What Is Percentage Rent and How Is It Calculated?

Percentage rent is a commercial lease structure where a tenant pays a fixed base rent plus an additional amount calculated as a percentage of their gross sales. This arrangement aligns the landlord’s financial success with the tenant’s business performance, offering tenants a lower fixed rent during initial or slower periods while allowing landlords to share in prosperity.

Core Components of Percentage Rent

Percentage rent agreements include three primary elements. The base rent is the fixed, minimum amount the tenant pays each period, irrespective of their sales volume. This ensures the landlord receives consistent income for property operating costs and debt service.

A percentage rate is applied to sales exceeding a specified threshold. This rate, often a single-digit percentage, is negotiated in the lease and represents the portion of qualifying sales paid as additional rent.

The breakpoint is the sales volume where percentage rent calculation begins. A natural breakpoint is the annual base rent divided by the percentage rate (e.g., $50,000 base rent / 5% rate = $1,000,000 breakpoint). An artificial breakpoint is a mutually agreed-upon sales figure, which may differ from the natural breakpoint based on market conditions or negotiation.

Calculating Percentage Rent

Percentage rent is calculated by applying the agreed-upon percentage rate to sales exceeding the established breakpoint. The general formula is: (Gross Sales – Breakpoint) x Percentage Rate. This additional rent is typically paid monthly, quarterly, or annually, as specified in the lease.

For example, with an annual base rent of $60,000 and a 6% percentage rate, the natural breakpoint is $1,000,000 ($60,000 / 0.06). If the tenant achieves $1,200,000 in gross sales, percentage rent is calculated on the $200,000 above the breakpoint ($1,200,000 – $1,000,000). Applying the 6% rate, the additional percentage rent due is $12,000 ($200,000 x 0.06).

Alternatively, an artificial breakpoint might be set at $1,500,000 with the same 6% rate. If annual gross sales reach $1,800,000, sales exceeding the breakpoint are $300,000 ($1,800,000 – $1,500,000). Percentage rent due is then $18,000 ($300,000 x 0.06). If gross sales only reach $900,000 and the breakpoint is $1,000,000, no percentage rent is due as sales did not exceed the breakpoint.

Sales Definition and Reporting

The definition of “gross sales” is fundamental, as it dictates which revenue streams are subject to percentage calculation. Gross sales generally include all revenue from merchandise or services sold at the leased premises, such as cash, credit card, and layaway sales.

However, lease agreements commonly exclude certain items from gross sales. These exclusions often include:
Sales taxes
Returns and allowances
Inter-company transfers
Revenue from vending machines or certain non-core business services

The list of inclusions and exclusions is detailed in the lease to prevent disputes.

Tenants must submit regular sales reports to the landlord, often monthly or quarterly. These reports detail gross sales and deductions, allowing the landlord to verify percentage rent. Many leases require these reports to be certified by a company officer, affirming accuracy.

Landlords often retain the right to audit tenant sales records for lease compliance. Maintaining accurate sales records, including daily transaction logs, cash register tapes, and bank deposit slips, is paramount. Failure to provide accurate, timely reporting or verifiable records can result in penalties or lease default.

When Percentage Rent is Used

Percentage rent clauses are common in commercial leases for retail spaces, especially within shopping centers, malls, and other high-traffic developments. This structure benefits businesses that rely on customer foot traffic and the retail environment’s success. Examples include:
Clothing stores
Restaurants
Electronics retailers
Other consumer-facing businesses

This rent structure allows landlords to share in a successful tenant’s prosperity, creating a mutual incentive for the property to perform well. Higher sales mean more percentage rent for the landlord, who may then invest in common area improvements or marketing efforts benefiting all tenants.

For tenants, percentage rent offers a lower fixed base rent, reducing financial burden during slower periods or a new business’s initial ramp-up. As sales grow, rent adjusts proportionally, reflecting increased revenue. This flexibility benefits businesses with variable sales volumes.