FSG-NNN-MG-IG: Is This a New Pro League?
In a way, you may be right. The landlord is a real estate professional. In all probability, you are not. A professional basketball player seems to have all the tools to win a basketball game. In much the same way, the landlord has all the tools to win at the game of leasing. In another chapter, we brought to your attention the basic lease contract and asked you to try and determine if you had the appropriate lease for the type of building you were in.
OK, now you figured out you probably have an office lease, as it reads "standard office lease" at the top. By the way, landlords love to call their lease "standard,” which makes you think that, since everyone uses it, why change what seems to be working? Secondly, you are sitting on the sixteenth floor, so this must be considered an office building—but what do all those initials mean?
Let's start with some basics. A tenant (that's you, of course) pays the landlord a sum of money (usually referred to in the lease as "base rent") for the privilege of operating their business in the landlord’s building. Where it gets complex is how different landlords define base rent.
For most tenants in the Southern California area, a lease is defined as a “Full Service Gross” —or, more commonly, an “FSG.” Simply put, you pay the landlord some predetermined fee each month during the term, and that's it. Should you use something extra (such as additional after hour air conditioning (HVAC)), there might be a set hourly fee the landlord can collect as "additional rent." It's sort of like going to the Hilton and paying for the room, while also making seventeen phone calls, watching a movie, and eating a package of $9.00 peanuts from the food bar. Add-ons add up.
It is vital that you pay attention to the additional rent. It could be a bottomless pit for the sole benefit of the landlord. It could include not only the peanuts, but also anything else the landlord thinks the tenant should have to pay for either individually or on a "pro-rata" basis with other tenants in the building. That's why you need to understand all those initials before signing the lease. An $18.00 per year base rent may actually cost you $24.00 when the landlord gets through with you.
Hold on, here we go. A landlord has three financial considerations. First, he wants to get a return on his initial down payment. Let's say that's $20M. Now he has to pay the mortgage holder another $140M. Finally, it costs him $1.5M per year to operate the building and pay for such items as taxes, maintenance, utilities, and insurance. That's where those acronyms come in. In an FSG lease, the landlord usually has language in the agreement that states that, should the expenses go up after the first year, the tenant must pay a fair portion of that increase. Be aware that a Base Year (BY) or an Expense Stop (ES), which we’ll discuss in another chapter, can define additional cost.
In each of the other scenarios—Modified Gross (MG), Industrial Gross (IG), or a Net Lease (also known as a Triple Net, or “NNN”)—the Tenant pays a base rent which covers investment and debt service, but must then pay all or part of the maintenance costs either directly to the vendor or to the landlord. The landlord then pays the appropriate agency or vendor on your (actually his) behalf. Even that gets tricky. If you are in an industrial building, you probably have an NNN lease and you pay all the bills. However, if you are in an industrial park or some office buildings, you may pay some costs (such as utilities) directly to the electric or gas company, but the other costs are paid to the landlord. To try to explain away or justify those costs, the landlord probably sends you a "yearly reconciliation" statement, which gives you some cryptic explanation of what he spent your money on to maintain the property.
You need to review that statement carefully—you don't want to be paying someone's kid’s trip to ski in Europe. Or maybe you don't care as long as the costs only increased 2% or 3% a year.
Either way, before you sign a new lease, make sure to understand the total financial obligations. Don't just look at the base rental rate and multiply it by the square footage. Have a broker, attorney, or accountant review the section of the lease that defines any additional rent. That is negotiable. Recently, IN/House completed a transaction for a 501-C corporation (non-profit). We stipulated that the landlord would refund the tenant's portion of the real property taxes attributed to the tenant's premises, provided the tenant applies to the county for the refund and it is granted. IN/House has already returned thousands of dollars to 501-C clients in this manner.