What is a Ground Lease?

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Do you own land, maybe with shabby residential or commercial property on it? One way to extract worth from the land is to sign a ground lease. This will permit you to make earnings and perhaps capital gains. In this article, we'll explore,

- 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), an occupant develops 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 renter is accountable for paying all residential or commercial property taxes throughout the lease duration. The inherited improvements permit the owner to offer the residential or commercial property for more money, if so preferred.

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 need to destroy.

The GL defines 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 during 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 crucial aspect of a ground lease is how the lessee will fund enhancements to the land. An essential plan is whether the landlord will agree to subordinate his concern on claims if the lessee defaults on its debt.

That's specifically what occurs 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 owner asks for higher rent on the residential or commercial property.

Alternatively, an unsubordinated ground lease preserves the proprietor's leading priority claims if the leaseholder defaults on his payments. However this may discourage lending institutions, who would not have the ability to take ownership in case of default. Accordingly, the property owner will generally charge lower lease on unsubordinated ground leases.

How to Structure a Ground Lease

A ground lease is more complex than routine commercial leases. Here are some parts that go into structuring a ground lease:

1. Term

The lease should be sufficiently long to permit the lessee to amortize the expense of the enhancements it makes. To put it simply, the lessee needs to make enough revenues during 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 most significant driver of the lease term is the financing 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, fast food ground rents with shorter amortization periods might have a 20-year lease term.

2. Rights and Responsibilities

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

For instance, when the lease ends, what will occur to the enhancements? The lease will define whether they go back to the lessor or the lessee must eliminate them.

Another function is for the lessor to assist the lessee in getting essential licenses, licenses and zoning variances.

3. Financeability

The lender needs to have recourse to protect its loan if the lessee defaults. This is challenging in an unsubordinated ground lease due to the fact that the lessor has first top priority in the case of default. The lender only has the right to claim the leasehold.

However, one remedy is a clause that requires the follower lessee to utilize the lender to fund the brand-new GL. The topic of financeability is complex and your legal experts will require to learn the numerous intricacies.

Keep in mind that Assets America can assist finance the building and construction or restoration of commercial residential or commercial property through our network of private financiers and banks.

4. Title Insurance

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

5. Use Provision

Lenders desire the broadest usage provision in the lease. Basically, the arrangement would permit any legal function for the residential or commercial property. In this method, the loan provider can more easily offer the leasehold in case of default.

The lessor might deserve to consent in any new purpose for the residential or commercial property. However, the lender will seek to restrict this right. If the lessor feels strongly about prohibiting certain uses for the residential or commercial property, it must specify them in the lease.

6. Casualty and Condemnation

The lender controls insurance coverage proceeds coming from casualty and condemnation. However, this may contravene the basic phrasing of a ground lease, which gives some control to the lessor.

Unsurprisingly, loan providers desire the insurance coverage continues to approach the loan, not residential or commercial property restoration. Lenders also require that neither lessors nor lessees can end ground leases due to a casualty without their .

Regarding condemnation, lending institutions firmly insist upon participating in the proceedings. The lender's requirements for applying the condemnation profits 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, lenders balk at lessor's maintaining an unsubordinated position with respect to default.

If there is a preexisting mortgage, the mortgagee should accept an SNDA arrangement. Usually, the GL loan provider wants first priority relating to subtenant defaults.

Moreover, lending institutions need that the ground lease remains in force if the lessee defaults. If the lessor sends out a notification of default to the lessee, the lending institution needs to receive a copy.

Lessees desire the right to acquire a leasehold mortgage without the loan provider's authorization. Lenders want the GL to function as collateral needs to the lessee default.

Upon foreclosure of the residential or commercial property, the lender receives the lessee's leasehold interest in the residential or commercial property. Lessors may desire to limit the kind of entity that can hold a leasehold mortgage.

8. Rent Escalation

Lessors desire the right to increase leas after specified durations so that it keeps market-level rents. A "ratchet" boost uses 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' idea is to offer decommissioned shipping containers as an eco-friendly alternative to traditional building. 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, in that it was a 10-year triple-net ground lease with four 5-year alternatives to extend.

This offers the GL a maximum regard to thirty years. The rent escalation clause offered a 10% lease increase every five 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 benefits and disadvantages.

The advantages of a ground lease include:

Affordability: Ground rents enable occupants to construct on residential or commercial property that they can't pay for to buy. Large chain shops like Starbucks and Whole Foods use ground leases to broaden their empires. This allows 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 plain contrast to residential or commercial property buying, which may require as much as 40% down. The lessee gets to save money it can deploy somewhere else. It likewise improves its return on the leasehold investment. Income: The lessor receives a stable stream of income while maintaining ownership of the land. The lessor maintains the value of the earnings through the usage of an escalation provision in the lease. This entitles the lessor to increase leas regularly. Failure to pay rent offers the lessor the right to force out the tenant.

The disadvantages 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 income. Control: Without the essential lease language, the owner may lose control over the land's advancement and usage. Borrowing: Typically, ground leases prohibit the lessor from borrowing against its equity in the land during the ground lease term.

Ground Lease Calculator

This is a fantastic business lease calculator. You enter the location, rental rate, and agent's charge. It does the rest.

How Assets America Can Help

Assets America ® will arrange funding for commercial jobs beginning at $20 million, with no upper limit. We invite you to call us for more info about our complete monetary services.

We can assist finance the purchase, building and construction, or renovation of commercial 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 choice.

- What are the various kinds of leases?

They are gross leases, modified gross leases, single net leases, double net leases and triple net leases. The also consist of absolute leases, portion leases, and the subject of this post, ground leases. All of these leases supply advantages 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 means that the lessee pays the residential or commercial property taxes during the lease term. Once the lease ends, the lessor becomes accountable 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 the end of a ground lease. The very first is that the lessor takes ownership of all improvements that the lessee made throughout the lease. The 2nd is that the lessee should destroy the enhancements it made.

- How long do ground leases normally 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 rents extend as far as 99 years.