Net rent

Hi,

I am looking at a property and the Information Memorandum says:

Gross Rent: $35000 (I've used different figures) + GST

Less:
Council Rates: $1300
Water Rates: $580
Body Corporate: $2800
Insurance: $1100
Total: $5870

Net Rent: $29220 + GST

Am I correct in saying that the real net rent figure you use needs to include all other outgoings that you may incurr as a landlord, eg. land tax, property management fees and maintenance/repairs?

And that you should use this net rent figure to calculate the actual yield the property is selling for, rather than the figure quoted by the agent?

And when calculating this yield figure do you exclude the GST amount or include it?

Thanks!
 
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You exclude GST because you have to pay it to the government the next quarter so it isn't 'income'.

Maintenance and repairs should be covered by the tenant for most cases, depending on the lease, what type of tenant you have and the building.

I am not sure how the landlord has structured that particular lease but it sounds like they are paying the outgoings for the tenant? Bad move if it is - as this means that the landlord gets the bill first then seeks reimbursement from the tenant. The tenant should always be the one on the actual bill itself for the outgoings (except land tax). Do your homework.
 
Thanks.

I checked with the agent, maintenance/repairs are paid by the tenant (except of a structural nature).

(NB: It is a Retail Lease)

The tenant also pays for electricity and phone line.

Council rates, water rates (including usage), body corporate and insurance are payable by the landlord.

Landlord would also have to pay land tax and their property management fees.

The net yield the agent is quoting is based on the $29220 rent.
And so is the net rent per square metre.

So NOT including land tax and property management fees.

As an investor looking at this property would you calculate the net yield and rent per square metre after deducting these two costs?
 
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Yes. Because you have to have a common number in your head when comparing costs. I include PM costs because I have tenants who pay those so now everything else has to live up to that benchmark. Likewise with Land Tax on a single holding basis. Ideally the tenant would have to pay for PM costs or a fee to the LL if self managed in lieu - so it gives you the option. But I've only seen a few leases like that, which were very popular among investors (sold on low yields) because they tied down the tenant good and proper for the long term on pretty much every other clause in the lease as well.

But on the outgoings thing the other reason a net lease is better is because the tenant takes the outgoings risk - if any of the outgoings increases the tenants are up for the full increase rather than the LL having to absorb the cost in a gross lease which reduces their net return.

Of course the reality is that you never get everything you want (long term fully net lease to quality tenant for a quality property at a high yield!) so it all goes into the melting pot for you to make a judgement on whether the combination of attributes presented by the property represents good value - or not as the case may be.
 
Yes. Because you have to have a common number in your head when comparing costs. I include PM costs because I have tenants who pay those so now everything else has to live up to that benchmark. Likewise with Land Tax on a single holding basis. Ideally the tenant would have to pay for PM costs or a fee to the LL if self managed in lieu - so it gives you the option. But I've only seen a few leases like that, which were very popular among investors (sold on low yields) because they tied down the tenant good and proper for the long term on pretty much every other clause in the lease as well.

But on the outgoings thing the other reason a net lease is better is because the tenant takes the outgoings risk - if any of the outgoings increases the tenants are up for the full increase rather than the LL having to absorb the cost in a gross lease which reduces their net return.

Of course the reality is that you never get everything you want (long term fully net lease to quality tenant for a quality property at a high yield!) so it all goes into the melting pot for you to make a judgement on whether the combination of attributes presented by the property represents good value - or not as the case may be.

Thanks HE,

Also regarding net rent per square metre, when valuers look at the property which figure for net rent do they use?

The one like the agent quoted above in the IM?

Or do they look at comparables using gross rent per square metre to assess market rentals?
 
My experience of the valuation profession has shown considerable variability in results so I may be the wrong person to ask. However, the reports I have seen for valuation of market rent have attempted to equalise the total cost to the tenant. So a property with higher outgoings would have a lower net rent psm than one with lower outgoings as the total cost to the tenant psm should be the same. After all tenants assess the total cost to themselves psm when looking at different properties to occupy in the market so this is the basis for determining market rent. Net rent to the LL is not particularly relevant for this purpose.

BTW the way the agent has presented this seems to be so as to give prospective purchasers an idea of those outgoings that are paid for by the tenant and those which the LL has to pay and takes the risk on. Leaving out Land Tax is a bit tricky but understandable given it's a retail lease and presumably LT isn't recoverable by law in that State, which prospective purchasers of a retail shop should already know. Leaving out PM fees is commonplace IME and you have to do your own calcs about whether to include that or not.
 
