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When leasing a commercial residential or commercial property, there are a variety of different types of industrial leases one could experience. In some cases tenants may be trying to find a residential or commercial property they can construct on and produce improvements that fit their specific needs. If this is the case, then a ground lease might be the very best option.

A ground lease is a kind of lease arrangement in which the occupant rents a piece of land and is permitted to develop that residential or commercial property throughout the period of the lease. During the lease term, the renter owns any structures, developments or enhancements made on the land. Once the lease ends, the land and any construction or enhancements on that land become the residential or commercial property owner's. Usually, ground leases are long-lasting, with a lease duration 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 normally net leases, they included, in which the tenant is accountable for paying residential or commercial property taxes, insurance and upkeep.
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What's the Difference Between a Subordinated vs Unsubordinated Ground Lease?

There are 2 kinds of ground leases: subordinated and unsubordinated. The difference in between the 2 pertains to what happens if the renter is dealing with financial difficulty during the regard to the lease.

Subordinated Ground Lease

With a subordinated ground lease, the proprietor concurs to be a lower top priority with concerns to any other funding 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 lending institution can go after the residential or commercial property, including the land, as collateral. For example, a renter who signs a subordinated ground lease may secure a loan for $400,000 to build a retail residential or commercial property. However, if that tenant faces financial trouble and is not able to make loan payments, the loan provider can pursue the building and the land.

"Typically, this is done to assist in debt funding to construct buildings on the residential or commercial property," