What is a Ground Lease?
Do you own land, possibly with shabby residential or commercial property on it? One way to extract worth from the land is to sign a ground lease. This will allow you to earn income and potentially capital gains. In this post, we'll explore,
- What is a Ground Lease?
- How to Structure Them
- Examples of Ground Leases
- Benefits and drawbacks
- Commercial Lease Calculator
- How Assets America Can Help
- Frequently Asked Questions
What is a Ground Lease?
In a ground lease (GL), a tenant establishes a piece of land throughout the lease duration. Once the lease expires, the occupant turns over the residential or commercial property enhancements to the owner, unless there is an exception.
Importantly, the occupant is accountable for paying all residential or commercial property taxes throughout the lease period. The inherited enhancements enable the owner to offer the residential or commercial property for more money, if so desired.
Common Features
Typically, a ground lease lasts from 35 to 99 years. Normally, the lessee takes a lease on some raw or prepared land and constructs a building on it. Sometimes, the land has a structure already on it that the lessee must demolish.
The GL specifies who owns the land and the improvements, i.e., residential or commercial property that the lessee constructs. Typically, the lessee controls and diminishes the improvements throughout the lease duration. That control reverts to the owner/lessor upon the expiration of the lease.
Get Financing
Ground Lease Subordination
One essential element of a ground lease is how the lessee will fund enhancements to the land. A key arrangement is whether the property owner will concur to subordinate his concern on claims if the lessee defaults on its financial obligation.
That's exactly what takes place in a subordinated ground lease. Thus, the residential or commercial property deed becomes security for the lending institution if the lessee defaults. In return, the landlord asks for higher rent on the residential or commercial property.
Alternatively, an unsubordinated ground lease keeps the landlord's leading priority claims if the leaseholder defaults on his payments. However this may dissuade loan providers, who would not be able to occupy in case of default. Accordingly, the property manager will usually charge lower rent on unsubordinated ground leases.
How to Structure a Ground Lease
A ground lease is more complex than regular commercial leases. Here are some parts that go into structuring a ground lease:
1. Term
The lease must be adequately long to permit the lessee to amortize the cost of the improvements it makes. To put it simply, the lessee must make sufficient revenues throughout the lease to spend for the lease and the improvements. Furthermore, the lessee should make a sensible return on its investment after paying all expenses.
The biggest chauffeur of the lease term is the financing that the lessee sets up. Normally, the lessee will want a term that is 5 to ten years longer than the loan amortization schedule.
On a 30-year mortgage, that suggests a lease term of a minimum of 35 to 40 years. However, fast food ground rents with much shorter amortization durations may have a 20-year lease term.
2. Rights and Responsibilities
Beyond the plans for paying lease, a ground lease has several distinct features.
For instance, when the lease ends, what will occur to the improvements? The lease will define whether they revert to the lessor or the lessee should remove them.
Another function is for the lessor to assist the lessee in acquiring essential licenses, licenses and zoning variations.
3. Financeability
The loan provider should draw on protect its loan if the lessee defaults. This is tough in an unsubordinated ground lease due to the fact that the lessor has in the case of default. The lender only has the right to declare the leasehold.
However, one solution is a stipulation that requires the follower lessee to use the loan provider to fund the new GL. The topic of financeability is complex and your legal professionals will require to learn the various intricacies.
Bear in mind that Assets America can assist finance the construction or renovation of industrial residential or commercial property through our network of personal investors and banks.
4. Title Insurance
The lessee needs to organize title insurance for its leasehold. This requires unique recommendations to the routine owner's policy.
5. Use Provision
Lenders want the broadest use arrangement in the lease. Basically, the arrangement would permit any legal purpose for the residential or commercial property. In this way, the lending institution can more easily sell the leasehold in case of default.
The lessor may deserve to authorization in any new function for the residential or commercial property. However, the lender will look for to restrict this right. If the lessor feels highly about restricting particular uses for the residential or commercial property, it needs to define them in the lease.
6. Casualty and Condemnation
The lending institution manages insurance earnings stemming from casualty and condemnation. However, this might clash with the basic phrasing of a ground lease, which gives some control to the lessor.
Unsurprisingly, lending institutions want the insurance coverage proceeds to approach the loan, not residential or commercial property restoration. Lenders likewise need that neither lessors nor lessees can end ground leases due to a casualty without their approval.
Regarding condemnation, loan providers insist upon taking part in the procedures. The lender's requirements for using the condemnation earnings and controlling termination rights mirror those for casualty events.
7. Leasehold Mortgages
These are mortgages funding the lessee's improvements to the ground lease residential or commercial property. Typically, lenders balk at lessor's preserving an unsubordinated position with respect to default.
