August 28, 2013 By Propertymetrics Understanding a full service lease in commercial real estate is easy when you have the right information. Commercial real estate professionals understand the ins and outs of this type of lease on commercial property. However, a full service lease is one of the commercial real estate terms that often confuses the general public. Here, you will find full service lease information and how this type of lease compares to other commercial real estate leases.
We’ll start with a simple definition of a full service lease. But first, it’s important to note that the term “full service lease” isn’t clearly defined and standardized. As with any legal agreement, it’s crucial that you actually read the lease terms and calculate a total cost of occupancy, which is rarely provided by the landlord. On its simplest terms, a full service lease typically refers to a leasing agreement in which the owner (lessor) is responsible for covering the building’s operating expenses in the rent. Those expenses that are covered in the rent can include – but are not limited to – real property taxes, insurance, utilities, maintenance, etc. So, to be clear, the full service rate of this commercial property lease covers building operating costs in the rent.
To someone renting commercial space, this sounds like a great deal. You pay a monthly rent based on square footage, and the building’s owner pays the operating expenses for the building. However, when it comes to full service leases, there are more terms involved than just paying a set rate. If you were to negotiate a deal to pay a quoted rental rate that did not change throughout the term of your lease, then you would most likely be negotiating what’s often called a gross lease and not a full service lease.
Here’s the big difference – one which all potential tenants must understand. The terms of a full service lease usually require the tenant to be monetarily responsible for any increases in the owner’s building operating expenses beyond the base year of the lease. What is the base year?
In most cases, the base year references the first calendar year of your lease. For example, during the first year of your full service lease, the owner of the commercial building pays $15 per square foot for operating expenses. Now, as you begin the second year of your lease term, the owner sees his building operating expenses increase to $18 per square foot. In this scenario, you would see your full service lease rate increase to cover that additional cost.
As you can see from the previous example, it is not just important that tenants have in writing exactly what operating expenses are being covered by the owner of the building. It is also extremely important to understand how those operating costs have risen each year in the past. While you can not predict the exact cost of increases in expenses like insurance, property taxes, or utilities; a tenant can review the trends in those increases to have a general idea how much their full service lease will increase year to year.
Now let’s take a quick look at some other commercial leases. We’re not going to explain in detail all of the types of commercial real estate leases available. However, it is good for you as a business owner and potential tenant to know the major differences between these leases. Below are a few more lease terms you may run across while researching commercial space to lease.
We mentioned gross lease earlier. There are also modified gross leases. These leases are similar in regard to a full service lease because the owner usually covers some operating expenses. It is unlike a full service lease because you usually pay a set rent throughout the term of the lease along with paying agreed upon expenses as well (i.e. tenant may be responsible for utilities.)
Another popular lease for commercial property is a triple-net lease. These are also referred to as NNN leases. What’s the difference between triple-net and full service leases? Simply put, a NNN lease normally requires the tenant to cover all building operating costs in addition to the agreed upon rent.
Finally, there are occasions where you may see a full service plus lease. You can probably guess exactly what this lease entails. When you sign a full service plus lease, you are agreeing to let the owner exclude a specific operating expense(s) from the rent. An example is that you may agree to cover utilities while the owner covers all other operating expenses for the building.
As you can see from the different commercial real estate lease structures, it is very important to understand what terms you agreeing to when you sign the dotted line. You might think that signing a $0.75 per square foot NNN lease is a great deal when compared to a $1.35 square foot full service lease. And, in fact, it could be a great deal. However, now you know that you can not make that call until you understand how much the annual operating costs are and how much they increase each year. When comparing alternative lease options, it’s critically important that you understand the total cost of occupancy for each lease. If you’re working with a good leasing broker, these calculations will be calculated and presented to you.
Full service leases are just one piece of the puzzle when it comes to commercial real estate leases. And yes, educating yourself on the terms and differences in leases is important. However, before you make any decisions and sign any lease for commercial space, we recommend that you have representation from a commercial real estate broker to ensure you are fully informed on the type of deal you are signing.