What is a Ground Lease?

Do you own land, possibly with worn out residential or commercial property on it? One method to extract value from the land is to sign a ground lease. This will enable you to make income and perhaps capital gains. In this post, we'll check out,

- What is a Ground Lease?

How to Structure Them
Examples of Ground Leases
Advantages and disadvantages
Commercial Lease Calculator
How Assets America Can Help
Frequently Asked Questions
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What is a Ground Lease?

In a ground lease (GL), a tenant establishes a piece of land during the lease period. Once the lease expires, the occupant turns over the residential or commercial property improvements to the owner, unless there is an exception.

Importantly, the occupant is accountable for paying all residential or taxes during the lease duration. The inherited enhancements enable the owner to offer the residential or commercial property for more cash, if so wanted.

Common Features

Typically, a ground lease lasts from 35 to 99 years. Normally, the lessee takes a lease on some raw or ready land and constructs a structure on it. Sometimes, the land has a structure currently on it that the lessee should demolish.

The GL specifies who owns the land and the enhancements, i.e., residential or commercial property that the lessee constructs. Typically, the lessee controls and depreciates the enhancements throughout the lease duration. That control goes back to the owner/lessor upon the expiration of the lease.

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Ground Lease Subordination

One important aspect of a ground lease is how the lessee will finance improvements to the land. An essential plan is whether the property manager will agree to subordinate his top priority 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 ends up being collateral for the loan provider if the lessee defaults. In return, the property manager asks for greater rent on the residential or commercial property.

Alternatively, an unsubordinated ground lease keeps the landlord's leading concern claims if the leaseholder defaults on his payments. However this may prevent loan providers, who would not be able to occupy in case of default. Accordingly, the property owner will usually charge lower rent on unsubordinated ground leases.

How to Structure a Ground Lease

A ground lease is more complex than regular business leases. Here are some parts that enter into structuring a ground lease:

1. Term

The lease needs to be adequately long to permit the lessee to amortize the cost of the improvements it makes. In other words, the lessee should make adequate earnings throughout the lease to pay for the lease and the improvements. Furthermore, the lessee should make an affordable return on its financial investment after paying all expenses.

The most significant driver of the lease term is the financing that the lessee arranges. Normally, the lessee will desire a term that is 5 to 10 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, quick food ground rents with shorter amortization durations may have a 20-year lease term.

2. Rights and Responsibilities

Beyond the plans for paying lease, a ground lease has a number of unique features.

For example, when the lease ends, what will take place to the improvements? The lease will specify whether they go back to the lessor or the lessee must eliminate them.

Another feature is for the lessor to help the lessee in obtaining needed licenses, licenses and zoning differences.

3. Financeability

The lender needs to draw on safeguard its loan if the lessee defaults. This is hard in an unsubordinated ground lease because the lessor has first concern in the case of default. The lending institution only deserves to declare the leasehold.

However, one solution is a stipulation that needs the successor lessee to utilize the lender to fund the brand-new GL. The topic of financeability is complex and your legal professionals will need to wade through the numerous intricacies.

Remember that Assets America can help fund the construction or restoration of industrial residential or commercial property through our network of private investors and banks.

4. Title Insurance

The lessee needs to set up title insurance coverage for its leasehold. This needs special recommendations to the routine owner's policy.

5. Use Provision

Lenders want the broadest usage provision in the lease. Basically, the provision would enable any legal function for the residential or commercial property. In this way, the loan provider can more quickly offer the leasehold in case of default.

The lessor may deserve to approval in any new purpose for the residential or commercial property. However, the lender will seek to limit this right. If the lessor feels strongly about forbiding certain uses for the residential or commercial property, it needs to specify them in the lease.

6. Casualty and Condemnation

The lending institution manages insurance earnings originating from casualty and condemnation. However, this might contrast with the basic phrasing of a ground lease, which offers some control to the lessor.

Unsurprisingly, loan providers desire the insurance proceeds to approach the loan, not residential or commercial property restoration. Lenders likewise need that neither lessors nor lessees can terminate ground leases due to a casualty without their authorization.

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 occasions.