If there is a preexisting mortgage, the mortgagee needs to concur to an SNDA arrangement. Usually, the GL loan provider desires first priority concerning subtenant defaults.
Moreover, lending institutions require that the ground lease remains in force if the lessee defaults. If the lessor sends a notification of default to the lessee, the loan provider must receive a copy.
Lessees desire the right to obtain a leasehold mortgage without the loan provider's permission. Lenders want the GL to function as collateral needs to the lessee default.
Upon foreclosure of the residential or commercial property, the loan provider gets the lessee's leasehold interest in the residential or commercial property. Lessors may want to restrict the type of entity that can hold a leasehold mortgage.
8. Rent Escalation
Lessors want the right to increase rents after defined durations so that it preserves market-level rents. A "cog" increase uses the lessee no protection in the face of a financial slump.
Ground Lease Example
As an example of a ground lease, consider one signed for a Starbucks drive-through shipping container shop in Portland.
Starbucks' concept is to offer decommissioned shipping containers as an environmentally friendly alternative to conventional building and construction. The first store opened in Seattle, followed by Kansas City, Denver, Chicago, and one in Portland, OR.
It was a rather uncommon ground lease, in that it was a 10-year triple-net ground lease with 4 5-year options to extend.
This offers the GL an optimal regard to 30 years. The rent escalation clause attended to a 10% lease increase every 5 years. The lease worth was simply under $1 million with a cap rate of 5.21%.
The initial lease terms, on an annual basis, were:
- 09/01/2014 - 08/31/2019 @ $52,000. - 09/01/2019 - 08/31/2024 @ $57,200.
- 09/01/2024 - 08/31/2029 @ $62,920.
- 09/01/2029 - 08/31/2034 @ $69,212.
- 09/01/2034 - 08/31/2039 @ $76,133.
- 09/01/2039 - 08/31/2044 @ $83,747
Ground Lease Pros & Cons
Ground leases have their advantages and disadvantages.
The advantages of a ground lease consist of:
toki.gov.tr
Affordability: Ground leases allow occupants to construct on residential or commercial property that they can't afford to purchase. Large chain stores like Starbucks and Whole Foods utilize ground leases to broaden their empires. This allows them to grow without saddling the business with too much financial obligation. No Deposit: Lessees do not need to put any money to take a lease. This stands in stark contrast to residential or commercial property getting, which might need as much as 40% down. The lessee gets to save money it can release somewhere else. It also enhances its return on the leasehold investment. Income: The lessor gets a consistent stream of earnings while keeping ownership of the land. The lessor keeps the value of the earnings through making use of an escalation stipulation in the lease. This entitles the lessor to increase leas occasionally. Failure to pay rent provides the lessor the right to force out the tenant.
The downsides of a ground lease consist of:
Foreclosure: In a subordinated ground lease, the owner runs the danger of losing its residential or commercial property if the lessee defaults. Taxes: Had the owner simply offered the land, it would have received capital gains treatment. Instead, it will pay normal business rates on its lease earnings. Control: Without the necessary lease language, the owner might lose control over the land's development and use. Borrowing: Typically, ground leases forbid the lessor from obtaining versus its equity in the land throughout the ground lease term.
Ground Lease Calculator
This is a great commercial lease calculator. You get in the area, rental rate, and agent's cost. It does the rest.
How Assets America Can Help
Assets America® will arrange financing for industrial projects starting at $20 million, without any upper limit. We welcome you to call us to learn more about our total monetary services.
We can help fund the purchase, building and construction, or remodelling of business residential or commercial property through our network of private financiers and banks. For the finest in business genuine estate financing, Assets America® is the clever option.
- What are the different kinds of leases?
They are gross leases, customized gross leases, single net leases, double net leases and triple net leases. The also consist of outright leases, percentage leases, and the topic of this post, ground leases. All of these leases offer advantages and disadvantages to the lessor and lessee.
- Who pays residential or commercial property taxes on a ground lease?
Typically, ground leases are triple net. That suggests that the lessee pays the residential or commercial property taxes throughout the lease term. Once the lease expires, the lessor ends up being responsible for paying the residential or commercial property taxes.
- What occurs at the end of a ground lease?
The land always goes back to the lessor. Beyond that, there are 2 possibilities for completion of a ground lease. The first is that the lessor acquires all improvements that the lessee made throughout the lease. The 2nd is that the lessee needs to demolish the enhancements it made.
- For how long do ground leases typically last?
Typically, a ground lease term reaches at lease 5 to 10 years beyond the leasehold mortgage. For example, if the lessee takes a 30-year mortgage on its improvements, the lease term will run for at least 35 to 40 years. Some ground rents extend as far as 99 years.