Negotiating Your 1st Commercial Lease

Recently, I was contacted by a friend who’s starting a new business and looking to lease a retail space. Like most people, this is a first time thing for him and he has no clue what he’s doing. Renting a commercial space is very different from leasing an apartment or house. Here’s a quick lesson in the basic language used in commercial leases to help you understand the process and negotiate the best deal!

Is gross a bad thing?

If you’ve already started searching for commercial spaces to lease, you’ve probably come across the terms “net”, “gross”, “NNN” and “modified gross”. Simply put, these terms are used to explain “Who pays what?” The exact terminology can range considerably depending on who you talk to or what type of space you’re leasing. But, if you understand the following three terms, you’re in good shape.

Net leases are where the tenant is responsible for paying a base rent, plus all of the property expenses, such as real estate taxes, insurance, CAM/pass-throughs, and utilities. With a gross lease, the tenant pays one flat rate that includes everything. A modified gross lease is a combination of the two.

• Net Lease = You pay a base rent and all expenses separately
• Gross Lease = Everything is included
• Modified Gross = You split the expenses with the landlord.

Check out the following chart. Landlord Mike has a space for lease at $14.00 per square foot on a net basis, while Landlord Joe has a similar space for lease at $18.00 per square foot on a gross basis. Notice that even though the base rent for the net lease appears to be cheaper initially, the gross lease is actually the better deal after of all the expenses are included.

Net LeaseGross LeaseBase Rent $14.00$18.00Taxes$2.50(included)Insurance$0.20(included) CAM$1.50(included)Utilities$0.75(included)Total$18.95$18.00

You may hear other terms like “double net”, “triple net”, or “full service”, but remember that these terms are just different variations that explain who’s responsible for which expenses. Quite frankly, they’re confusing and even seasoned real estate professionals often have to ask what’s included in the rent because it varies depending on who you talk to. Instead of getting caught up on the terminology, the all-important question to ask when you’re quoted a rental price is “What’s included in the rent?” You should confirm who pays the real estate taxes, insurance, utilities, and CAM.

You may be wondering, “WTF is CAM?” Good question. If you lease a space with more than one tenant, you’ll likely have to pay an expense called CAM, which stands for common area maintenance. This charge includes the operating expenses associated with maintaining the areas in the building that don’t include your actual suite, but are “common” to or shared by all the tenants, like the parking lot, restrooms, hallways, and elevators. Examples of CAM charges include landscaping or plowing the parking lot, janitorial services, repairing the elevators...and so on. The landlord combines the total expenses for all of these items and divides them up amongst all of the tenants, depending on the size of your unit, so in theory every tenant pays their fair share. This expense is also called pass-throughs, as the landlord is literally passing these expenses through to you.

How much space do I need?

Unlike apartment leases, where the rent price is for the entire unit, most commercial property for lease is quoted on a “per square foot” basis (written as PSF) in terms of size and rental rates. This can be confusing when determining how much space you think you’ll need so here are a few points of reference:

• An NBA basketball court is 4,700 square feet
• A 2-car garage is about 500 square feet
• Average size of a parking space is roughly 150 square feet

{Sidenote…} Some landlords may quote you a monthly rate instead of telling you how much the asking rent is per square foot. It’s very easy to convert the monthly rate to a PSF rate so you can compare it to other prices you’ve been quoted. Here are the 3 steps:

• Step 1: Find out how big the space is.
• Step 2: Multiply the monthly rental rate by 12 (the number of months in a year).
• Step 3: Divide that number by the unit size.

Example: Monthly Rental Rate: $1,600

• Step 1: Landlord says the unit size is 2,400 square feet
• Step 2: $1,600 x 12 = $19,200
• Step 3: $19,200 ÷ 2,400 square feet = $8.00 per square foot.

Freebies!

Always ask about concessions and tenant improvements! These are extras that landlords offer to get you to rent their space. The most common concession is free rent. Others may also include reimbursement of moving costs, extra cash for tenant improvements, or lease buy-outs. Have you ever seen a sign on a building that says “build-to-suit”? That means that the landlord will pay the charges to build the interior of the space to your liking. These are also called tenant improvements. They could include simple things like new carpet and paint or more extensive renovations like adding new interior walls or lighting fixtures…it all depends on what you’re able to negotiate.

Just remember that if a landlord pays for the renovations, you’ll likely have a higher rental rate. Think of it as an advance that you end up paying back over the course of the lease. This could be an advantage for a tenant that can afford the rent, but doesn’t have the cash upfront to complete their desired build-out on their own. I know what you’re thinking….”I’ll just get my cousin/uncle/neighbor to do the build-out for me for cheap!” Not so fast…nearly all landlords require that a licensed contractor complete any work on their property. And let’s be real, can you blame them??

Lastly, before negotiating for additional concessions or tenant improvements, try to find out how long a space has been vacant. If a property has been sitting empty for an extended period of time, the landlord may be more willing to offer a deal just to get the space leased. This could mean significant savings for new tenants!

At the end of the day….

Remember, EVERYTHING is negotiable. If you happen to call the phone number on the “AVAILABLE” sign of the space you’re thinking about leasing, remember the broker that answers the phone works for the LANDLORD, NOT YOU, and their objective is to get the best deal for the landlord. If there are terms you don’t understand or if you’re not sure that you’re getting the best deal, it’s not a bad idea to consult a commercial real estate agent who can negotiate on your behalf or just advise you through the process.

Good luck!