This rules out many Developers who by trade build mainly condominiums Furthermore, owners who enter into a long term Ground Leases prefer a Lessee with a strong balance sheet and would strongly prefer they use their own capital and not raise money for the project.

 

What Is a Ground Lease?

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A Ground Lease or a Land Lease is an agreement that permits a tenant to develop a piece of property during the period of the lease. After the lease period, the land and all improvements the tenant makes return to the property owner.

Ground leases may also be referred to as land leases since the landlord is leasing out only the land.

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How a Ground Lease Works

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Ground leases involve leasing land for a long-term period to a tenant who then constructs a structure on that property. A typical ground lease covers a period from 50 to 99 years.

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A ground lease defines:

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• Who owns the building

• Who owns the land

• Improvements to the property

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A ground lease stipulates that the property owner will own any improvements unless the parties create an exception. This type of contract also stipulates that the tenant will pay relevant taxes during the period of the lease. Landlords may be able to sell the property on the land at a higher rate once the term of the lease expires because they can assume all improvements at that point.

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A landlord may choose to use a ground lease in order to:

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• Avoid capital gains

• Generate revenue and income

• Retain property ownership for planning reasons

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Ground leases are primarily used in commercial agreements. However, these types of leases are very different from other leases that you might find for office buildings and shopping complexes. Other commercial leases do not usually assign the lessee to take responsibility for the unit, charging tenants rent so they can operate their business instead.

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When using a ground lease, however, a tenant will usually assume responsibility for any kind of expenses. Expenses that would be the responsibility of the tenant on a ground lease include:

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• Construction

• Financing costs

• Improvements

• Insurance

• Renovations

• Repairs

• Taxes

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Advantages of a Ground Lease

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Landlords can look forward to certain advantages when signing a ground lease, including:

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• Steady income: While still retaining ownership of their property, a landlord can access a steady income stream. Ground leases usually also have an escalation clause. This clause guarantees rent increases as well as eviction rights, which offers protection if a tenant should default on rent or other types of expenses.

• Tax savings: If a landlord sells property outright to a tenant, they realize a gain on that sale. On the other hand, when they execute a ground lease, they don't need to report any gains. However, there still may be tax implications in regard to the rent they receive.

• Retain control: Some ground leases may include provisions that allow a landlord to keep a certain degree of control over their property. This can include how the property is developed and how it is used. In these cases, the landlord will be able to deny or approve changes to their land.

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Disadvantages of a Ground Lease

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Landlords looking to execute a ground lease should be wary of potential drawbacks:

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• Loss of control: If a landlord doesn't include the proper clauses and provisions in their lease, they can end up losing control of the property.

• Higher tax implications: This varies based on the location of the property, but a ground lease can come with higher tax implications for the landlord. Though landlords don't realize a gain from selling the property, the rent they charge is considered income. That means rent will be taxed at the ordinary rate, and this can increase the landlord's tax burden.