As a CRE investor or landlord, you’re constantly faced with decisions about lease terms. Should you opt for short-term leases to capitalize on higher turnover and flexible rental rates or commit to long-term leases for stable, predictable income? Your choice can have a profound impact on your commercial property’s profitability and long-term viability.
The current market
The trend toward short-term leases gained momentum in recent years especially as pop-ups — such as retail stores that open for a short period to take advantage of a passing fad or seasonal demand — flourished post-pandemic. Not wanting to be locked into long-term contracts, these businesses prefer short-term leases that allow them to adjust to changing market conditions and rising costs more easily and take advantage of new opportunities.
What are short-term CRE leases?
A short-term commercial property lease typically lasts a year or less. This arrangement suits companies that need temporary space to test market waters or accommodate growth.
Benefits of short-term leases for CRE investors and landlords
- Flexibility is the main appeal of short-term leases for both landlords and tenants. The shorter commitment allows you as a landlord to tweak lease terms, conditions, and rents more frequently to meet new market conditions or property strategies.
This flexibility is equally beneficial for tenants who may shy away from long-term commitments because of uncertainty or volatility in their sector. Short-term leases also empower businesses to respond agilely to growth or contraction. They can move on or renegotiate as their space needs change, without the burden of a long-term lease holding them back.
- Minimized risk (and commitment) is another major perk. As a landlord, you can test out tenants without long-term stakes. If a tenant doesn’t meet your expectations, you’re not stuck with them. For tenants, this means they can evaluate a location’s viability and customer base without the pressure of a prolonged commitment.
- Furthermore, tenants that attract visitors and create buzz with short-term leases can boost the general area’s vibrancy. Pop-up shops, interactive exhibits, and temporary events tend to draw crowds. This enhances foot traffic and energizes the neighborhood, which not only makes your property more appealing but also draws in a broader audience of potential renters and buyers.
Challenges of short-term leases for CRE investors and landlords
All that said, short-term leases are double-edged swords for landlords.
- The higher turnover rate with short-term leases can lead to unpredictable income streams. This variability makes it tough to forecast and plan financially and may potentially strain your operations.
- Higher tenant turnover costs is another concern. When you have to change tenants frequently, you also have to spend more on marketing, advertising, screening new tenants, as well as on preparing your CRE space for new occupants. These expenses can eat into your property’s profitability.
- With tenants able to move freely and frequently, you might find yourself with less leverage in lease negotiations. Tenants who know they have options might push harder for favorable terms.
What are long-term CRE leases?
Long-term leases in CRE extend beyond one year and require a commitment from both you and your tenants. The specific duration of a long-term lease varies based on market conditions, property type, and the agreements you forge with tenants.
This arrangement promises a stable and predictable tenancy, anchoring your financial planning and property management efforts. Because these leases are tailored to ensure long-term occupancy and financial stability, they’re a solid choice if you’re seeking sustained profitability and fewer managerial headaches.
Benefits of long-term leases for CRE investors and landlords
- Long-term leases attract stable businesses that intend to operate for a long time. They want to secure a CRE location for extended periods to minimize disruptions that come with frequent moves. This predictability simplifies property management and financial forecasting for you as a CRE landlord.
- While long-term leases may yield lower rental rates compared to short-term agreements, they provide your CRE property with financial stability. You can secure a steady income stream over a longer period and reduce the risks of vacancies. This arrangement also reduces the administrative and marketing costs of finding new tenants.
- Long-term contracts lessen the time and resources you have to spend on lease management. With your tenants committed for longer periods, you can focus more on property enhancements and portfolio expansion rather than tenant turnover and negotiations.
- Having long-term tenants can contribute to maintaining and potentially increasing the value of your property. When your CRE is consistently occupied by reputable tenants, it becomes more attractive to potential buyers or investors. It also becomes less risky in the eyes of lenders because it has a proven income-generating record.
Challenges of long-term leases for CRE investors and landlords
Long-term leases are not without challenges despite the stability they offer.
- One major drawback is reduced flexibility for both landlords and tenants who may find themselves unable to adapt to market changes promptly. A long-term agreement can be limiting if rental rates rise or business needs shift.
- There are also economic risks to consider. Fluctuations in the market can make long-term commitments risky. The terms of a long-term lease may become less competitive compared to current market rates and potentially affect your CRE property’s profitability.
- With long-term leases, any changes in leasing regulations or industry standards can be difficult to implement retroactively without renegotiating the entire agreement. This can leave you stuck with outdated terms that may not fully align with new legal requirements or best practices — all of which may create compliance issues or reduce your operational efficiency.
What should you choose?
The right answer really depends on your business goals and financial situation as a CRE investor, as well as the market conditions in the locations where you own properties.
A short-term lease offers flexibility and lower commitment. It can be a practical solution for keeping properties occupied and profitable instead of sitting empty. For example, you might use short-term leases to host seasonal businesses or pop-up events that attract high foot traffic and enhance the visibility and desirability of your CRE property, which can lead to longer-term leases at higher rates in the future.
Short-term CRE leases are also often the smarter and more flexible choice in regions with high demand for space and tough eviction laws (where it’s challenging to replace tenants quickly under long-term leases). They allow for quick tenant turnover, so you can capitalize on peak market rents more frequently. You can reposition your property right away if the market conditions change or if the tenant is not meeting expectations.
On the other hand, long-term leases guarantee you stable and predictable income because it secures continuous occupancy. This consistency slashes the costs linked to tenant turnover and vacancies.
However, this advantage comes with a trade-off: reduced flexibility. You might find it challenging to update rental rates or renegotiate lease terms as the market evolves.
Carefully consider the benefits and drawbacks of short-term and long-term leases to optimize your investment portfolio. The key is to align your CRE lease strategy with your long-term goals to maximize your returns and minimize risk.
How a CRE financing partner can help you make strategic leasing decisions
When you’re deciding between short-term and long-term leases for your CRE asset, the stakes are high — not just for your property’s profitability but for its operational viability as well. It’s always good to have a reliable CRE financing partner by your side. They don’t just bring funds to the table — they can also deliver tailored strategic insights to help you achieve your leasing goals.
Strategic financial insight
Your CRE financing partner can help you dig deep into market trends and financial strategies to provide you with the critical analysis you need to make leasing decisions. For example, if you’re evaluating the pros and cons of short-term leases, your financing partner can look at your property’s location dynamics and demographic trends and help you predict future rental demand fluctuations. Armed with this comprehensive analysis, you can then select the lease type that best enhances your financial performance.
Long-term planning support
Long-term leases lock you in, for better or worse, and demand a significant commitment. Your financing partner can step in during times when you need funding to protect your CRE property against market downturns and stabilize your cash flow, cushioning you against economic fluctuations.
Risk mitigation
Both short and long-term CRE leases come with financial risks. A savvy CRE financing partner can spot these risks early and suggest proactive strategies, such as setting aside reserves for quick tenant turnovers or locking in interest rates to prevent cost hikes. They can help position your CRE portfolio ahead of the curve.
Flexible financing solutions
Your financing partner can tailor their solutions to suit the specific nature of your lease agreement. Do you need quick and flexible financing to manage a high-turnover, short-term lease? They can deliver. Are you looking for stable long-term financing that matches the extended duration of the leases on your CRE property? They can handle that, too, so you can rest easy knowing that you always have the right financial support.
As your CRE financing partner, our team of commercial real estate hard money lenders here at Private Capital Investors can provide strategic advice on market trends, financial planning, and risk management, including lease agreements, to help you make decisions that serve your broader investment strategies. Tell us about your project and your CRE loan requirements today.