7. Leasehold Mortgages

These are mortgages funding the lessee's enhancements to the ground lease residential or commercial property. Typically, lending institutions balk at lessor's preserving an unsubordinated position with regard to default.

If there is a preexisting mortgage, the mortgagee must accept an SNDA contract. Usually, the GL lender wants very first priority relating to subtenant defaults.

Moreover, lenders require that the ground lease remains in force if the lessee defaults. If the lessor sends a notice of default to the lessee, the loan provider must receive a copy.

Lessees want the right to acquire a leasehold mortgage without the loan provider's permission. Lenders desire the GL to serve as security ought to the lessee default.

Upon foreclosure of the residential or commercial property, the lender gets the lessee's leasehold interest in the residential or commercial property. Lessors might desire to restrict the type of entity that can hold a leasehold mortgage.

8. Rent Escalation

Lessors want the right to increase leas after specified periods so that it preserves market-level rents. A "ratchet" boost provides the lessee no security in the face of an economic decline.

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 eco-friendly option to standard construction. The very first shop opened in Seattle, followed by Kansas City, Denver, Chicago, and one in Portland, OR.

It was a rather uncommon ground lease, because it was a 10-year triple-net ground lease with 4 5-year choices to extend.

This gives the GL a maximum term of 30 years. The rent escalation clause attended to a 10% lease increase every 5 years. The lease value was just under $1 million with a cap rate of 5.21%.

The preliminary 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 benefits and drawbacks.

The benefits of a ground lease include:

Affordability: Ground leases enable occupants to build on residential or commercial property that they can't manage to buy. Large chain shops like Starbucks and Whole Foods use ground leases to broaden their empires. This permits them to grow without saddling the companies with too much debt. No Deposit: Lessees do not need to put any money to take a lease. This stands in plain contrast to residential or commercial property buying, which might need as much as 40% down. The lessee gets to conserve cash it can deploy elsewhere. It also improves its return on the leasehold investment. Income: The lessor gets a consistent stream of income while retaining ownership of the land. The lessor keeps the worth of the earnings through using an escalation stipulation in the lease. This entitles the lessor to increase rents periodically. Failure to pay lease provides the lessor the right to kick out the occupant.

The downsides of a ground lease consist of:

Foreclosure: In a subordinated ground lease, the owner risks of losing its residential or commercial property if the lessee defaults. Taxes: Had the owner simply sold the land, it would have gotten approved for capital gains treatment. Instead, it will pay ordinary business rates on its lease earnings. Control: Without the needed lease language, the owner might lose control over the land's advancement and usage. Borrowing: Typically, ground leases restrict the lessor from obtaining against its equity in the land throughout the ground lease term.

Ground Lease Calculator

This is a great industrial lease calculator. You get in the location, rental rate, and representative's cost. It does the rest.

How Assets America Can Help

Assets America ® will arrange funding for business projects beginning at $20 million, with no upper limitation. We invite you to contact us for more details about our total monetary services.

We can assist finance the purchase, building, or remodelling of commercial residential or commercial property through our network of private investors and banks. For the very best in commercial realty financing, Assets America ® is the smart choice.

- 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 likewise include absolute leases, percentage leases, and the topic of this short article, ground leases. All of these leases supply benefits and disadvantages to the lessor and lessee.

- Who pays residential or commercial property taxes on a ground lease?

Typically, ground leases are triple internet. That means that the lessee pays the residential or commercial property taxes throughout the lease term. Once the lease ends, the lessor ends up being responsible for paying the residential or commercial property taxes.

- What takes place at the end of a ground lease?

The land always reverts to the lessor. Beyond that, there are two possibilities for the end of a ground lease. The first is that the lessor seizes all improvements that the lessee made throughout the lease. The 2nd is that the lessee should destroy the improvements it made.
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- The length of time do ground leases typically last?

Typically, a ground lease term encompasses at lease 5 to ten years beyond the leasehold mortgage. For instance, if the lessee takes a 30-year mortgage on its improvements, the lease term will run for a minimum of 35 to 40 years. Some ground leases extend as far as 99 years.