Does A Ground Lease Fit Your Commercial Residential Or Commercial Property Needs
When renting a commercial residential or commercial property, there are a variety of different kinds of industrial leases one could experience. In some cases renters may be trying to find a residential or commercial property they can construct on and develop improvements that fit their specific requirements. If this is the case, then a ground lease might be the finest option.
A ground lease is a kind of lease agreement in which the renter leases a piece of land and is permitted to develop that residential or commercial property throughout the duration of the lease. During the lease term, the tenant owns any buildings, developments or enhancements made on the land. Once the lease ends, the land and any building or improvements on that land become the residential or commercial property owner's. Usually, ground leases are long-term, with a lease duration in between 20 to 99 years, stated Scott Miller, Senior Director of Land Services, and Jeff Peden, Executive Managing Director of Land Services at Transwestern. Ground leases are usually net leases, they included, in which the renter is accountable for paying residential or commercial property taxes, insurance and maintenance.
What's the Difference Between a Subordinated vs Unsubordinated Ground Lease?
There are 2 kinds of ground leases: subordinated and unsubordinated. The distinction in between the two pertains to what happens if the occupant is dealing with financial problem during the term of the lease.
Subordinated Ground Lease
With a subordinated ground lease, the proprietor concurs to be a lower top priority with regards to any other financing gotten on the residential or commercial property. If a renter gets a loan to build on the land and after that defaults on the loan, the lending institution can go after the residential or commercial property, consisting of the land, as security. For instance, a renter who signs a subordinated ground lease might get a loan for $400,000 to develop a retail residential or commercial property. However, if that tenant faces monetary trouble and is not able to make loan payments, the lending institution can pursue the structure and the land.
"Typically, this is done to facilitate debt funding to construct buildings on the residential or commercial property," Miller and Peden said. In most cases with a subordinated ground lease, the property manager might need greater rent payments since they're taking on some amount of threat.
Unsubordinated Ground Lease
With an unsubordinated ground lease, the property owner higher priority than the lending institution. Lenders are not able to foreclose on the land or utilize it as collateral if an occupant is unable to make their loan payments. Rather, if the tenant defaults on the loan, the lending institution can just go after their service possessions. Some loan providers may hesitate to provide a mortgage to tenants who have actually signed an unsubordinated ground lease. Because of this added trouble for the tenants, proprietors will normally charge lower lease.
Advantages and disadvantages of Ground Leases for Tenants
Like all leases, ground leases feature their advantages and downsides, for both renters and landlords. For tenants, the benefits and drawbacks may vary depending on what you're trying to find in a commercial residential or commercial property.
Location: With a ground lease, renters can construct a residential or commercial property in a location of their picking, without being bound to pre-existing buildings in an area that may not be perfect for their particular business needs.
Lower Taxes: For both federal and state taxes, the lease paid on a ground lease is tax deductible. The tenant is paying less taxes than they would be if they just bought the land.
No Deposit: With a land purchase, the tenant would be paying a large deposit to buy the land, after which they would still require to develop on that land. However, with a ground lease, there is no downpayment, and more money can go towards structure on the land instead.
Reduced Lease Payments: If the occupant were leasing both the land and the building, then lease payments would be much greater. With a ground lease, the tenant is making lower monthly payments.
Building Customization: When renting a currently existing area, the renter is unable to customize the structure to fit their specific requirements. However, with a ground lease, occupants are only renting the land and can personalize the residential or commercial property as they choose.
Some Higher Costs: Developing a residential or commercial property is expensive, and although renters have the ability to customize their structure as they please, often the financial costs may exceed those advantages.
Doesn't Retain Ownership After the Lease Expires: After putting cash and time into building a residential or commercial property and making improvements, the tenant will need to offer up ownership of the residential or commercial property once the lease expires, if they select not to restore the lease. At that point, the landowner stands to benefit from the enhancements the occupant made.
Responsible for Fees: The occupant has to pay residential or commercial property taxes, insurance and maintenance costs on the residential or commercial property for the regard to the lease.
Pros and Cons of Ground Leases for Landlords
For proprietors, a ground lease might be useful for a variety of factors, but of course it comes with both advantages and downsides.
Pros
Lower Taxes: With a ground lease, landlords do not need to report any capital gains as they would with a land sale. On top of that, the renter is accountable for residential or commercial property taxes.
Steady Income: Landlords have the advantage of getting month-to-month rent on the land, thereby giving them a steady earnings stream. In addition, lots of ground leases likewise consist of an escalation clause, which ensures a rent increase and expulsion rights when it comes to a renter defaulting on payments.
Retains Ownership of Improvements: After the lease period ends, the property manager retains ownership of any enhancements made on the land and can therefore sell the residential or commercial property at a profit.
Cons
Lack of Control: In the circumstance where a property owner does not include particular stipulations in the lease, they may not have any say in what the occupant does with the land.
Higher Income Tax: Although a property manager won't need to pay capital gains taxes, the rent they get from the tenant counts as income, therefore they will have to pay higher income taxes.
Example of a Ground Lease
In Houston last June, Peden and Miller worked out a 20-year, 2.64-acre ground lease for a brand-new automotive dealership. The land was leased to Grubbs Automotive, with plans to convert the existing structures into a new Volvo automobile dealership. In this example, Grubbs Automotive is renting the land however has the liberty to build brand-new residential or commercial properties and make enhancements on the land and any existing buildings as they choose. Once the lease term ends, if they do not restore, then all of those enhancements end up being the residential or commercial property of the proprietor.
What's the Difference Between a Ground Lease vs Leasehold?
A leasehold estate is really similar to a ground lease, because with a leasehold estate, the physical structures are owned by the occupant, and the land is owned by another celebration, from which the renter is renting. The party that is leasing the land from the landowner can utilize the land throughout of the lease. When the lease ends, the structure and any enhancements become residential or commercial property of the landowner, comparable to a ground lease. See also appurtenance.
However, according to Miller and Peden, "With a ground lease, you basically have the rights as an owner of the land and the residential or commercial property or buildings that are on it for the duration that has been consented to. With a leasehold, there is an agreement between the owner of the residential or commercial property and the lessee with typically more constraints on the lessee on what can be made with the residential or commercial property." Essentially, leasehold agreements feature more constraints than ground leases but are otherwise relatively comparable.
Is a Ground Lease Right for You?
While a ground lease features its advantages and disadvantages for both the occupant and the property owner, it is necessary to understand what you're looking for in a rental agreement before selecting a type of lease. Ground leases are helpful because of their durability and guaranteed earnings for property owners. And for occupants, ground leases enable you to construct a residential or commercial property that fits your customized requires. However, there are several lease structures. Before selecting what fits your needs, make sure to do your due diligence and find out about the different types of industrial leases out there.