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When leasing an industrial residential or commercial property, there are a variety of different types of business leases one might experience. In some cases occupants might be looking for a residential or commercial property they can develop on and develop improvements that fit their specific needs. If this holds true, then a ground lease may be the very best option.

A ground lease is a type of lease contract in which the occupant leases a piece of land and is permitted to establish that residential or commercial property throughout the duration of the lease. During the lease term, the tenant owns any structures, advancements or improvements made on the land. Once the lease ends, the land and any building and construction or enhancements on that land become the residential or commercial property owner's. Usually, ground leases are long-term, with a lease period 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 two kinds of ground leases: subordinated and unsubordinated. The distinction between the 2 involves what occurs if the occupant is handling monetary problem throughout the term of the lease.

Subordinated Ground Lease

With a subordinated ground lease, the property manager accepts be a lower top priority with concerns to any other financing acquired on the residential or commercial property. If a tenant secures a loan to develop on the land and after that defaults on the loan, the lender can go after the residential or commercial property, including the land, as security. For circumstances, a renter who signs a lease may take out a loan for $400,000 to build a retail residential or commercial property. However, if that tenant runs into monetary problem and is not able to make loan payments, the loan provider can go after the structure and the land.

"Typically, this is done to facilitate debt financing to construct buildings on the residential or commercial property," Miller and Peden stated. Oftentimes with a subordinated ground lease, the property manager might require higher lease payments because they're handling some amount of danger.

Unsubordinated Ground Lease

With an unsubordinated ground lease, the landlord maintains greater concern than the loan provider. Lenders are unable to foreclose on the land or use it as security if a renter is unable to make their loan payments. Rather, if the occupant defaults on the loan, the lending institution can just pursue their business assets. Some loan providers might be reluctant to provide a mortgage to renters who have signed an unsubordinated ground lease. Because of this included problem for the occupants, property managers 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 tenants and property managers. For occupants, the advantages and disadvantages might differ depending upon what you're trying to find in an industrial residential or commercial property.

Location: With a ground lease, tenants can develop a residential or commercial property in a location of their picking, without being bound to pre-existing structures in a place that may not be perfect for their specific service requirements.
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 merely acquired the land.
No Deposit: With a land purchase, the tenant would be paying a large down payment 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 approach building on the land instead.
Reduced Lease Payments: If the renter were renting both the land and the structure, then lease payments would be much greater. With a ground lease, the tenant is making lower regular monthly payments.
Building Customization: When leasing an already existing space, the renter is unable to tailor the structure to fit their specific needs. However, with a ground lease, occupants are only renting the land and can customize the residential or commercial property as they choose.

Some Higher Costs: Developing a residential or commercial property is pricey, and although renters are able to personalize their building as they choose, often the monetary costs might surpass those advantages.
Doesn't Retain Ownership After the Lease Expires: After putting cash and time into building a residential or commercial property and making enhancements, the renter will have to quit ownership of the residential or commercial property once the lease ends, if they choose not to restore the lease. At that point, the landowner stands to profit from the improvements the renter made.
Responsible for Fees: The tenant needs to pay residential or commercial property taxes, insurance coverage and maintenance expenditures on the residential or commercial property for the regard to the lease.

Benefits and drawbacks of Ground Leases for Landlords

For property owners, a ground lease could be advantageous for a variety of reasons, however obviously it features both advantages and downsides.

Lower Taxes: With a ground lease, property owners do not have to report any capital gains as they would with a land sale. On top of that, the tenant is accountable for residential or commercial property taxes.
Steady Income: Landlords have the benefit of getting regular monthly lease on the land, thereby granting them a stable income stream. In addition, lots of ground leases likewise consist of an escalation provision, which ensures a lease increase and expulsion rights when it comes to an occupant defaulting on payments.
Retains Ownership of Improvements: After the lease duration ends, the landlord maintains ownership of any enhancements made on the land and can for that reason offer the residential or commercial property at a profit.

Lack of Control: In the circumstance where a property manager does not consist of certain provisions 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 need to pay capital gains taxes, the rent they get from the occupant counts as earnings, therefore they will need 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 rented to Grubbs Automotive, with strategies to transform the existing structures into a new Volvo automobile dealer. In this example, Grubbs Automotive is renting the land but has the flexibility to construct brand-new residential or commercial properties and make enhancements on the land and any existing structures as they please. 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 property manager.

What's the Difference Between a Ground Lease vs Leasehold?

A leasehold estate is really comparable to a ground lease, because with a leasehold estate, the physical structures are owned by the renter, and the land is owned by another party, from which the occupant is renting. The celebration that is leasing the land from the landowner can use the land for the duration of the lease. When the lease ends, the building and any improvements 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 basically 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 actually been concurred to. With a leasehold, there is an agreement between the owner of the residential or commercial property and the lessee with normally more limitations on the lessee on what can be done with the residential or commercial property." Essentially, leasehold arrangements include more constraints than ground leases however are otherwise relatively comparable.

Is a Ground Lease Right for You?

While a ground lease comes with its benefits and disadvantages for both the renter and the property owner, it is very important to understand what you're searching for in a rental agreement before picking a type of lease. Ground leases are useful because of their longevity and surefire income for proprietors. And for tenants, ground leases enable you to develop a residential or commercial property that fits your custom needs. However, there are several lease structures. Before selecting what fits your requirements, make sure to do your due diligence and find out about the various kinds of industrial leases out there.