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Selecting a property can be a challenging task for anyone, whether they’re first-time investors, or agents striving to meet their clients’ expectations to close real estate deals successfully. Given the inherent fluctuating nature of real estate, properties that seem good now may suddenly not be so valuable in the future. After all, investments aren’t free, so it’s essential to research extensively when purchasing properties. Of the many types of properties out there, triple net leases (or NNN) offer some of the most lucrative options for investors.

That said, it’s not a simple buy-and-forget investment. If anything, it’s quite the opposite.  While it’s relatively low-risk compared to other properties, it also requires a bit more work. In this article, we’ll take you through the nuances of NNN properties, and teach you how to maximize their long-term value.

What are triple net leases (NNN)?

An NNN lease is a property agreement wherein the tenant essentially shoulders most of the expenses for the property. Expenses like real estate taxes, building insurance, and general maintenance become the tenant’s responsibility. NNN agreements offer lower rates for rent to compensate for the extra expenses.

Of course, every property owner has different caveats of what “most expenses” means.  Generally, property owners are still responsible for utilities outside your rented space, the structure itself, and the roof in NNN leases. Operational expenses will be the bulk of negotiations for these property agreements. Understanding these aspects is crucial for making a profitable NNN investment possible for the investor.

Benefits of NNN properties

Now that you understand NNN properties, it’s time to look at their many advantages, primarily on the landlord’s side. NNN properties are most popular in commercial spaces, such as warehouses, shops, and restaurants thanks to the following benefits:

Steady Revenue

NNN properties provide landlords with a reliable stream of income. Tenants are responsible for the bulk of heavy expenses like property taxes, insurance, and maintenance. Thus, landlords can anticipate consistent payments without the fluctuations that may come with other lease types. 

Less Complex

Compared to other types of property arrangements, NNN leases tend to be more straightforward. With tenants taking on responsibilities for expenses, landlords avoid the complexities of property management. This simplicity saves time and effort in administrative tasks.

Low Risk

NNN leases offer landlords a lower level of risk compared to traditional leases. Because tenants are responsible for covering operating expenses, landlords are less exposed to unexpected costs or liabilities. This reduced risk provides a sense of security and stability for property owners.

Flexible Terms

Landlords have the flexibility to negotiate terms that align with their preferences and goals. Whether adjusting lease durations, setting rental rates, or specifying responsibilities, NNN leases allow for customization to suit the needs of both parties. This flexibility facilitates mutually beneficial agreements and fosters positive landlord-tenant relationships.

Long-Term Occupancy

NNN properties often attract tenants who are looking for stable, long-term arrangements. Since tenants have a vested interest in maintaining the property and its profitability, they are more likely to commit to extended lease periods. This result reduces the risk of vacancies and provides landlords with a reliable source of income over time.

Pitfalls of NNN leases

While NNN leases can be quite lucrative for relatively low risk, there are still some potential worries.  Namely, the deceptively “simple” nature of NNN leases may lead landlords to make mistakes they would otherwise have caught on other leases. 

Careless Maintenance

In NNN leases, tenants bear the responsibility for property maintenance. While this may seem advantageous for landlords, it can lead to complacency regarding property upkeep. Landlords might assume tenants will address maintenance properly, but some tenants may not be up to the task. Failure to proactively monitor and address maintenance concerns might ruin the property altogether. 

Fluctuating Tax Rates

Although tenants typically cover property taxes in NNN leases, landlords should remain vigilant about potential fluctuations in tax rates or assessments. Unexpected increases in property taxes could strain the profitability of the lease arrangement for landlords, especially if lease agreements do not include provisions to address such fluctuations.

Insurance Gaps

While NNN leases typically require tenants to maintain insurance coverage, landlords must ensure that the coverage is adequate and comprehensive. Failure to verify the sufficiency of insurance policies can leave landlords vulnerable to potential gaps in coverage, exposing them to financial risks in the event of property damage, liability claims, or other unforeseen circumstances.

Default Risk

Despite the stable income potential associated with NNN leases, landlords still face the risk of tenant default. Economic downturns, operational challenges, or unforeseen circumstances can impact tenants’ ability to fulfill lease obligations, including rent payments. Landlords should conduct thorough due diligence on prospective tenants to assess their financial stability and reliability. 

Lease Misunderstandings

The apparent simplicity of NNN leases may lead to misunderstandings or oversight regarding lease terms. To prevent misunderstandings, landlords should ensure that lease agreements are clear, comprehensive, and accurately reflect the intentions of both parties. Otherwise, a long legal battle might await you in the future. 

Final Thoughts

NNN leases are a solid and reliable investment. Of course, like any investment, it’s important to understand why it’s solid and reliable in the first place. NNN leases offer long-term value thanks to being low-risk and shuffling off most of the property responsibilities to the tenant. However, landlords should stay vigilant about the tenant’s responsibilities, and communicate with them often. In that way, investors can ensure the property generates the value it should.  

One amazing aspect of investing in NNN triple net lease properties is the low ticket for entry. For as little as $1.5 million, investors can own a property tenanted by a nationally recognized brand and get reliable and passive monthly income for as long as 15-25 years.

However, triple net lease investment properties with lower price points are not easy to find, and they usually have short-term leases and may include a lot of deferred maintenance. New NNN investors should also note that high-cap rate, low-price lease properties are riskier purchases than higher priced properties. It follows therefore, that it is also more challenging to finance lower priced properties. On the flip side, when investors factor in financing, tax write offs and lease rent escalations over a 12 to 20 year NNN lease term, an advertised 5.00% cap rate can easily translate to a 7.5–11% compound annual rate of return!

