For those without the necessary capital on hand to purchase a facility, leasing is an attractive and useful option to consider. One type of lease is the master lease, which includes the rental of a property from the owner by a lessee who will then rent it out further for desired profit. The owner receives monthly rent from the lessee and has no other responsibilities with regard to the property.
This can be a useful option for those lacking enough capital to purchase a location, and it often includes an option to buy the property, making it an excellent choice for those who cannot afford a down payment.
What Is Leasing?
Leasing involves the property owner renting out the rights to land and/or a building to the lessee, who then pays for the use of the facility on an agreed-upon basis. Apartments are good examples of how leasing allows the lessee to use the apartment space for his own household by paying a monthly rent to the apartment management company.
Commercial space is owned and leased in a similar manner. Responsibilities for the leased space are determined by the contract and have significant impact on the monthly costs and overall risk acceptance. For those looking to lease space for a personal business or to move into the real estate leasing market, there are a number of options available.
Basics of Commercial Leasing
Commercial leasing, the act of renting a physical space or property for one’s own business activities, differs from residential leasing in a number of ways. To start, there are few standards in the industry, meaning that every lease agreement will be different based on the owner’s expectations for the space and personal goals. This means renting commercial space will require much more negotiation between the owner and the lessee and requires both parties to be flexible in order to meet all of their needs.
In addition, there are far fewer laws and regulations protecting the lessee than there are in most residential leasing agreements. This means the renter is at higher risk because there are few federal limitations and protections in place. Most commercial leasing opportunities are for a longer term than residential, which certainly adds to the risk involved for the potential customer.
What this all means is that for a potential lessee or investor, every single option examined will be different, and contracts need to be examined carefully. There’s also a need to have multiple conversations with the landlord to ensure that all of the divisions of responsibility and labor are understood. In order to do so, it’s necessary to understand the lease options that are available and how they differ from each other.
Variations in Leases
There are a number of ways the costs and responsibilities related to the leased space can be divided between the owner and the renter. Commercial spaces come with not just the monthly cost to lease but also the related costs (utilities, trash and other services, taxes, insurance) as well as responsibilities that can involve both money and resources (maintenance, repair, janitorial, cleaning).
Leases are generally divided into types based on the division of financial responsibility between the owner and the lessee.
With gross leases, the landlord sums up all of the expected expenses for the property being leased and then applies that cost to the lessee as rent. This sum usually includes utilities, maintenance and janitorial costs. This makes gross lease rents higher than other types, but the price is all inclusive for the lessee. The tenant pays insurance and property taxes, but those are the only additional costs.
The advantages here are in the simplicity; the lessee knows he will pay the same amount each month, and the owner doesn’t have to modify a bill every month. This can have a downside if the tenant uses utilities in excess of what was included in the rent, as this cost would fall back on the landlord.
Modifications to this arrangement can be made to sort the costs a little differently, but the tenant still pays a lump sum to the owner.
A net lease assigns all costs of the space to the lessee. Normally, this makes the monthly rent lower since the tenant is assuming responsibility for all other costs. Net leases come in three typical variations:
- Triple-net lease: This is the most common variation, where the tenant assumes the three net expenses of taxes, insurance and maintenance, known as operating expenses. The tenant is also responsible for her share of utilities. In this type of arrangement, the landlord’s only responsibilities are outside maintenance and building/structure upkeep. All of the risks involved in variable operating expenses are covered by the lessee.
- Double-net lease: The tenant is responsible for a portion of taxes and insurance on top of rent, and the landlord covers the rest.
- Single-net lease: The tenant covers the rent plus a share of the property taxes.
Master Lease Agreement
A master lease is a situation where the tenant can take a lease of income-producing property and then further sublease the space so the lessee gets the rental income. These types of leases can be complicated and deserve a closer look.
The master lease definition includes the rental of a property from the owner by a lessee who will then rent it out further for desired profit. The owner has no other responsibilities for the property. The lessee is then given “equitable title,” meaning that while the owner still technically owns the property, the lessee is given permission and rights to modify and manage it however he wishes. He could renovate it to add value, for example, and charge higher rents from the occupiers for the higher-quality space.
