In this era of depressed yields from bank deposits, many investors have flocked to purchasing properties subject to “triple net” leases. Such leases require the tenant to be solely responsible for all expenses of taxes, insurance, and repairs and maintenance that might be incurred during the lease term.
Investors who choose to take an assignment of a triple net lease at the closing of their property purchase capture the full future rental stream during the remaining lease term. Typically, these triple net lease assets are sold based on the creditworthiness of the tenant: the lower the risk of bankruptcy, the lower the capitalized annual rate (cap rate), and the higher the purchase price of the asset. http://tinyurl.com/khcwoyx
Generally, triple net leases have cap rates between 4% and 10%, which means that a $1 million investment could earn between 4% and 10% in income per year, an attractive yield when banks are paying interest of 1% or 2%, if that.
When judging the suitability of a triple net lease property, investors should remember that its income bonanza comes with a few unpredictable risks:
- Changing interest rates: If the investor borrows all or part of the purchase price and then refinances, there is a risk that the NEW interest rate on the loan will be higher than the cap rate of the lease, which would result in negative cash flow.
- Bankruptcy: Even the most solid firm can go bankrupt. The upheavals in 2008 taught us that, if nothing else. Changes in technology (streaming video vs. video rentals) or consumer taste can adversely affect the best-run companies and lead to loss of revenue or even bankruptcy.
- Termination expenses: Typically, triple net leases can, with renewals, last a long time. (Walgreens leases can typically have a lease term, with options, of up to 75 years!) But when the lease does end (or is not extended), there will be costs associated with finding a new tenant and readying the building for occupancy as well as paying commissions. It is important to plan for all eventual expenses.