When using debt to buy a triple net lease property, investors must have a minimum of $1.0 million in net worth and have cash on hand ready for a down payment of up to 40%. The amount of financeable debt mostly depends on tenant credit, as well as location, lease term, etc. The better the net lease tenant’s S&P credit rating, the higher the amount of borrowing that is possible for investors. Investors aiming for lower NNN asset prices should look at:

• C-stores/gas stations ($1.0–2.0 million)
• Medical brands, such as dentists, dialysis or urgent care stores ($2.0 million)
• Quick service restaurants such as Burger King, Wendys, Chicfilet, etc ($1.5 million and up)

When evaluating a triple net lease investment here are some key factors NNN investors must deliberate:

• Will rent receipts cover debt service?
• The length of lease term best tailored to debt payoff?
• What and how much tax and depreciation write offs are required?
• Will another property be exchanged using IRS section 1031?

Broker Robert Gamzeh and his team are multi-decade experts at finding NNN properties in price ranges $1.0 million and up. The team uses its extensive technology and broker networks to identify possible investment triple net lease properties that will best meet your investment, tax, lifestyle and 1031 criteria. Call 202-365-3050 for a free consultation.

NNN buyers need to know these 5 lease clauses

NNN leases have many provisions that could pose a threat to your successful investment. At the Triple Net Investment Group we vet and monitor the nitty gritty of the constantly changing NNN investment property market like a hawk, and interact daily with hands-on investors, legal experts, CPAs, and other professionals to understand the pragmatic impact of what issues matter and how much. Here are some NNN lease clauses that will require your attention: 

Estoppel Certificate

This requires the tenant to sign and confirm various key aspects of the lease in the instance an investor wants to sell the tenanted property. Or, a lender may ask for an estoppel certificate before approving a loan on the NNN property. Landlords, thus, must have a estoppel certificate clause in the lease; if absent, tenants may negotiate in order to comply when the document is required.  

Approved Use

Such a clause specifies the permitted commercial use(s) of the property by the tenant. NNN landlords should use language that is restrictive so that tenants stay the course with their business operations. This clause is particularly useful for uses in multi-tenant NNN properties like shopping centers.  

Right of First Refusal

A NNN tenant has the right to purchase the property before any other entity if an investor wants to sell it. In other words, if a NNN investor buys a property with an existing right of first refusal, the tenant will have to sign off on it first. Note, this keeps the door open for negotiation by a tenant.

Guarantees

An entity other than the tenant agrees to be responsible for all lease obligations in the instance of tenant default. However, a corporate guarantee is better than a guarantee from a one-member LLC or a sole proprietorship. When NNN leases are guaranteed by a franchisor or an user-operator, this may be worse than having a corporate guarantee. Landlords must do sufficient due diligence and ensure that the guarantor and lease matches the entity whose credit is being evaluated. Guarantors’ credit ratings finances and reputation in other markets should be investigated thoroughly.

Lease Term and Options

NNN leases often have multiple options to extend that could last well over 20 years. Since the options to extend are awarded to the NNN tenant, it provides tenants with leverage when a lease term draws to a close. Strategically speaking, landlords and NNN investors should seek properties for sale with less than 3 years left with no option to extend can be an opportunity to reposition the asset with a higher upside. NNN investors should also be wary of any early termination options or if an option to extend calls for the parties to agree to a new market rate at time of extension.

Call Robert Gamzeh and his team of vigilant advisors to discuss your NNN lease or properties to buy or sell. You can be assured of stellar guidance by calling 202-360-2050.

Using the yield curve to buy NNN properties

Last year, investment volumes dropped significantly across asset classes, and triple-net lease properties
were no exception. Research shows that NNN sales volumes fell over 60% year-over-year in 2023. Next
year, however, NNN investment is expected to rebound!

The yield curve has been inverted since 2022, but research indicates that any economic implosion
following a yield curve inversion is a lagging phenomenon. Investors that take cues from yield curves
consider both: the 10 year-3 month spread as well as the 10-2 year spread, since both yield spreads
have inverted and preceded all six recessions since the 80’s.

Here’s a quick primer on cap rates and yields. Due to higher interest rates, investors have become
increasingly sensitive to yield. It is the primary metric investors are watching in this market. In the bond
market, investors often focus on a bond’s yield to measure a bond’s annualized return. With bond
yields, issuer credit quality is the fundamental risk characteristic that drives pricing. Thus, bonds issued
by investment-grade rated issuers trade at lower yields than bonds issued by non-investment grade
issuers. In the NNN market, investors use capitalization rates (known as “cap rates”) to measure
expected yield on investment. Thus, cap rates are regarded as proxies for bond yields within the NNN
market.

Undoubtedly, over the last twenty five years, net lease cap rates have compressed. However, the
compression has been more modest than the compression of bond yields over the same period. And
even today as bond yields hover around 5%, investment-grade net lease deals are still trading at higher
yields, although now the spread is 1% or less. This puts NNN strategy in a different light.

We are recommending that NNN investors stick tight to core fundamentals in this interest rate
environment. By focusing on net lease assets with investment-grade tenants and strong real estate
profiles, we believe that investors can still create reliable cash flow at higher yields with lower risk. NNN
cap rates are edging up, but since the Fed is likely to ease off higher and longer interest rates hikes, net
lease sellers are pricing this in and keeping prices sticky. Thus, net lease investors could target newly
constructed triple net assets located in strong, gateway markets and minimize re-leasing risk. Or,
consider assets with sale leaseback potential including the car wash, QSR and C-store sectors. Triple net
assets with strong cash flow engines, and capital needs, can tap sale leasebacks to grow fast.

Robert Gamzeh and his team at the Triple Net Investment group pride themselves if offering out-of-the-
box solutions to clients. Uncertain times call for creative solutions. We know NNN markets well enough
to understand the intricacies of financial engineering. Give us a call even if you have engaged an advisor,
202-360-3050.