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Triple Net Lease (NNN) vs. Gross Lease - Who Pays for HVAC?

Aug 23, 2017 12:01:29 PM

Commercial office space lease

When they're your dollars, you pay attention. In general, a gross lease stipulates that the landlord pays for HVAC investments and maintenance. An NNN lease specifies that the tenant pays for HVAC matters. However, there are several types of modified gross leases and modified net leases, including absolute gross and absolute net leases.

It is important to pay attention to the provisions in your lease before signing it. If no provision for HVAC exists in your lease, now is a good time to add one or ask about it. Getting stuck with HVAC equipment replacement or maintenance bills you don't expect can be very expensive, especially if you're a tenant who can't benefit from the full depreciation of an HVAC investment.

Direct HVAC utility costs often add up to $1.50 per square foot annually, plus the $1 to $3 per square foot you may incur in HVAC maintenance costs annually. Avoiding unexpected repair costs and large capital outlays should be your goals as a tenant. The best way to do this is through a monthly, quarterly or seasonal preventive maintenance agreement with a mechanical contractor, but even this can become costly, so it is important to understand your options and coverage.AdobeStock_80423933.jpeg

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What Is the Difference Between Triple Net Lease and Gross Lease?

Triple net and gross leases are the most common types of leases for commercial and retail tenants.

Triple Net (NNN) Lease: In addition to base rent per square foot and utilities, you pay property taxes, property insurance, common area maintenance (CAM) costs and potentially property management costs. These costs will include plumbing, electrical, mechanical and HVAC costs.

Gross Lease: You pay base rent per square foot, plus garbage, janitorial costs and potentially a CAM fee. The landlord pays property taxes, property insurance and maintenance costs.

Both of these general types of leases can be modified in many ways that may include provisions for certain items or structures that add or subtract one or more of the items listed. A net lease includes utilities and property taxes on top of base rent. A net net lease includes property insurance on top of everything in a net lease. An absolute net lease (usually for long-term credit tenants) includes structural maintenance costs in addition to NNN lease terms. An absolute gross lease (full service lease), which is typical for residential leases, includes all costs, plus base rent in one price. 

In reality, all costs are passed through to the tenant, regardless of lease terms. In a gross lease, the package lease price is considerably higher than the base rent per square foot of an NNN lease deal because all maintenance costs are already included in a gross lease, which means the tenant is incurring those costs, but they are more predictable than in a net lease situation.

Bottom line: As a tenant, you should be thinking about HVAC and other maintenance costs whether you are in a retail center, office building, strip mall, shopping mall or industrial park. You're always

 paying for them.

Heat pump and HVAC contractors

How Should You Think About HVAC Replacement and Maintenance?

If you're a tenant, you're thinking about how long you will be in this space, your bottom line, and how to account for and minimize HVAC expenses. It is important to ensure your mechanical contractor is incentivized through the contract to keep your HVAC equipment well maintained.

  • Does investing in HVAC make sense for you as a tenant?
  • How much does HVAC maintenance and labor typically cost, and how frequent will you incur these costs?
  • What are the terms of the contract with the mechanical contractor, and what repairs are covered by a service fee?
  • Should the landlord cover a portion of the expenses?
  • How much should you be paying a mechanical contractor for maintenance and equipment replacement?
  • How old is the HVAC system?
  • Will your HVAC investments be charged pro-rata by the landlord if the equipment life lasts beyond the terms of your lease?
  • How valuable is an efficient HVAC and smart building control system to you?
  • Will your employees or customers benefit from a better HVAC or building management system (BMS)?

If you're a landlord, you're thinking about your ROI, cash flow, and attracting and retaining good tenants.

  • What are your utility costs? Could they be improved?
  • How much do your tenants value indoor air quality?
  • How many HVAC tech truck rolls are sent to your property each year? Would a smart HVAC system reduce this number?
  • Have you explored alternatives to your current building controls?
  • How much money do you save when tenants re-lease rather than rollover?
  • Are your tenants frustrated with HVAC system downtime during repairs, system inefficiency or temperature imbalances?
  • Can you monitor your entire building portfolio's building management systems remotely?

If you're already in the process of considering a new energy management system (EMS) or building management system (BMS), knowing the investment payback, full system capabilities and predictive nature of the system are critical. Satisfaction with system functionality and keeping people in your space comfortable are critical to the success of your business. As 30% to 50% of your utility costs, optimizing HVAC system efficiency, control and monitoring should be a priority.

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