When businesses are interested in leasing commercial property such as an office or retail storefront, they’ll typically enter into a commercial lease agreement with the landlord (also known as the lessor). A commercial lease is one of the most important parts of renting commercial property because it outlines the responsibilities of both the landlord and the business tenant (also known as the lessee).
Whether you’re studying for your broker license exam, exploring a switch from residential to commercial real estate, or just curious about how commercial leases work, we’ll explain what you need to know about leasing commercial property.
What Is a Commercial Lease?
Unlike residential leases, which typically involve renting living spaces like apartments or houses, commercial leases pertain to properties used for business purposes, such as offices, retail stores, warehouses, or industrial facilities. These leases outline the terms and conditions governing the use of the leased property, including rent payment, lease duration, maintenance responsibilities, and tenant rights and obligations.
Understanding the key components of a commercial lease is essential for all those involved in the transaction – whether it be businesses seeking to lease commercial properties, landlords looking to effectively manage their rental properties, or the real estate professionals in the middle who make the magic happen.
What Information Can You Find in a Commercial Lease Agreement?
Most commercial lease agreements will, at a minimum, contain the following information:
- Names and contact information of the lessor and lessee
- Property address and description
- Lease term dates
- Property usage details, including information on signage
- Rules regarding subletting or assigning the lease to another tenant
- Rent costs and due dates
- Lessor and lessee responsibilities for taxes, insurance, utilities, maintenance, repairs, etc.
- Renewal terms
- Signatures from representatives of both the landlord and tenant
What Is the Difference Between Leasing a Commercial Property and Leasing a Residential Property?
Commercial and residential leases share some similarities, but commercial leases tend to be more complicated, customizable, and subject to more negotiations. On the other hand, residential leases have more laws to protect tenants because it is assumed the landlord has a greater advantage. However, in a commercial lease, where both landlord and tenant are businesses, the assumption is that both parties are negotiating on a level playing field.
Another key difference between commercial and residential leases is that commercial leases are usually much longer than residential leases. Many residential lease agreements are 12 months long, whereas commercial leases are often 3-5 years or more. In some cases, a commercial building lease may also include a buildout, which is a renovation to make the space suitable for a particular tenant. So, let’s say the landlord agrees to do a buildout for a spa; they’ll likely negotiate for a longer lease term to recoup the cost of those renovations.
Types of Leasing Agreements for Commercial Properties
There are several different types of commercial property leases. Each agreement specifies how the lease is paid and which party assumes responsibility for certain property-related expenses.
1. Gross lease
A gross lease, sometimes known as a full-service lease, is a simple type of lease. A business that wants to rent a commercial property with a gross lease agreement will pay the landlord a fixed rental fee. The landlord will pay for building maintenance, property tax, insurance, and utilities in exchange for that fee. Since the fee is preset, the landlord must account for their operating expenses and factor them into the gross lease price.
Sometimes, a commercial lease can be a modified gross lease, which means the landlord and tenant agree to a base rent, but the two parties will split certain expenses like property tax, building maintenance, or insurance.
2. Net lease
A net lease is one of the most common types of agreements used in commercial property leasing. With a net lease agreement, the tenant pays a fixed rent in addition to paying for one or more of the following expenses: property taxes, insurance, and maintenance.
Net leases come in three variations: single net leases (N), double net leases (NN), and triple net leases (NNN). Tenants with a triple net lease agreement pay a base rent plus property taxes, insurance, and maintenance costs. Double net lessees will pay for two of those three expenses, while single net lessees will pay for one.
3. Percentage lease
When leasing commercial property, landlords may agree to a percentage lease. In a percentage lease agreement, the tenant has a base rent cost but agrees to pay the landlord a percentage of their gross revenue. The percentage lease is useful for tenants who want to keep their fixed rent costs down and may be attractive to landlords who believe a business has the potential to increase sales volume.
Terms You Should Know When Leasing a Commercial Property
Besides understanding the types of leases, you should also understand these terms.
1. Additional rent
Also known as “operating expenses” or “common area maintenance (CAM) fees,” additional rent refers to the costs associated with maintaining and operating the commercial property beyond the base rent. These expenses may include property taxes, insurance, utilities, maintenance, repairs, and property management fees. Tenants must understand their obligations regarding additional rent and how these costs are calculated, as they can significantly impact the overall lease expenses.
2. Agent
In the context of leasing commercial property, an agent refers to a licensed real estate professional who represents either the landlord or the tenant in negotiating and facilitating the lease agreement. Commercial real estate agents possess expertise in market analysis, property valuation, negotiation strategies, and lease terms. They play a crucial role in helping clients navigate the complexities of commercial leasing, ensuring that their interests are protected and their objectives are met.
3. Buildout
A buildout, also known as tenant improvements or fit-out, refers to the customization or renovation of a commercial space to meet a tenant’s specific needs and requirements. This process may involve interior modifications, installation of fixtures, partitioning, wiring, plumbing, and other alterations to adapt the space for the tenant’s business operations. Buildout agreements typically outline the scope of work, timeline, costs, and responsibilities of both the landlord and the tenant.
4. Building class
Commercial properties are categorized into different classes based on various factors such as age, location, amenities, and overall quality. Classifications typically range from Class A to Class C, with Class A properties representing the highest quality and amenities, while Class C properties are older and may have fewer amenities. Understanding building class distinctions can help tenants make informed decisions about the type of property that best suits their business needs and budget.
5. Non-competition clause
A non-competition clause, or a non-compete agreement, is a contractual provision in a commercial lease that restricts the tenant from engaging in certain competitive activities or opening a similar business within a specified geographic area and time frame. Landlords may include non-competition clauses to protect their investment and prevent tenants from directly competing with other businesses within the same property or nearby locations.
Commercial is Complex; Colibri Has the Tools to Help You Thrive
Commercial real estate is a unique specialty. This is why commercial real estate agents earn an average of over $193,644 per year. Mastering commercial real estate transactions can take years. However, for successful commercial real estate agents, the reward is worth the wait. Wherever you are in your real estate career, Colibri Real Estate has flexible learning options to help you unlock your full potential and achieve more.
