What is a Gross Lease?
A Gross lease is a type of lease wherein tenants pay only a single fixed payment to the landlord, which includes rent. The landlord bears all other costs like property tax, insurance, maintenance, and other ancillary expenses.
Gross Lease Explained
In a lease agreement, there are always two parties; one is the landlord, who is the lessor, and the other is a tenant called the lessee. A Gross lease refers to an arrangement wherein the tenant gives only one fixed payment to the landlord.
- A landlord calculates all the expenses like rent, taxes, insurance, repair & maintenance, and other day-to-day costs. It is calculated on the basis of historical data and future estimated costsEstimated CostsCost estimate is the preliminary stage for any project, operation, or program in which a reasonable calculation of all project costs is performed and thus requires precise judgement, experience, and accuracy..
- After calculating the fixed amount, the landlord and tenant jointly negotiate the fixed amount of rent, terms and conditions of the lease and reach the final amount that will benefit them.
- This type of leaseLeaseLeasing is an arrangement in which the asset's right is transferred to another person without transferring the ownership. In simple terms, it means giving the asset on hire or rent. The person who gives the asset is “Lessor,” the person who takes the asset on rent is “Lessee.” is favourable for tenants as they have to pay only fixed rent, and all other responsibilities are taken care of by a landlord. Since the tenant knows what he needs to pay, he can budget his funds accordingly.
Gross Lease Structure
There are two types of structures –
#1 – Modified Gross Lease
The Modified Gross LeaseModified Gross LeaseModified Gross Lease is a lease rental agreement wherein the lessee pays for the basic rent at the start of the lease and also pays for the proportionate share of property taxes, insurance premiums, and maintenance expenses during the lease tenure. It is majorly used in the case of commercial properties where there is more than one tenant to share the property. structure is designed to segregate the expensesExpensesAn expense is a cost incurred in completing any transaction by an organization, leading to either revenue generation creation of the asset, change in liability, or raising capital.. The tenant agrees to bear property tax, insurance costs, water and electricity bills. These aren’t considered at the time of finalizing the rent amount.
#2 – Fully Service Lease
This type of lease structure is designed so that all the expenses are the landlord’s responsibility. These are included in the total rent paid by the tenant. The owner, however, will pass on the inflation in cost to the tenant, and the tenant will be responsible for inflation in cost compared to a base year or first year of the lease agreement.
Gross lease vs. Net lease
Following are the differences between Gross lease and Net lease:
- In a gross lease, the tenant pays only a fixed payment to the landlord, whereas in a net lease, tenants have to pay taxes, utilities and other ancillary expenses in addition to the monthly rent.
- In a gross lease, the landlord pays taxes, insurance and maintenance costs. However, the tenant will be responsible for paying these expenses in a net lease.
- In a gross lease, a tenant can efficiently prepare his/her expense budget, whereas, in a net lease, variable expenses are to be paid by a tenant, which varies monthly.
- In a gross lease, a tenant can’t take steps to reduce energy and water bills, but in a net lease, these costs can be mitigated by the tenant.
- The monthly fixed rental amount is higher than the net lease as compared to gross lease because it includes taxes, insurance, and maintenance cost. Since the owner sets it, it takes a more elevated amount considering the inflation and responsibility of payment.
- In the gross lease, the landlord is responsible for any penalty in case of delayed payments or any violation. In contrast, the tenant is held accountable for the net lease.
- Gross lease is generally used in malls and multi-storage buildings where numerous people use the same utilities. In contrast, a net lease is applicable where a single tenant uses the property, and only one can use the utilities.
Advantages of Gross Lease
Advantages to the Tenant
- The tenant must pay fixed rentals regardless of increased variable expenses like tax and insurance.
- It is easy to plan the expenses as the tenant is aware of the costs.
- The tenant is not responsible for the timely payment of these operating expensesOperating ExpensesOperating expense (OPEX) is the cost incurred in the normal course of business and does not include expenses directly related to product manufacturing or service delivery. Therefore, they are readily available in the income statement and help to determine the net profit., and he can freely do his/her business.
Advantages to the Landlord
- A landlord gets higher rent than other lease agreements because they are based on the estimate and fixed solely at the owner’s discretion.
- The landlord can increase the earningsEarningsEarnings are usually defined as the net income of the company obtained after reducing the cost of sales, operating expenses, interest, and taxes from all the sales revenue for a specific time period. In the case of an individual, it comprises wages or salaries or other payments. by implementing energy-saving equipment.
- A landlord can pass on the inflation cost to the tenant.
Disadvantages of Gross Lease
Disadvantages to the Tenant
- In a gross lease, the fixed rental amount is based on the estimated cost and mainly at the landlord’s discretion. Therefore the rent charged can be high.
- A tenant does have control over the price, and they might not be motivated by reducing the cost.
Disadvantages to the Landlord
- The landlord gets fixed rent even if the operating expenses, taxes, and insurance costs increase.
- The landlord is responsible for making timely payments of all the costs, including penalties and late fees if any.
- The tenant does not make any effort to reduce the operating expenses like water and energy.
The tenant has to pay only a fixed rental amount in a gross lease and not any operation expensesOperation ExpensesOperating expense (OPEX) is the cost incurred in the normal course of business and does not include expenses directly related to product manufacturing or service delivery. Therefore, they are readily available in the income statement and help to determine the net profit.. This type of lease is used when a tenant does not want to take responsibility for multiple payments or does not have enough workforce to take care of all their belongings. Instead, the tenant wants to make a single payment that includes all these expenses, and the landlord will take care of all operating expenses as the landlord is charging a higher amount than the net lease.
This article has been a guide to a gross lease and its definition. Here we explain how Gross Lease works along with its structure, example and its comparison with net lease. You can learn more about financing from the following articles –