Demystifying the Commercial Lease: Base Rent
Compensation for musicians involves much more than a simple hourly rate. For many musicians, a union contract determines pay. Some musicians negotiate individual contracts paying them above union scale.
Whether musicians have an individual or are under union contract, they usually require a minimum pay per rehearsal or concert. In one contract, musicians received a minimum pay for 2-1/2 hours. Musicians are almost always given a specific call (hours to arrive and leave). If musicians remain after the call time, they receive overtime pay, usually at 1-1/2 pay in 15-minute increments. Musicians receive double time for overtime work past midnight.
It’s not unusual for principal chairs to receive more money, twenty percent more than the minimum is reasonable. The concertmaster (assuming no separate concertmaster contract) may receive as much as double the minimum. With some exceptions, musicians who play two instruments (e.g., flute and piccolo) in the same performance receive an extra amount, often a twenty percent premium.
Musicians that must transport certain bulky instruments, such as the cello, harp, or tuba, sometimes receive an additional payment where they have more than one performance in a day, and there isn’t anywhere to store their instrument. Plus, musicians receive additional pay for travel to certain locations. These payments are in addition to pension and healthcare benefits.
Like musician compensation, rent in commercial leases can be comprised of many different payments to a landlord. A lease may include base rent, gross rent, additional rent, common area maintenance charges (CAM), ground rent, or percentage rent.
This article is part of a series on Demystifying the Commercial Lease. Previous articles in the series discuss Types of Leases, Letters of Intent, and Common Area Maintenance Charges. This article discusses base rent.
What is Base Rent
Base rent usually refers to the stated monthly rental rate in a commercial lease. Base rent also sometimes is called net rent or minimum rent. Base rent may be the same throughout the lease term, or the lease may provide for annual increases in base rent.
In addition to base rent, tenants usually must pay CAM charges, discussed in a previous article. There may be additional charges depending upon the real estate asset class. For instance, in a retail setting, tenants also may have to pay marketing costs for the shopping center or may have to pay percentage rent based upon a percentage of the tenant’s gross revenue at the location.
Base Rent Terminology
Base Rent frequently is quoted on a dollars-per-square-foot basis. To calculate the monthly base rent, a tenant might think they compute the square footage by multiplying length times width. Unfortunately, this isn’t how square footage is computed in commercial office space.
Instead, commercial office rental rates are calculated using “rentable square feet” (Rentable SF or RSF), which is computed by allocating a share of the building common areas to the tenant’s allocable square footage based upon its “usable square feet” (Useable SF or USF). Therefore, to understand how rent is computed, tenants need to understand some basic terms.
Useable Square Feet
Useable SF refers to the space the tenant is renting for its exclusive use. However, Useable SF isn’t the same number that the tenant would get by measuring its space your wall-to-wall with a tape measure. The Useable SF frequently will be higher than the actual, wall-to-wall square footage inside the tenant’s rental unit.
Useable SF is measured starting midway between the wall of the tenant’s rental unit and that of the neighboring rental unit. The tenant’s Useable SF includes one-half of the space between the walls of the tenant’s unit and the neighboring unit. Also, the tenant’s Useable SF usually includes some or all the space between the tenant’s interior wall and the outside of the building.
Common Area
The Common Area is the part of the building used by more than one tenant and includes the mailroom, maintenance closets, and bathrooms, not inside an individual tenant’s space. Some landlords will include the building’s on-site management office in Common Area.
Rentable Square Feet
Base rent usually is paid on Rentable SF, rather than Useable SF. Rentable SF includes both the tenant’s Useable SF and the tenant’s share of the building common areas. Rental SF is calculated by adding in an additional amount equal to the rental square feet times the “load factor.”
Gross Square Footage
Gross Square Footage (Gross SF or GSF) is the entire square footage of the building from exterior wall to exterior wall.
Load Factor
The load factor, also called common area factor or add-on factor, represents the proportional amount of common area allocated to each tenant. Each building has a different load factor based upon common areas in the building.
Load Factor = Building Gross SF÷Building Useable SF
To determine the Rentable SF, the tenant’s Useable SF is multiplied by the load factor. Since the tenant will pay rent on more square footage than its Useable SF, the load factor will always be over 100%.
Escalation
Although some commercial leases for five years or less may have a fixed rate throughout the term, many leases include annual increases. Rent increases are called rent “escalation.”
Lease Evaluation Tips
Load Factor Considerations
Load Factor usually isn’t negotiable. Frequently, the load factor has been given to the landlord’s broker without backup, so the broker may not have documentation that would enable the tenant to verify the load factor computation.
Although the tenant may not be able to dispute the load factor, it is an important consideration when evaluating rental options. Two rental units with the same Useable SF might have drastically different Rental SF due to differences in building Load Factors.
A rental unit offering a higher base rent per square foot might be a better deal because of load factor differences. Consider the following:
Rental Unit A Rental Unit B
Useable SF 1,000 1,000
Rent per square foot $20 $21
Load Factor 1.23 1.10
Rentable SF 1,230 1,100
Base Rent $24,600 $23,100
In this example, Rental Unit B would be the less expensive option, even though the rent per square foot is higher than that for Rental Unit A. Unless Building A’s higher load factor was due to additional amenities important to the tenant, Building B would be the better rental option.
Escalation
Many landlords want to build a fixed escalation into the lease, so base rent increases five percent or more annually on a cumulative basis. Although this provides predictable increases in rent, which can help with budgeting, in any lease (e.g., triple net or full service) where tenants assume the risk of increases in CAM, pre-established base rent increases may not be fair to tenants, whose incomes are likely to be tied to the U.S. economy.
U.S. annual inflation rates from 2009-2019 ranged from 0.7% to 3.0%. The annual inflation rate hasn’t topped five percent since 1990, and there haven’t been five consecutive years of annual inflation rates over five percent since 1978-1982.
Ideally, rent increases are directly tied to inflation. At a minimum, tenants should attempt to obtain a lower annual increase, closer to two or three percent. Other options include requesting that the rent not exceed the landlord’s stated rent or fair market value rent as determined by an appraiser or real estate broker.
Rent is More Than a Number
An office lease usually is a multi-year commitment. Tenants should educate themselves about how rent is calculated and should negotiate base rent, so it includes increases that are fair to both parties. Tenants also should team up with an experienced commercial real estate agent and a real estate attorney, business owners can help assure that they enter into a lease which will best meet their business's needs both today and in years to come.
© 2020 by Elizabeth A. Whitman
Any references clients and their legal situations have been modified to protect client confidentiality
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