Base Year not as “Spooky” as it Seems

In my nearly twenty years of leasing, especially in office space, the Base Year expense stop has become more and more common in Full Service Gross leases. The reality is that a Full Service Gross lease should be just that – Full Service and inclusive of Operating Expenses with no expense stop and no pass through, however, it is not always the case. Therefore, they are truly what I call a Modified Gross lease form.

So, what does that mean? What is a Base Year Expense Stop? That is a question I have to answer and explain to clients nearly every time we negotiate a lease with a Base Year. Simply put, tenants will pay their share of increases in expenses to operate the building over and above the current year total expenses amount. Sounds scary right? It can be, but many times, it is a very minimal effect on tenants rent amount over the course of their term. To further explain and help understand, here is further detail on how a Base Year Expense Stop works:

Let’s pretend you are going to lease 2,000 square feet of office in a 20,000 square foot office building. The lease has a Base Year Expense Stop of 2024. The Estimated 2024 Operating Expenses are $200,000. Keep in mind this is estimated and until the year 2024 ends, they won’t know the actual, however, your Base Year amount will be based on Actual. But for simplicity, let’s pretend that the actual expenses end up being $200,000. This means that your lease rate will always include $200,000 of Expenses for the entire term of the lease. Let’s also pretend you sign a 5 year lease. Each year after 2024 of your lease term will now be compared to your Base Year Expense amount. So, 2025 rolls around and you get an “Expense Reconciliation” or “CAM Reconciliation” statement in the mail saying your rent has gone up. Here is why; They reconciled their books and now estimate 2025 expenses are higher than 2024. Using historical annual increase average of 5%, that means that they estimate 2025 expenses to now be $210,000. That is $10,000 higher!!! Well, let’s not forget, that is for the entire building. You are only in 10% of the building. This is where the “spooky” or scariness is diminished slightly. Landlords can only allocate your proportionate share of increases, thus 10% of the $10,000 increase, therefore, $1,000. In addition, they typically spread that out over the 12 month calendar year, so you may have to pay a few hundred dollars to make up for a few months (reconciliations are typically finished in March/April) and about a $75/month increase for the remainder of the year. 

Again, initially, it sounds daunting, but ultimately should be very minimal impact on your monthly rent. Of course, it is always case by case and occasionally there may be larger increases. For instance, in recent years, we have seen massive tax increases which is usually the biggest cause of increase together with big increases in insurance as well. The last 5 years have likely seen the highest annual increases because of these 2 factors. This should not and likely will not continue. In actuality, it is likely a good time in the next 12-24 months to sign a new lease with an updated base year as their is possibility we will see expenses drop slightly over the course of the next few years.

This annual reconciliation process continues through the remainder of your term, always comparing Annual expenses to the Base Year amount. So, what happens if and when it is less? That can be negotiable, but typically, the Landlord will hold as a credit for the remainder of the term to apply toward potential increases. If upon expiration, you still have a credit, this should be issued back to you. There are many tips that can be helpful when negotiating a lease with a base year and I would love the ability to assist you with your leasing needs. Don’t be afraid of the Base Year Expense Stop, just be sure you understand it and rely on your commercial real estate experts to help get you through it.