The three main lease types in commercial real estate are NNN, Modified Goss, and Full-Service Gross leases. While NNN leases (where the tenant pays base rent in addition to their proportionate share of operating expenses) are the most common type of lease in our market, we often will take on management of properties with gross or modified gross leases with the objective of converting the leases to NNN. In our experience, NNN leases create the highest value to an asset as the net operating income is not impacted by fluctuations in expenses (i.e. property taxes, insurance, etc.).
Converting non-NNN leases to NNN leases is a big undertaking and begins with educating tenants, if need be, on NNNs. In most cases, when a lease is Gross or Modified Gross, the rent is higher as it accounts for absorbing some or all of the operating expenses. Therefore, when converting a gross or modified gross lease to NNN, the operating expenses need to be backed out of the rent. To do this, a NNN or operating expense budget must be established for the property. Next, NNN lease forms need to be prepared, that separate the base rent from the estimated or budgeted NNN amounts. It is important for the tenants to understand that while their base rent is pre-negotiated, their NNNs are subject to change. Most often, this process of converting to NNN leases takes time as we typically must wait until the end of a tenant’s current lease term. Though this is an arduous process, it is our goal to have a property entirely on NNN leases thereby creating the most value for the asset and our client.