Base Year Stop
Upon lease commencement, the building owner will agree to pay the tenant’s first year expenses (a.k.a. base year expenses) and will continue to pay the same amount in each of the subsequent years while the tenant will pay any additional costs above the amount realized in the base year. So, in a base year stop scenario, the building owner’s costs for op ex is capped to the amount that he or she had to pay in year 1. So, if year 1 expenses were $1k, and year 2 expenses were $1.5k, then the landlord would still pay $1k in year 2 and the tenants would pay $500 difference.
Putting ‘Base Year Stop’ in Context
Scenario Overview
Blue River Development Group, a real estate developer specializing in value-add redevelopment projects, recently acquired Cedar Square Shopping Center, a 125,000 square foot neighborhood shopping center located in Nashville, Tennessee. The center includes a mix of retail tenants, ranging from small local businesses to national chains.
Property and Lease Details
Upon acquisition, Blue River Development Group initiated a comprehensive redevelopment plan to modernize the center, including significant upgrades to the common areas, parking facilities, and landscaping. As part of their leasing strategy, the company decided to implement a Base Year Stop for operating expenses in new tenant leases to manage long-term costs effectively.
Base Year Stop Implementation
In the context of Cedar Square Shopping Center, Blue River Development Group structured the leases to include a Base Year Stop provision. Here’s how it works:
- Lease Commencement: A new tenant, Café Delight, signs a 5-year lease commencing on January 1, 2023. The lease specifies that the base year for operating expenses is 2023.
- Base Year Expenses: During the base year (2023), the total operating expenses for Cedar Square Shopping Center amounted to $500,000. This includes costs such as maintenance, property management fees, security, insurance, and property taxes.
- Subsequent Years: For each subsequent year, Blue River Development Group agrees to cover up to the $500,000 base year amount. Any increase in operating expenses beyond this amount is the responsibility of the tenants, proportionate to their leased space.
Example Calculation
In 2024, the operating expenses for Cedar Square Shopping Center increase to $550,000. Here’s how the costs are distributed:
- Base Year Expenses: $500,000 (covered by Blue River Development Group)
- Incremental Expenses: $50,000 (shared among tenants)
Café Delight occupies 2,500 square feet, which is 2% of the total leasable area. Therefore, their share of the incremental expenses is calculated as follows:
Incremental Expenses Share = $50,000 × 0.02 = $1,000
Café Delight would be responsible for an additional $1,000 in operating expenses for 2024, on top of their base rent.
Benefits of Base Year Stop
For Blue River Development Group, the Base Year Stop provision helps:
- Stabilize Operating Costs: Limits the amount they pay towards operating expenses to the base year amount, providing predictability in cash flow management.
- Tenant Attraction: Offers tenants the assurance that their operating expenses will only increase relative to the actual rise in costs, encouraging long-term leases.
Hypothetical Outcome
By including the Base Year Stop provision, Blue River Development Group effectively manages operational risk while offering a transparent cost structure to its tenants. Over the lease term, both the landlord and tenants benefit from this arrangement, promoting a stable and financially predictable environment at Cedar Square Shopping Center.
Frequently Asked Questions about Base Year Stop
What is a Base Year Stop?
A Base Year Stop is a lease provision where the landlord agrees to cover operating expenses up to the amount incurred in the first year of the lease (the base year). Tenants pay any amount exceeding that base year expense in future years.
How are tenant expenses calculated in a Base Year Stop lease?
Tenants pay their proportionate share of any increase in operating expenses above the base year amount. For example, if a tenant occupies 2% of the property and expenses rise $50,000 above the base year, they would owe $1,000.
Why do landlords use Base Year Stop provisions?
Landlords use Base Year Stop provisions to stabilize and cap their share of operating expenses, making cash flow more predictable while passing future cost increases to tenants.
What are the benefits of a Base Year Stop for tenants?
Tenants benefit from transparency in cost-sharing and only pay for actual increases in expenses beyond the base year, giving them some protection from unpredictable increases.
How was the Base Year Stop applied at Cedar Square Shopping Center?
Blue River Development Group set 2023 as the base year with $500,000 in operating expenses. In 2024, when expenses rose to $550,000, tenants like Café Delight paid their proportional share of the $50,000 increase based on their leased square footage.
What happens if operating expenses decrease after the base year?
If expenses fall below the base year amount, the landlord absorbs the difference. Tenants only pay for expenses that exceed the base year threshold.
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