Triple Net Lease Caveats
In recent years, more and more building owners are becoming fascinated with the concept of the “triple net lease.” A primary reason for the interest is that the terms of such a lease require the tenant of the building purchase and maintain adequate insurance on the building itself. This is in contrast with traditional lease agreements, which generally state that a tenant is responsible for insuring what’s his and the building owner handles the rest.
But in a world of shifting cost, it is easy to see why a triple net lease is attractive to building owners. And in many cases, building owners are encouraged by asset managers and/or legal advisors to pursue such an arrangement. Unfortunately, many forget to seek advice from their Trusted Choice® insurance professional.
Here’s why that’s a mistake: A triple net lease may save you a few premium dollars but consider what you’re giving up in return. There’s the issue of knowledge; specifically, that it’s likely your tenant knows as little (or less) about insurance than you do. Further, why entrust an asset this valuable to someone who has no real ownership interest?
There’s also the issue of control. Your agreement may require that you are added to the policy as an “additional insured” (more on this later). However, this status does not give you direct control of the insurance. A lack of control could have disastrous results; if the tenant fails to pay the premium or maintain proper coverage and there’s a loss to the building, the insurance will not change simply because of the terms of your lease. For example, your lease may specifically state that the tenant must buy insurance that covers loss from flood. The tenant fails to renew his flood policy on time and the building is washed away the following day. Yes, your tenant is in direct violation of the lease. However, that does not change the fact that you are stuck with a flooded building and no insurance to pay the damage.
Then there’s the issue of trust. Consider the following: Most insurance policies include special rights for the mortgagor of a property. Such rights include notification of changes and the ability to receive payments for a loss, even if that loss is in direct violation of the terms of the insurance, such as a tenant causing intentional damage (e.g., arson). These rights are essential while the mortgagor retains interest in the property.
But most landlords are not mortgagors. In these situations, landlords usually require they be added to the policy as an additional insured or interest—meaning if there is a claim they may be entitled to receive or share the payment. This status provides no additional rights to the policy. If your tenant commits any violation of the terms of the insurance contract (such as arson), the contract may be void for every insured—including you. Also keep in mind that being an additional insured or interest does not change the coverage provided by the policy. Therefore, if the policy your tenant purchased does not cover flood loss and a flood damages your building, the insurance will not pay anyone, including you.
It’s true that a triple net lease can save you a few dollars. Just remember that savings doesn’t come without a price.