agreement for professional fees, unless the landlord is turning a prospect over to the agent and specifically requesting to be represented.
LISTING AGREEMENT WITH OWNER OF BUILDING
- Market surveys are performed to determine the value of the property.
- Agent provides signage, fliers, mass mailings, newsletter services, open house luncheons, Multiple Listing and other web-based advertising, print ads, and various other efforts to market the building.
- Agent can provide contract documents to be used in the transaction and approved by owner’s attorney.
- When an agent has a prospect, first priority is to present properties personally listed by agent. Second priority is to present properties presented by the agent’s company. Third priority is properties in the Multiple Listing Service. Fourth is properties listed by other brokers in Lincoln who are not in Multiple Listing. The last priority is to present properties not listed by any agents.
Gross income in one year – Expenses in one year = Net Income / divided by Purchase price
In Lincoln, which has few buildings with national credit tenant but sometimes some strong local medical tenants, most cap rates are in the high-6% to 8% to the buyers. A class C property can be higher; a Walgreens or similar national credit tenant might be lower.
Cap rate only deals with annual income and expenses, not mortgage costs. Everyone’s mortgage is different, so cap rates developed as an easy rule of thumb for quickly evaluating the value of the property. Deeper analysis should include factors such as vacancy, escrow for major repairs, length of leases, taxes and depreciation.