Do you own land, maybe with shabby residential or commercial property on it? One way to extract value from the land is to sign a ground lease. This will allow you to earn income and potentially capital gains. In this short article, we'll check out,

- 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 ends, the occupant turns over the residential or commercial property enhancements to the owner, unless there is an exception.

Importantly, the renter is accountable for paying all residential or commercial property taxes throughout the lease duration. The acquired enhancements permit 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 prepared land and constructs a building on it. Sometimes, the land has a structure currently on it that the lessee must 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 diminishes the enhancements during the lease duration. That control reverts to the owner/lessor upon the expiration of the lease.

Obtain Financing

Ground Lease Subordination

One crucial element of a ground lease is how the lessee will finance improvements to the land. An essential plan is whether the landlord will concur to subordinate his priority on claims if the lessee defaults on its debt.

That's precisely what happens in a subordinated ground lease. Thus, the residential or commercial property deed becomes security for the lender if the lessee defaults. In return, the landlord asks for greater lease on the residential or commercial property.

Alternatively, an unsubordinated ground lease maintains the landlord's top priority claims if the leaseholder defaults on his payments. However this might dissuade loan providers, who wouldn't have the ability to take belongings in case of default. Accordingly, the property owner will typically charge lower lease on unsubordinated ground leases.

How to Structure a Ground Lease

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

1. Term

The lease needs to be sufficiently long to allow the lessee to amortize the cost of the enhancements it makes. Simply put, the lessee needs to make sufficient earnings throughout the lease to pay for the lease and the enhancements. Furthermore, the lessee should make a sensible return on its financial investment after paying all expenses.

The greatest driver of the lease term is the funding that the lessee sets up. Normally, the lessee will want a term that is 5 to 10 years longer than the loan amortization schedule.

On a 30-year mortgage, that means a lease term of a minimum of 35 to 40 years. However, junk food ground rents with much shorter amortization periods may have a 20-year lease term.

2. Rights and Responsibilities

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

For instance, when the lease expires, what will happen to the improvements? The lease will specify whether they go back to the lessor or the lessee should remove them.

Another function is for the lessor to assist the lessee in acquiring required licenses, permits and zoning variances.

3. Financeability

The lending institution needs to draw on safeguard its loan if the lessee defaults. This is hard in an unsubordinated ground lease because the lessor has first top priority when it comes to default. The loan provider only can claim the leasehold.

However, one remedy is a stipulation that needs the successor lessee to utilize the loan provider to fund the new GL. The subject of financeability is complicated and your legal specialists will need to wade through the numerous complexities.

Keep in mind that Assets America can help finance the building and construction or renovation of business residential or commercial property through our network of personal financiers and banks.

4. Title Insurance

The lessee should organize title insurance coverage for its leasehold. This requires unique recommendations to the routine owner's policy.

5. Use Provision

Lenders desire the broadest use provision in the lease. Basically, the arrangement would permit any legal purpose for the residential or commercial property. In this way, the loan provider can more easily sell the leasehold in case of default.

The lessor might have the right to permission in any brand-new purpose for the residential or commercial property. However, the lender will look for to restrict this right. If the lessor feels strongly about prohibiting certain usages for the residential or commercial property, it needs to define them in the lease.

6. Casualty and Condemnation

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

Unsurprisingly, lenders desire the insurance proceeds to go towards the loan, not residential or commercial property remediation. Lenders also require that neither lessors nor lessees can terminate ground leases due to a casualty without their consent.

Regarding condemnation, loan providers insist upon taking part in the proceedings. The loan provider's requirements for using the condemnation profits and managing termination rights mirror those for casualty events.

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 respect to default.

If there is a preexisting mortgage, the mortgagee must consent to an SNDA arrangement. Usually, the GL lending institution desires first concern concerning subtenant defaults.

Moreover, loan providers need that the ground lease remains in force if the lessee defaults. If the lessor sends a notification of default to the lessee, the lender must receive a copy.

Lessees desire the right to acquire a leasehold mortgage without the lender's authorization. Lenders want the GL to work as security 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 wish to limit the type of entity that can hold a leasehold mortgage.

8. Rent Escalation

Lessors want the right to increase leas after defined durations so that it keeps market-level rents. A "cog" increase uses the lessee no protection in the face of a financial 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' idea is to sell decommissioned shipping containers as an environmentally friendly alternative to traditional building and construction. The very first store 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 options to extend.

This gives the GL a maximum term of 30 years. The lease escalation stipulation offered for a 10% lease boost every five years. The lease worth 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 disadvantages.

The advantages of a ground lease consist of:

Affordability: Ground rents enable renters to build on residential or commercial property that they can't afford to purchase. Large store like Starbucks and Whole Foods utilize ground leases to broaden their empires. This permits them to grow without saddling the companies with excessive debt.
No Deposit: Lessees do not have to put any money down to take a lease. This stands in stark contrast to residential or commercial property getting, which might require as much as 40% down. The lessee gets to save money it can release somewhere else. It likewise improves its return on the leasehold financial investment.
Income: The lessor receives a steady stream of income while retaining ownership of the land. The lessor preserves the value of the income through the use of an escalation provision in the lease. This entitles the lessor to increase leas periodically. Failure to pay lease gives the lessor the right to evict the renter.

The downsides of a ground lease include:

Foreclosure: In a subordinated ground lease, the owner risks of losing its residential or commercial property if the lessee defaults.
Taxes: Had the owner merely sold the land, it would have certified for capital gains treatment. Instead, it will pay common corporate rates on its lease earnings.
Control: Without the needed lease language, the owner may lose control over the land's advancement and usage.
Borrowing: Typically, ground leases forbid the lessor from borrowing against its equity in the land during the ground lease term.

Ground Lease Calculator

This is an excellent industrial lease calculator. You enter the area, rental rate, and agent's charge. It does the rest.

How Assets America Can Help

Assets America ® will organize financing for commercial projects starting at $20 million, with no ceiling. We invite you to call us for more details about our total financial services.

We can assist finance the purchase, building and construction, or renovation of business residential or commercial property through our network of private investors and banks. For the best in industrial real estate financing, Assets America ® is the wise 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 consist of absolute leases, percentage leases, and the topic of this article, ground leases. All of these leases offer benefits and drawbacks 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 takes place at the end of a ground lease?

The land constantly reverts to the lessor. Beyond that, there are two possibilities for completion 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 must demolish the improvements it made.

- How long do ground leases typically last?

Typically, a ground lease term extends to 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.