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What is a Ground Lease?
Lynette Dunkley edited this page 2025-06-19 13:30:20 +08:00
Do you own land, possibly with worn out residential or commercial property on it? One way to extract value from the land is to sign a ground lease. This will enable you to earn income and perhaps capital gains. In this short article, we'll check out,
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- 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 renter establishes a piece of land during the lease duration. Once the lease expires, the tenant turns over the residential or commercial property improvements to the owner, unless there is an exception.
Importantly, the renter is accountable for paying all residential or commercial property taxes during the lease duration. The acquired 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 structure on it. Sometimes, the land has a structure currently on it that the lessee must destroy.
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 improvements throughout the lease period. That control reverts to the owner/lessor upon the expiration of the lease.
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Ground Lease Subordination
One crucial element of a ground lease is how the lessee will fund improvements to the land. A crucial arrangement is whether the proprietor will accept subordinate his priority on claims if the lessee defaults on its financial obligation.
That's precisely what takes place in a subordinated ground lease. Thus, the residential or commercial property deed becomes collateral for the lending institution if the lessee defaults. In return, the property manager asks for greater lease on the residential or commercial property.
Alternatively, an unsubordinated ground lease preserves the property manager's leading concern claims if the leaseholder defaults on his payments. However this may dissuade lenders, who wouldn't be able to take possession 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 business leases. Here are some parts that go into structuring a ground lease:
1. Term
The lease must be sufficiently long to enable the lessee to amortize the expense of the enhancements it makes. To put it simply, the lessee should make enough earnings during the lease to pay for the lease and the enhancements. Furthermore, the lessee needs to make a reasonable return on its investment after paying all expenses.
The biggest motorist of the lease term is the funding that the lessee arranges. Normally, the lessee will desire a term that is 5 to ten years longer than the loan amortization schedule.
On a 30-year mortgage, that suggests a lease regard to at least 35 to 40 years. However, quick food ground leases with shorter amortization periods may have a 20-year lease term.
2. Rights and Responsibilities
Beyond the plans for paying rent, a ground lease has several distinct features.
For example, when the lease expires, what will occur to the improvements? The lease will specify whether they go back to the lessor or the lessee should eliminate them.
Another function is for the lessor to assist the lessee in obtaining required licenses, authorizations and zoning differences.
3. Financeability
The lender should have recourse to secure its loan if the lessee defaults. This is tough in an unsubordinated ground lease because the lessor has first priority in the case of default. The lending institution only has the right to claim the leasehold.
However, one solution is a provision that requires the follower lessee to utilize the lender to fund the new GL. The topic of financeability is intricate and your legal experts will require to wade through the various intricacies.
Remember that Assets America can help fund the construction or renovation of commercial residential or commercial property through our network of private financiers and banks.
4. Title Insurance
The lessee must organize title insurance coverage for its leasehold. This needs special endorsements to the routine owner's policy.
5. Use Provision
Lenders want the broadest usage provision in the lease. Basically, the provision would permit any legal function for the residential or commercial property. In this way, the lending institution can more easily sell the leasehold in case of default.
The lessor might have the right to approval in any new function for the residential or commercial property. However, the lending institution will look for to limit this right. If the lessor feels highly about restricting particular usages for the residential or commercial property, it ought to specify them in the lease.
6. Casualty and Condemnation
The loan provider controls insurance coverage earnings originating from casualty and condemnation. However, this may contravene the standard phrasing of a ground lease, which gives some control to the lessor.
Unsurprisingly, loan providers want the insurance coverage proceeds to approach the loan, not residential or commercial property repair. Lenders likewise require that neither lessors nor lessees can end ground leases due to a casualty without their consent.
Regarding condemnation, lenders insist upon taking part in the procedures. The lender's requirements for using the condemnation proceeds and controlling termination rights mirror those for casualty occasions.
7. Leasehold Mortgages
These are mortgages financing the lessee's improvements to the ground lease residential or commercial property. Typically, lending institutions balk at lessor's maintaining an unsubordinated position with respect to default.
If there is a preexisting mortgage, the mortgagee should accept an SNDA agreement. Usually, the GL lending institution desires very first priority regarding subtenant defaults.
Moreover, lenders require that the ground lease stays in force if the lessee defaults. If the lessor sends out a notification 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 approval. Lenders desire the GL to serve as collateral needs to the lessee default.
Upon foreclosure of the residential or commercial property, the loan provider receives the lessee's leasehold interest in the residential or commercial property. Lessors might wish to limit the type of entity that can hold a leasehold mortgage.
8. Rent Escalation
Lessors desire the right to increase rents after defined durations so that it maintains market-level leas. A "ratchet" increase provides the lessee no defense 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' principle is to sell decommissioned shipping containers as an ecologically friendly alternative to conventional building. The first store opened in Seattle, followed by Kansas City, Denver, Chicago, and one in Portland, OR.
It was a rather unusual ground lease, because it was a 10-year triple-net ground lease with 4 5-year alternatives to extend.
This provides the GL a maximum regard to thirty years. The rent escalation stipulation offered a 10% rent increase every 5 years. The lease value was simply under $1 million with a cap rate of 5.21%.
The initial lease terms, on a yearly 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 drawbacks.
The advantages of a ground lease consist of:
Affordability: allow renters to develop on residential or commercial property that they can't afford to buy. Large store like Starbucks and Whole Foods utilize ground leases to broaden their empires. This permits them to grow without saddling the companies with too much financial obligation. No Deposit: Lessees do not need to put any money to take a lease. This stands in plain contrast to residential or commercial property acquiring, which might need as much as 40% down. The lessee gets to conserve cash it can release somewhere else. It also improves its return on the leasehold financial investment. Income: The lessor gets a consistent stream of income while retaining ownership of the land. The lessor preserves the worth of the income through using an escalation stipulation in the lease. This entitles the lessor to increase rents occasionally. Failure to pay rent provides the lessor the right to force out the renter.
The downsides of a ground lease include:
Foreclosure: In a subordinated ground lease, the owner runs the threat of losing its residential or commercial property if the lessee defaults. Taxes: Had the owner just sold the land, it would have received capital gains treatment. Instead, it will pay common corporate rates on its lease income. Control: Without the needed lease language, the owner may lose control over the land's advancement and usage. Borrowing: Typically, ground leases prohibit the lessor from obtaining against its equity in the land throughout the ground lease term.
Ground Lease Calculator
This is a fantastic commercial lease calculator. You enter the area, rental rate, and agent's fee. It does the rest.
How Assets America Can Help
Assets America ® will arrange funding for business tasks starting at $20 million, without any upper limitation. We invite you to call us for more details about our complete financial services.
We can assist fund the purchase, building and construction, or renovation of commercial residential or commercial property through our network of private financiers and banks. For the very best in commercial realty financing, Assets America ® is the clever option.
- What are the different kinds of leases?
They are gross leases, modified gross leases, single net leases, double net leases and triple net leases. The also include absolute leases, portion leases, and the topic of this short article, ground leases. All of these leases supply advantages and downsides 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 during the lease term. Once the lease ends, 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 two possibilities for the end of a ground lease. The very first is that the lessor seizes all improvements that the lessee made throughout the lease. The second is that the lessee must demolish the improvements it made.
- The length of time do ground leases normally last?
Typically, a ground lease term extends to at lease 5 to ten years beyond the leasehold mortgage. For example, if the lessee takes a 30-year mortgage on its enhancements, the lease term will run for a minimum of 35 to 40 years. Some ground rents extend as far as 99 years.