The choice of the type of lease for commercial space leased by a retail business is usually a percentage lease, meaning that the rental amount is determined as a percentage of the gross receipts of the business. The investor-landlord, in effect, takes a stake in the success of the tenant’s business and shares its ups and downs. Whether it is a hardware store, a furniture store, an ice cream and confections store, a supermarket, or a variety store, the percentage rental will depend on the turnover of merchandise, the margin of profit, and the cost of operating the business.
The method of calculating the amount of the percentage rent must be simple and as foolproof as possible. This will reduce the chance for arguments and disputes. Accordingly, rather than using net profit (a term replete with potential for disagreement) as the yardstick, the figure used is gross sales, gross receipts, or gross revenue. The term “gross sales” should be clearly defined as, for example; all sales made at or from the leases premises, whether for cash or credit, whether by the tenants or subtenants, minus refunds for returned merchandise and minus sales taxes. The tenant usually must calculate the gross sales figure and the landlord is allowed the right to examine the books and records which pertain to the gross sales figure.
The Seasonal Business
The percentage rental payable by a seasonal business or by a business with known slack months will fluctuate widely and shock an unsuspecting landlord. Example: Under a percentage lease, a tenant paid an investor-landlord about $2000 a month from January through May. Then the payment for June was only $200 and for July was only $100. The landlord found out–the hard way–that the tenant’s business regularly dropped off as soon as the nearby high school was out and the business would remain low until school again opened in September.
The landlord is well advised to set both a minimum monthly amount of rent and a percentage rental. With any tenant, whose business is seasonal or not, the risk is too great unless there is both a minimum and a percentage rental for the property. There are a number of ways that the rental arrangements can be set to provide both a minimum and a percentage rental:
• A minimum rental plus a fixed percentage (1%) of all the tenant’s gross sales each month.
• A minimum rent plus a percentage (1%) of the tenant’s gross sales which exceed a fixed number each month (say $50,000).
• A percentage (1%) of gross sales per month but in no month less than a specified minimum rental.
• A percentage (4%) of the first $40,000 of gross sales, then a percentage step-down (of 1%) on each of the next $10,000 of gross sales until the level of gross sales produces a minimum percentage of (1%), which percentage will apply to all subsequent sales in that month.
• When the tenant has a particularly strong bargaining position, the lease may call for a minimum rent plus a percentage rent (1%) on all gross sales, with a ceiling on the maximum monthly rental.