Saving Money Through Operating Expenses

12.05.2016

Triple net, net, gross, modified gross, and full service is all terms that can be used to describe a commercial real estate lease. As you enter the marketplace, it is imperative to know what kind of lease you are signing as this will explain to what level you are responsible for the operating expenses of a commercial building.

The bad news is that the definitions of these terms can vary from one landlord to the next.  The good news is that 90% of office space leased in Oklahoma City is under a full-service lease, which has a fairly concrete definition.

A common question I am asked when working with a potential tenant is, “What is a Full-Service Lease and how does it work?” In a full-service lease, a tenant is assigned a “Base Year.” This typically is the year in which the lease is signed. The key thing to understand about a base year is that there is a dollar value that is associated with your base year and that dollar amount is generally equal to that year’s cost in operating expenses. Under these conditions, the Landlord agrees to pay for all the operating expenses (taxes, insurance, utilities, janitorial etc.) for that first year and the tenant is required to pay their proportionate share of the increase in these expenses for subsequent years.  

For an example, your company signs a lease in the year 2016. The operating expenses for that building in 2016 are $6.00/sf. Your company is assigned the base year of 2016 and the landlord agrees to cover $6.00/sf in operating expenses.  In the second year of your lease term, 2017, the operating expenses increase to $6.15/sf.  You are now responsible for your proportionate share of the $0.15 increase in operating expenses. This $0.15 increase for which you are responsible is usually defined as “Additional Rent” in a lease. Now that we know how a full-service lease works, let’s examine a few ways to ensure that you are saving as much in Additional Rent as possible.

First is the timing of your lease. If you are going to sign a new lease in the months of October, November, or December, ask that your base year is set to the subsequent year. A landlord will pay for the first year of operating expenses, but this is based on a calendar year, not a twelve month period from when you sign your lease. Generally, operating expenses are budgeted to increase around 3% a year and the goal is to have the highest starting point for your base year amount. 

Second, and probably the area where you can benefit the most, is asking that your base year is reset at the time of your renewal. Many times when a company renews their lease they concentrate on items such as the length of term, rent, and tenant improvement allowance, but operating expenses are rarely addressed. Odds are if it is not discussed, your base year will not change. As mentioned above, operating expenses generally increase over time. Over a five to seven year period operating expenses can increase to well over a $1.00/sf of your base year amount. A 5,000 square foot company could potentially save $5,000.00 per year by just asking that their base year be reset to the current year.