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When renting an industrial residential or commercial property, there are a number of various kinds of commercial leases one could encounter. Sometimes renters might be looking for a residential or commercial property they can construct on and create enhancements that fit their specific needs. If this is the case, then a ground lease might be the very best choice.
A ground lease is a kind of lease agreement in which the renter leases a piece of land and is permitted to establish that residential or commercial property throughout the period of the lease. During the lease term, the renter owns any buildings, advancements or enhancements made on the land. Once the lease ends, the land and any construction or enhancements on that land end up being the residential or commercial property owner's. Usually, ground leases are long-term, with a lease period in between 20 to 99 years, said Scott Miller, Senior Director of Land Services, and Jeff Peden, Executive Managing Director of Land Services at Transwestern. Ground leases are generally net leases, they added, in which the tenant is accountable for paying residential or commercial property taxes, insurance coverage and upkeep.
What's the Difference Between a Subordinated vs Unsubordinated Ground Lease?
There are two types of ground leases: subordinated and unsubordinated. The distinction in between the 2 involves what occurs if the tenant is dealing with financial difficulty during the regard to the lease.
Subordinated Ground Lease
With a subordinated ground lease, the proprietor accepts be a lower concern with regards to any other financing gotten on the residential or commercial property. If a tenant gets a loan to build on the land and after that defaults on the loan, the lender can go after the residential or commercial property, consisting of the land, as collateral. For example, a tenant who signs a subordinated ground lease might take out a loan for $400,000 to develop a retail residential or commercial property. However, if that occupant encounters monetary difficulty and is unable to make loan payments, the lending institution can pursue the building and the land.
"Typically, this is done to help with debt funding to build structures on the residential or commercial property," Miller and Peden said. In most cases with a subordinated ground lease, the property owner may require higher rent payments since they're handling some amount of danger.
Unsubordinated Ground Lease
With an unsubordinated ground lease, the proprietor maintains higher concern than the lender. Lenders are unable to foreclose on the land or use it as security if a tenant is not able to make their loan payments. Rather, if the renter defaults on the loan, the lending institution can only pursue their business properties. Some lending institutions might be reluctant to provide a mortgage to occupants who have actually signed an unsubordinated ground lease. Because of this included problem for the renters, property owners will generally charge lower rent.
Pros and Cons of Ground Leases for Tenants
Like all leases, ground leases include their benefits and downsides, for both renters and proprietors. For tenants, the benefits and drawbacks may differ depending on what you're searching for in an industrial residential or commercial property.
Location: With a ground lease, tenants can build a residential or commercial property in a location of their picking, without being bound to pre-existing structures in an area that might not be perfect for their specific service needs.
Lower Taxes: For both federal and state taxes, the rent 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 occupant would be paying a large deposit to purchase the land, after which they would still need 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 renting both the land and the building, then lease payments would be much greater. With a ground lease, the occupant is making lower regular monthly payments.
Building Customization: When leasing a currently existing area, the occupant is not able to tailor the building to fit their specific needs. However, with a ground lease, renters are just renting the land and can tailor the residential or commercial property as they please.
Some Higher Costs: Developing a residential or commercial property is costly, and although renters have the ability to personalize their building as they please, sometimes the monetary costs might outweigh those benefits.
Doesn't Retain Ownership After the Lease Expires: After putting cash and time into developing a residential or commercial property and making improvements, the tenant will have to provide up ownership of the residential or commercial property once the lease ends, if they select not to restore the lease. At that point, the landowner stands to make money from the enhancements the renter made.
Responsible for Fees: The tenant has to pay residential or commercial property taxes, insurance and maintenance expenditures on the residential or commercial property for the term of the lease.
Pros and Cons of Ground Leases for Landlords
For property managers, a ground lease might be useful for a variety of reasons, but naturally it comes with both advantages and disadvantages.
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 occupant is accountable for residential or commercial property taxes.
Steady Income: Landlords have the advantage of receiving regular monthly lease on the land, thus granting them a stable income stream. In addition, many ground leases also consist of an escalation stipulation, which ensures a lease increase and eviction rights when it comes to an occupant defaulting on payments.
Retains Ownership of Improvements: After the lease period ends, the property owner keeps ownership of any improvements made on the land and can for that reason offer the residential or commercial property at an earnings.
Lack of Control: In the situation where a property manager doesn't consist of specific clauses in the lease, they might not have any say in what the tenant makes with the land.
Higher Income Tax: Although a landlord won't have to pay capital gains taxes, the lease they get from the renter counts as income, therefore they will have to pay greater earnings taxes.
In Houston last June, Peden and Miller worked out a 20-year, 2.64-acre ground lease for a new automobile dealership. The land was leased to Grubbs Automotive, with strategies to convert the existing structures into a brand-new Volvo automobile dealer. In this example, Grubbs Automotive is renting the land however has the freedom to construct 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 renew, then all of those improvements 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, in that with a leasehold estate, the physical structures are owned by the occupant, and the land is owned by another party, from which the renter is leasing. The celebration that is renting the land from the landowner can use the land for the period 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 likewise appurtenance.
However, according to Miller and Peden, "With a ground lease, you essentially have the rights as an owner of the land and the residential or commercial property or structures 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 usually more restrictions on the lessee on what can be made with the residential or commercial property." Essentially, leasehold agreements feature more constraints than ground leases however are otherwise fairly comparable.
Is a Ground Lease Right for You?
While a ground lease includes its benefits and for both the tenant and the proprietor, it's essential to understand what you're looking for in a rental contract before deciding on a kind of lease. Ground leases are advantageous since of their longevity and guaranteed earnings for proprietors. And for tenants, ground leases allow you to develop a residential or commercial property that fits your customized requires. However, there are various lease structures. Before selecting what fits your needs, make sure to do your due diligence and discover the different types of business leases around.
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Does a Ground Lease Fit Your Commercial Residential Or Commercial Property Needs?
Elmer Ayers edited this page 3 days ago