My experience of the valuation profession has shown considerable variability in results so I may be the wrong person to ask. However, the reports I have seen for valuation of market rent have attempted to equalise the total cost to the tenant. So a property with higher outgoings would have a lower net rent psm than one with lower outgoings as the total cost to the tenant psm should be the same. After all tenants assess the total cost to themselves psm when looking at different properties to occupy in the market so this is the basis for determining market rent. Net rent to the LL is not particularly relevant for this purpose.

BTW the way the agent has presented this seems to be so as to give prospective purchasers an idea of those outgoings that are paid for by the tenant and those which the LL has to pay and takes the risk on. Leaving out Land Tax is a bit tricky but understandable given it's a retail lease and presumably LT isn't recoverable by law in that State, which prospective purchasers of a retail shop should already know. Leaving out PM fees is commonplace IME and you have to do your own calcs about whether to include that or not.

Great, thanks HE, makes sense.
 
I would check how the lease is worded in regards to Management Fees. It may be possible to start recovering those from the tenant depending on the clauses. I have found that it's something small scale investors sometimes overlook because it requires a bit of planning under the Retail Leases Act.

It's possible that the Site Value is below the Land Tax threshold assuming the property is worth circa $450k.

In a perfect world valuers would look at Gross Rental to determine the Market Rental however this information isn't always available in Victoria where the market nearly always talks in Net Rentals. Land Tax amounts are often unavailable as agents don't handle this as its non-recoverable. So in practice, it is likely that a valuer would look at your $29,220 per annum "net" rental on a rate per square metre to see if that is at or about market.

At this market level, I would expect a valuation report to calculate a net yield before deduction of LT and Management Fees. But it might be after the deduction of LT.
 
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I would check how the lease is worded in regards to Management Fees. It may be possible to start recovering those from the tenant depending on the clauses. I have found that it's something small scale investors sometimes overlook because it requires a bit of planning under the Retail Leases Act.

Thanks Dazedmw,

Can you elaborate on what you mean about the Management Fees?

How would you go about doing this?

It's possible that the Site Value is below the Land Tax threshold assuming the property is worth circa $450k.

Good point, Land Tax may not amount to much at this level! :D

In a perfect world valuers would look at Gross Rental to determine the Market Rental however this information isn't always available in Victoria where the market nearly always talks in Net Rentals. Land Tax amounts are often unavailable as agents don't handle this as its non-recoverable. So in practice, it is likely that a valuer would look at your $29,220 per annum "net" rental on a rate per square metre to see if that is at or about market.

At this market level, I would expect a valuation report to calculate a net yield before deduction of LT and Management Fees. But it might be after the deduction of LT.

That's great information, thank you.
 
Thanks Dazedmw,

Can you elaborate on what you mean about the Management Fees?

How would you go about doing this?

You are testing my memory now as I don't have the relevant information with me! :eek:

From memory the Retail Leases Act 2003 states that management fees can be recovered from the tenant if the amount of the outgoing is specified prior to the commencement of the financial year. I believe this was due to tenants getting shitty when presented with a large unexpected bill for management at the end of the year.

Now it depends on what the lease says. Sometimes it states that management is recoverable but the owner doesn't take advantage of this because they haven't gotten organised. Sometimes the Lease states management outgoings will be $0, which means you are out of luck. If the lease appears to be silent, I would check the Disclosure Statement supplied to the tenant at the lease commencement. It should (but not always) be in the Section 32, if it isn't ask the selling agent. The Disclosure Statement should set out all outgoings including management.
 
From memory the Retail Leases Act 2003 states that management fees can be recovered from the tenant if the amount of the outgoing is specified prior to the commencement of the financial year. I believe this was due to tenants getting shitty when presented with a large unexpected bill for management at the end of the year.

Now it depends on what the lease says. Sometimes it states that management is recoverable but the owner doesn't take advantage of this because they haven't gotten organised. Sometimes the Lease states management outgoings will be $0, which means you are out of luck. If the lease appears to be silent, I would check the Disclosure Statement supplied to the tenant at the lease commencement. It should (but not always) be in the Section 32, if it isn't ask the selling agent. The Disclosure Statement should set out all outgoings including management.

Fantastic stuff.

I'll make sure to look into this and have another look at the Act.
 
In a perfect world valuers would look at Gross Rental to determine the Market Rental however this information isn't always available in Victoria where the market nearly always talks in Net Rentals. Land Tax amounts are often unavailable as agents don't handle this as its non-recoverable. So in practice, it is likely that a valuer would look at your $29,220 per annum "net" rental on a rate per square metre to see if that is at or about market.

