How Net-Leased Properties Generate Passive Income
Specializes in providing actionable insights into the commercial real estate space for investors, brokers, lessors, and lessees. He covers quarterly market data reports, investment strategies, how-to guides, and top-down perspectives on market movements.
Commercial property is sought after for its revenue-generating capacities. According to Nareit, the total size of the commercial real estate industry in the United States was around $16 trillion in 2018.
Sure, that statistic is a bit out of date (as studies of this size tend to become), but it does highlight the fact that commercial real estate is a juggernaut within the national economy. The best part is that commercial real estate is here to stay, growing more and more every year.
Does revenue-generating mean passive income only? Of course not: many commercial properties do require active management in order to truly reap the benefits of said revenue generation.
But what if it could look completely different?
Enter Net Leasing, the Property Owner’s Best Friend
Some people are hands-on when it comes to their commercial properties, and that’s perfectly fine. In fact, a lot of people actively use commercial property for their own entrepreneurial enterprises. However, moving the focus away from your efforts to someone else’s is the best way to achieve the goal of passive income.
The world could use a little more passive income. After all, do you really need one more thing taking up time in your life? Probably not.
This is where a net lease is the superior option, as it lets the tenant use the space for their own commercial gain, leaving you to focus less on upkeep and more on other aspects of your business.
The Contract Type Is the True Gateway to Passive Income
Building passive income starts not with tenant selection but the type of lease agreement you can build.
A net lease is simply an agreement between tenant and property owner (or representative) that spells out who is paying for the basic expenses of a property. Every property has expenses like insurance, taxes, maintenance, and renovations.
The power of the net lease is that it is about the tenant taking on a portion of the necessary expenses. This is by design, and the tenant is well aware of the obligation on their part right from the beginning.
They can and will negotiate in order to build an agreement that benefits them as much as it does the property owner. This is also by design and very acceptable; you wouldn’t take the first deal you were offered, right?
The Primary Benefits of the Net Lease Are Vast
One of the top benefits is the vacancy-filling characteristic of a leased property. Once you have a signed lease agreement in hand, the property is filled by the tenant, leaving you free to focus on other areas. However, that isn’t the only benefit waiting.
Net-leased properties are so intriguing because the tenant has to cover the expenses outlined in the lease agreement.
This can range significantly depending on what you specifically work out with the tenant. If they’re taking on fewer responsibilities, they’re going to pay more in rent than if they take on paying for more maintenance, taxes, and other expenses.
Single, Double, or Triple Net Lease?
The longevity of the leases is what is so appealing about net-leased properties. Take car washes for example. They’re the perfect visual for a net-leased property.
They tend to stay put: after all, if you have a successful location, why would you pack up and go somewhere else? The facility is customized for their specific business, and they don’t have to share space with anyone else.
Net-leased properties fall into three categories: single, double, and triple net leases. The type of lease refers to what’s covered by the tenant versus what’s covered by the landlord.
In the single net lease, the tenant is agreeing to just one expense type, like the taxes on the property.
In the double net lease, the tenant is picking up two expenses, like maintenance and insurance costs. And in the triple net lease, the tenant is paying for the taxes, the maintenance, and the insurance costs.
Why Would Tenants Agree to Pay More?
Every tenant has their own motivations when it comes to accepting a lease agreement. For some, it’s the location: if they can see a chance to profit well from the deal, then they will press forward.
Others find that they want the stability of not having to deal with rising rents for a long time.
The motivations vary, but the focus is always the same: potential profit.
The Triple Net Lease and the Car Wash
Car washes make a lot of sense from a business perspective. While they still require marketing and advertising, the truth is that most people understand how a car wash works instinctively.
This straightforward business type means that it’s not shocking that car wash cap rates are so high. Industry average car wash cap rates are roughly around 7 percent.
That’s not terrible for an asset that still has resale value. The land only becomes more profitable when people realize that there’s a successful business that’s been there. Even if the car wash were to grow and move elsewhere, their success is proof that the property is in a good spot.
While some things change, the need to have property in a profitable place for commerce doesn’t change at all. Keeping this in mind as you search through free commercial real estate listings is very important.
Take the Time to Find the Right Tenants
The hunt for passive income feels more like a marathon than a sprint. However, there are key steps to follow.
Starting with structuring the agreement in a way that makes sense to the passive income objective makes sense. The triple net lease is the best for passive income because it shifts the majority of the hassles of upkeep from landlord to tenant, which has its obvious appeal.
A common concern with pursuing properties ideal for net-lease opportunities is finding the right tenant.
However, there are multiple strategies for tenant acquisition, but they all start with the reality that plenty of tenants are hunting for leases rather than trying to spend a lot of time finding the right place to acquire.
The tenants are certainly out there; you simply have to start with having the right agreements and property. Focusing deeply on the type of properties that would align themselves well with a lease is the best way to begin.
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