Normally, the lessee leases the property with the intent of further subleasing it to renters, usually dividing the space into multiple rentable properties. The lessee must pay the agreed rent for the life of the lease and is responsible for paying property taxes, utility bills, insurance and maintenance bills, but otherwise is entitled to income and tax benefits from the property.
Master Lease Agreement and Option to Buy
The majority of master lease agreements contain an "option to buy,” which allows the lessee to purchase the full legal title from the owner at some predetermined date in the future. The lessee’s rent payments to the owner can be paid against the purchase cost of the property, and this gives the lessee the chance to purchase the property in the future.
Benefits of Master Leases
The benefit to the owner with a master lease situation is that she will receive a steady rent income from a property she owns without having to make any effort to use or maintain the property because these responsibilities fall on the lessee. The benefits to the lessee are plenty. The most obvious one is that once the rent is paid, any profit made on the property goes directly to the lessee.
There’s also the benefit of not having to put down any money on the property in order to use it, which allows lessees with little capital to lease space. The lessee puts in all of the work in making the properties attractive, subletting them out to various individuals or businesses and maintaining the property as needed. The sublessees can enter into leasing agreements with the original lessee.
Master Leasing and Commercial Property
Master leasing can work for most types of commercial property — anything from an abandoned strip mall to a high-end apartment building can function under the scope of a master lease agreement. A master lease is different from all of the other types of leases because it involves an intermediate lessee who then rents out to various tenants. It also varies in the division of responsibilities.
The owner, who often assumes some responsibility for the property in the other types of lease agreements, has very little responsibility under a master lease. The lessee then chooses her own way of leasing the space she has to a third party for profit.
When To Use a Master Lease
The approach to master lease agreements varies depending on whether you are an investor or an owner. The master lease concept usually focuses on real estate and can be commercial (subletting to businesses) or residential (subletting to tenants). This, of course, is for those interested in obtaining space not for a personal business but to lease out to others as the acting landlord.
For an investor, a master lease is a great approach when there isn’t very much capital at hand. Master lease agreements usually require very little money to be put down at the beginning of the arrangement, which allows potential investors to skip the hurdle of raising investment capital and go right into the process. It’s ideal when the investor finds a property where he sees an opportunity to improve the property that matches his own skill set.
For example, a property needing renovation might be a good opportunity for someone who has done drywall work and plumbing. It’s also a good idea to look at properties that may have been purchased at the peak of a real estate market surge, and the value has dropped with the market. These owners are usually looking for a simple, steady income to match their needs and will likely be very interested in a lease-to-purchase deal that takes the responsibility for making profit off of their table.
Benefits to Owners
As an owner, the master lease agreement is the answer to any lingering property that isn’t performing like it should but no longer interests the owner enough to make improvements and investments. Looking for a lessee is the best way to take care of the property without losing value on the initial investment. There’s risk in ensuring the lessee will be able to pay the rent and develop the property, but in fact, the weight of that responsibility is on the lessee as per the agreement contract rather than the owner.
Master lease agreements can happen at any level of real estate but are more commonly used in large investments like apartment complexes, resorts, shopping malls and the like. This is because with these larger properties, it can be difficult for potential buyers to raise the large amount of capital needed to purchase the real estate outright, so the master lease agreement removes that investment requirement and opens the site to the lease-to-buy option that is often included.
Often, capital will in fact be needed to make necessary improvements on the property in order to make it attractive to subrenters, but the amount of capital investment will be substantially less than the purchase down payment. Again, this helps make it accessible to the potential lessee.
For individuals who are looking to get involved in the commercial real estate market, leasing is the best way to enter and try out potential and partial ownership of a space. Directly leasing a property to use for one’s business from a landlord gives the tenant access to space and facilities without requiring an upfront purchase. For those who want their personal business to be leasing to others, the master lease agreement is the ideal approach to property management.