About Base Rent in Leases

Tessa Author

Base Rent is the second half of the "commercial lease equation." Find out what you need to know to get started and never miss a payment.

What is Base Rent?

Base Rent is the lessee's payment to the lessor for the right to use the leased property. The lease agreement, a legally binding contract between the two parties, stipulates the payment terms.

The amount of base rent is either fixed or escalating during the lease term and usually paid in installments. Sometimes rent includes the cost of services to maintain and repair the property, but those services typically cost extra. 

Why does it matter?

Base rent payment is a period expense for the businesses that lease equipment and premises, yet it also impacts the balance sheet. The recently issued accounting regulations placed all material leases on the balance sheet. At the same time, Base Rent is the essential component for calculating the lease liability and the corresponding lease asset (before any adjustments). 

Also, a lessee is legally obligated to pay rent if they control the space or object. In other words, regardless of whether you are using the leased property or not, missed rent payments will lead to a default, in most cases. 

It's imperative to accurately capture the amount of the base rent payable over the term to properly account for the lease and timely pay the correct amount to the lessor or the landlord. 

Types of Base Rent or A little more about the amount

Base rent is a recurring expense, one that's paid repeatedly with a patterned frequency (i.e., monthly, quarterly, etc.). The amount could be stated or calculated if only the rate and the size or quantity are provided. Also, there's a concept of variable rent, where only the initial portion of the rent is considered Base Rent for accounting purposes. 

The details about Base Rent are abstracted into a rent schedule containing elements, such as the amount, frequency, and the effective period of that amount. Yet, not all rent should be abstracted. 

You should know about the three types of base rent tied to the payment timing: prepaid rent, base rent, and the holdover rant. 

Prepaid Rent

Prepaid rent is a rent payment issued to the lessor before the lease commencement, typically delivered at lease execution or shortly after that. 

The prefix 'pre-" indicates it is rent that's paid before something, in this case, the lease commencement. It isn't always abstracted, especially with older leases. Yet when abstracting new leases, you'll need to ensure that a duplicate payment isn't issued when that month's rent is due. 

Base (minimum) Rent

Base rent or minimum rent is the regular rent that a tenant pays and the landlord collects during the lease term. Sometimes it's referred to as the minimum base rent because additional charges for the operating expenses, taxes, and insurance may be due to the landlord. 

When Base Rent includes the cost of services, it's called a Gross rent amount. When the rental amount excludes the additional cost for maintenance, insurance, and taxes, it's referred to as the net rent amount. It's beneficial for the abstract reader to know if the amount is net or gross rent. 

Holdover Rent

Holdover rent is a type of penalty base rent that's payable to the landlord if the tenant stays at the premises after the lease term expired. Typically, the holdover rate is 150% to 200% value of the most recent rental rate. 

Holdover rent isn't abstracted into the rent schedule because it's conditional. However, it should be outlined as a clause with penalty percentages and included in the penalty rate. 

Who in the company is responsible for base rent?

On the lessor's, or the landlord's side, the account or property manager is responsible for timely deposit and application of the rental payments. As a lease analyst, you want to know (and make friends with) this person. 

On the lessee's side, the Lease Administrator typically abstracts the rents into a database and requests Accounts Payable to issue the payments. The function is split between Real Estate and Finance responsibilities; therefore, lease admin could belong to either department.

Treasury and accounting are also involved since leases are deeply ingrained into the financial statements for both lessors and lessees. 

How does it work?

Upon lease commencement, the lessee gets access to the leased property in exchange for the rental payment to the lessor. The process of rent payment for the lessee is typically called Rent Roll. For the lessor, Rent Roll is a report with all rents due from the tenants for a specified period. 

The lease contract is the ultimate invoice. Although, in some countries, you need an actual invoice to issue the payment to a vendor.

Once or twice per month, the Lease administrator requests a batch payment of rents from Accounts Payable. Accounts Payable, in turn, will typically need the lessor's information, the amount that needs to be paid, and the general ledger accounts to issue the rents. 

Then, the Properly Manager or accountant receives payment via check or other method and applies it to your account. If there are issues, the lessor's representative will usually call for guidance on applying the payment correctly, especially if additional charges are paid with base rent.

Challenges with Base Rent

Unfortunately, figuring out the correct amount of the base rent isn't always straightforward. The amount of base rent isn't always spelled out, so the error made in calculating initial rent could grow exponentially in value over the term of the lease.

One leading cause of errors in base rent calculations is the soft commencement date, where lease commencement is conditional and, usually, mid-month. 

Another place to look for errors is in escalations. I worked with a Lease Admin who showed me the importance of reviewing the variances in base rent during the rent roll by finding an error almost every month. (Granted, it was a 1,000+ location portfolio, so the percentages were still in our favor).

And, the thing about errors is that most are avoidable. All are fixable; you'll just have to pay the hefty price of duplicated effort (read: wasted time) to fix them. 

How to deal with challenges?

One of the best ways to address the challenges with Base Rent is by having a simple process with strong internal controls. It is an internal process, after all. 

The easiest thing you can do is investigate every change in base rent during the rent roll. The best way is to have a Variance Report that shows how much was paid last month compared to this month. 

Also, you'd want to confirm with Accounts Payable that none of the requested payments were held up by the system by asking for a payment reference number for every item on your list. In addition to confirming that all payments have been issued, it's a handy reference, especially if you don't have access to the Accounts Payable system to look things up. 

If any payments are missing, you can stay ahead of the problem and proactively work with the lessor to resolve the issue causing the exception. It will show the lessor you're on top of your game, and you'll avoid another "five-alarm fire" email from the local manager about a missed rent payment. Everybody wins with just the two simple strategies. 

Final Thoughts

Base Rent is an essential part of the lease equation and business operations. For many companies, it's a significant expense that must be correct for financial reporting and accurate payment. At the same time, for lessors, it's a primary source of revenue. Therefore, lessees make an effort to avoid overpaying, and the lessors aren't in the business of under collecting.

Managing base rent becomes much easier once you understand its function, the players responsible for it, and how it works. There will always be challenges, as with anything. Yet, I hope that the strategies I've shared above will save you weeks of time and effort in avoided errors.  

Categories: : Rent Roll