Modified Gross Leases Allow Tenants and Landlords to Share Operational Costs
A modified gross lease, or MG lease, is a type of commercial real estate lease where the property owner and the tenant share in the operational costs of the property, including utilities, insurance, taxes, and maintenance. An MG lease can be considered to be a hybrid between a NNN (triple net) lease and an FSG (full-service gross) lease. These types of leases are generally used for non-multifamily commercial real estate, such as retail, industrial, or office properties.
A modified gross lease offers both the landlord and the tenant a significant degree of flexibility during leasing negotiations. They are often seen as a compromise between a NNN and FSG lease and might be more common in markets where commercial leasing demand is lower, giving potential tenants more bargaining power during the negotiation process.
MG leases are becoming increasingly popular, as they are considered to be fairer than NNN or absolute net leases, which leave the tenant responsible for nearly all expenses, and FSG leases, which transfer nearly all expenses to the landlord. In many situations, the landlord will pay for the more static expenses, like insurance, whereas the tenant will pay for variable expenses, like utilities, as these costs vary depending upon the utility usage of the tenant themselves.
MG leases generally have the tenant pay a fixed rate in the beginning period of the lease, perhaps lasting for a period of one year. After the initial period, the tenant will begin to pick up a higher proportion of the building operating expenses. If the building has multiple tenants, the costs will be typically divided amongst the tenants on a PSF (per square feet) basis.
For example, if a building has 100,000 usable/rentable square feet, and one tenant occupies 30,000 square feet, while another occupies 70,000 square feet, the first tenant would be responsible for 30% of their share of the operating costs, while the second tenant would be responsible for the remaining 70% share.
Sometimes, a modified gross lease will come with a tenant allowance, while other times it will not. This depends on the individual negotiations between the tenant and the landlord during the lease negotiation process.
MG Leases vs. NNN Leases
An NNN, or triple net lease, is a leasing structure in which the tenant is typically responsible for 100% of the operational costs of running the property. This includes all common area maintenance (CAM) fees, insurance, utilities, and property taxes, among other costs. The benefit for landlords is that they know exactly how much their expenses will be in advance. The main benefit for tenants is that they know exactly how their dollars are being spent, and have more ability to choose the type of maintenance and insurance services that fit their individualized needs. In the end, this could actually save the tenant money, while ensuring that the property is kept to the tenant’s standards.
In contrast, an MG lease will split the responsibilities between landlord and tenant. For instance, the tenant may be responsible for paying taxes, while the landlord pays CAM fees or utilities.
MG Leases vs. Absolute Net Leases
An absolute net lease can be considered to be a more extreme form of a NNN lease. An absolute net lease requires the tenant to pay for any and all building issues and expenses, such as replacing or repairing the roof and addressing any serious structural problems.
MG Leases vs. FSG Leases
An FSG, or full service gross lease, is a leasing structure in which the landlord pays for any and all expenses, including CAM fees, insurance, taxes, and any major building upgrades, such as the aforementioned roof repairs or replacements.
An FSG lease structure is perhaps the easiest to utilize and understand, as it absolves the tenant of all financial responsibility other than paying a set monthly rent. The FSG leasing structure allows the landlord to manage exactly how much they spend and whom they hire for maintenance services and insurance, which may allow them to cut costs. For tenants, the FSG leasing structure provides them the ability to make more accurate financial projections, as they know exactly how much they will be paying each month, and there are unlikely to be any financial surprises.