At this market level, I would expect a valuation report to calculate a net yield before deduction of LT and Management Fees. But it might be after the deduction of LT.

Generally, management fees are discretionary expenditure by the lessor ie not required, just like covering lease default by tenant etc. Items like land tax & management fees are therefore excluded from the net rental calculation.

Valuers compare properties on the basis of net rental as there is no point comparing gross rental (different properties will have greatly varying annual outgoings eg lift, on site management/concierge/security, maintenance requirements eg older building vs high tech offer, even shopping centres are built to ensure that the shortcomings of the building fall under maintenance not capital works). With retail, the lessor is required to provide a disclosure statement giving the annual outgoings budget and how this is to be spent as well as items like marketing levy, so the valuer has more information go by when comparing a net lease to a gross lease.
 
With retail, the lessor is required to provide a disclosure statement giving the annual outgoings budget and how this is to be spent as well as items like marketing levy, so the valuer has more information go by when comparing a net lease to a gross lease.

I'm going to chase up this Disclosure Statement and see what else it shows and will post back.
 
Valuers compare properties on the basis of net rental as there is no point comparing gross rental (different properties will have greatly varying annual outgoings eg lift, on site management/concierge/security, maintenance requirements eg older building vs high tech offer, even shopping centres are built to ensure that the shortcomings of the building fall under maintenance not capital works).

Yes I agree capital value is worked out on a Net basis. But when looking at market rentals technically Gross is the way to go (as this is the total occupancy cost that the market can support). Then deduct outgoings and capitalise the net rental.

With retail, the lessor is required to provide a disclosure statement giving the annual outgoings budget and how this is to be spent as well as items like marketing levy, so the valuer has more information go by when comparing a net lease to a gross lease.

The issue is not the subject property where the valuer has all the information. It is the comparable sales and rentals. In the Victorian market (in lower value levels) agents talk in net rentals, may not know the outgoings, and even if they do they usually don't know Land Tax amounts as that is a landlord matter which isn't usually part of management.
 
You'd be surprised the access that you get as a valuer, often it is in discussion with the owner/managing agent etc that they are able to establish all costs in relation to the comparables. Often, we will have access to other sites under the same managing agent and have all the info on the latest deals.
 
I'll make sure to look into this and have another look at the Act.

The Act in VIC says:

"s.49, Limitations on recovery of management fees
(1) A provision of a retail premises lease is void to the extent that it makes the tenant liable to pay an amount for management fees unless-
(a) the management fees relate to the management of the building in which the retail premises are located or, if the retail premises are located in a retail shopping centre, that centre;...''

Referring to the bolded line... does this suggest that PM fees are recoverable and/or body corporate fees??
 
Thanks.

I checked with the agent, maintenance/repairs are paid by the tenant (except of a structural nature).

(NB: It is a Retail Lease)

The tenant also pays for electricity and phone line.

Council rates, water rates (including usage), body corporate and insurance are payable by the landlord.

Landlord would also have to pay land tax and their property management fees.

The net yield the agent is quoting is based on the $29220 rent.
And so is the net rent per square metre.

So NOT including land tax and property management fees.

As an investor looking at this property would you calculate the net yield and rent per square metre after deducting these two costs?
A true net return is gross rental less all costs ie land tax, council rates, strata rates, regular maintenance costs, property management costs, water rates, electricity rates etc.

Thanks HE,

Also regarding net rent per square metre, when valuers look at the property which figure for net rent do they use?

The one like the agent quoted above in the IM?

Or do they look at comparables using gross rent per square metre to assess market rentals?
Depends on the property. They will look at any similar properties and make comparisons. Of course if there are a lot of comparables they will compare net leases with net leases. But if there are very few comparable leases in the area and there are only net rentals, then they would be forced to either gross them both up and compare on a gross rental basis.

They could also net down your rent and compare with net leases, but I would suggest grossing them up would be a more accurate way of doing it.

There's no use saying your property is $100/sqm net and is therefore above market value because surrounding properties are leasing for $90/sqm. What if your outgoings are $20/sqm while the surrounding properties have outgoings of $50/sqm due to larger underlying land area, higher management fees, higher strata fees and building insurance etc? Which property is then below market value? Which property is a potential tenant going to prefer?
 
Most of those expenses if not all should be covered by the tenant. The only thing we pay from memory on all our buildings is land tax.

This is not always the norm (it would be great for owners if it was!). The smaller tenants usually want gross rentals as they don't want the uncertainty provided by net rents. They just want to know they need to pay $X amount per week.

The larger tenants often don't mind net rents and it won't bother them if rates go up $5k/yr.

It will also depend on the area in which the property is situated.
 
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