Operating Expense Pass Throughs: Phoenix CRE Lease Guide
If you are looking at industrial or office space in the Phoenix Valley, you have probably noticed that the advertised rent rarely tells the whole story. A building asking $9.50 per square foot and another asking $11.00 can actually cost you the exact same amount out of pocket. The difference comes down to how the landlord handles operating expense pass throughs and other expenses.
To avoid costly surprises, you need to understand how pass-throughs work, how your share is calculated, and what terms to negotiate before signing. This guide was prepared by Arizona CRE broker Sam Rowe to help you learn more so that you can make an educated decision.
Gross, Modified Gross, or Triple Net
The lease you agree to determines exactly how building costs get passed on to you, but the terminology can get confusing very quickly.
Here is a look at how the three main lease setups actually work for Phoenix industrial and office properties.
How Operating Expense Pass Throughs Get Structured
Gross lease. The tenant pays one flat rental rate, full stop. The landlord covers essentially everything, most if not all operating expenses, which makes budgeting simple for the tenant but leaves the landlord exposed to rising costs.
Modified gross leases (common in industrial space). You will find this type of agreement more frequently if you are looking at warehouse spaces. Under a modified gross lease, you pay your base rent plus the services your business actually consumes, like your own utilities and janitorial work. The landlord handles the property taxes, building insurance, common area maintenance, and structural repairs. It is a very practical split. You keep control over the costs you can directly manage, like your power bill, while the landlord takes the risk on the big, unpredictable expenses.
Triple net (NNN) lease. This is the undisputed standard for industrial spaces. If you are looking at properties near the new tech corridor, this is almost certainly the structure you will see. In a NNN lease, you pay your base rent plus your share of property taxes, insurance, and maintenance for shared things like the parking lot, landscaping, and exterior lights. The trade-off is simple. The base rent looks lower on paper, but you take on all the financial risk if operating costs spike. This becomes a massive deal if the county reassesses the property taxes or if insurance premiums suddenly shoot up during your term.
According to NAIOP’s commercial real estate terms and definitions, a triple net lease requires the tenant to pay taxes, maintenance, and property insurance and all costs associated with their occupancy, while the landlord typically remains responsible for the roof, HVAC, structure, and sometimes the parking lot.
Choosing between these structures is a question of whether ownership or occupancy makes more sense for your business, which is a decision worth working through before you’re deep into lease negotiations.
Calculating Expense Shares: What to Watch
Once your lease structure is set, you need to know how the building’s expenses are divided up. Landlords generally divide your square footage by the building’s total size. For example, 10,000 square feet in a 100,000-square-foot warehouse equals a 10 percent share. If commercial property taxes, insurance, and maintenance cost $500,000, you will owe $50,000 on top of base rent.
With those calculations in mind, here are potential costs you need to watch for before finalizing the terms of any Arizona lease.
Check the breakdown of shared expenses. Not every cost a landlord incurs belongs on your tab. Major building renovations, structural repairs, and leasing commissions should be completely excluded from your costs. But you cannot just assume they are. You have to confirm exactly what is excluded before you sign. Waiting until that first end-of-year bill arrives is way too late.
Caps on annual increases. Many leases include a cap, say 3% to 5% per year, limiting how much certain expense categories (typically controllable common area maintenance (CAM), not taxes or insurance) can rise year over year. This protects tenants from getting blindsided by a landlord’s sudden facilities overhaul getting passed straight through.
Audit rights. Never sign a lease without strong audit rights. You need the ability to review the actual invoices behind your landlord’s yearly expense report so you never have to take their word for it. This protects you from surprise charges as landlords frequently lump very different costs together, especially when it comes to maintenance. Without the right to check the receipts, you might not realize that your basic maintenance fee is actually paying for major HVAC work, overnight security, or landscaping.
To get a more accurate picture of your future bills before you sign, you have to look at what is driving how the property itself is valued and any underlying costs. For industrial tenants in this specific area, utility capacity needs your full attention. The operations built around these massive semiconductor plants pull a tremendous amount of power, and that heavy usage will directly impact what you end up paying.
The Hidden Costs of Leasing in the Fab-to-Package Corridor
The growth around TSMC and Amkor is driving up demand for industrial space across Deer Valley. It is also causing landlords to rethink how they pass building costs on to tenants completely.
If you are a logistics company or contractor looking for space, you have to look closely at the operating expenses. Understanding these passed-on costs is not just a formality. It is the key to protecting your budget over the next decade, because the financial gap between a properly negotiated lease and a bad one is massive.
Working with an expert like Sam Rowe makes all the difference. Sam knows the Phoenix industrial market inside and out. He understands how expense caps and audit rights actually function years into a lease.
Here are answers to a few of the questions that come up most often once tenants start comparing lease terms in this submarket.
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FAQs About Operating Expense Pass Throughs
How does a base year impact my operating expenses? A base year sets a benchmark for the building’s costs, typically during your first year in the space. With a base-year lease, you do not pay a share of the total operating expenses. Instead, you only pay for the cost hikes that happen after that initial year. This structure is heavily favored in office leasing rather than industrial spaces. However, it is always worth verifying how your lease is structured because a base year setup will cost you something entirely different over time than a standard pass-through model.
How are operating expense estimates handled at the end of the year? Typically, landlords bill you monthly based on a projected budget and then do a final accounting early the following year. If the actual costs exceed their estimates, you get a bill for the difference. If they spent less than projected, you are owed a credit. Because this annual statement is your only real look at the building’s finances, securing the right to audit those numbers before you sign your lease is an absolute must.
Who pays for major repairs, like a roof replacement or HVAC system failure, in a triple net lease? Responsibility for costs is one of the most common sources of landlord-tenant disputes. Who pays depends on how the lease defines “common area maintenance” versus capital expenditures. In most well-drafted NNN leases, the landlord retains responsibility for the roof and structural systems, while the tenant covers day-to-day maintenance and smaller repairs within their space.
Large capital replacements, such as a full roof or a major HVAC system failure, are often the landlord’s responsibility outright or amortized and passed through to the tenant over the useful life of the equipment rather than billed as a single lump sum. Because this varies so much lease to lease, it’s worth getting explicit language on capital expense treatment before signing rather than assuming.
These are the questions that surface most often once a lease is on the table, but every building along the corridor prices and structures its expenses a little differently, and rate sheets rarely tell the full story.
Call to Get a Clear Idea of What a Lease Would Cost
Sam Rowe works directly with commercial tenants and buyers across the Deer Valley, Peoria, and North Phoenix corridors. He analyzes lease language line-by-line to identify missing caps, verify audit rights, and reveal what a property will actually cost over the full lease term.
Call (480) 933-0004 today to discuss your space requirements, review a lease you’re already considering, or get a read on what’s currently available.