Are you paying rent in a uniform and consistent manner? Or do you find yourself scratching your head, trying to figure out how percentage leases or percentage rent works?
Percentage rent is often used in the commercial real estate or retail industries due to the variability and timing of sales. Percentage rent is made up of two types of rent payments—base rent and percentage rent. Your base rent is a consistent payment in both frequency and amount. Percentage rent is usually an agreed-upon percentage of the gross sales generated on the premises throughout the year.
Why use percentage rent?
This is a popular option for the tenant because the base rent is usually lower, and the percentage rent is directly tied to the success of the tenant. The percentage rent portion is usually decided by an agreed-upon breakpoint by the landlord and tenant.
Breakpoint
The lessee and lessor agree on a breakpoint, which is a threshold that—if reached—triggers the percentage rent clause. It is common to have a breakpoint for monthly and/or annual sales. Once the breakpoint is reached, the lessee is required to pay the agreed-upon percentage of sales for the percentage rent portion of the contract.
The breakpoint can be calculated in two different ways—artificial or natural. An artificial breakpoint is a sales threshold chosen by both parties and agreed upon in the contract. A natural breakpoint is a computation—commonly calculated by dividing the base rent by the established percentage.
Calculating the lease liability
The percentage rent portion of the agreement is calculated after a breakpoint has been reached, with any sales beyond that breakpoint subject to the rent calculation.
Let’s walk through an example.
The artificial breakpoint is $400,000 per month, and the percentage of monthly sales is 10%. Now imagine that the company had monthly sales of $500,000. Thus, the difference between $500,000 (sales) and $400,000 (breakpoint) is $100,000. We would multiply that $100,000 by 10%, which comes out to $10,000 of percentage rent due that month.
Difficulties of percentage rent
In the situation of percentage rent, there are many moving parts, inputs and contingencies that factor into the calculation. It can be very difficult to keep the process organized and straightforward, especially using a program such as Excel, and it is very susceptible to human error. Building out a percentage rent template or tool for Excel would require a lot of work upfront in addition to monthly maintenance and upkeep required of the fluid data.
Automate the process
NetLease makes the percentage rent process seamless and understandable. Netlease allows the user to track sales figures within NetSuite and automatically calculates the obligations of your percentage rent contract based on the difference between the breakpoint and the desired convention or frequency of sales. This is easily tracked as part of the rent schedule.
As you can see, within NetLease, you are able to plug in the percentage that calculates your additional rent expense of sales above a chosen sales breakpoint. Then this percentage rent will be in addition to your monthly agreed-upon rate for base rent.
Bottom line
Percentage rent can tie rent costs directly to sales, which can be a good option for businesses with fluctuating sales. If you have a percentage rent contract, make life easier and automate payments within your core financial system.
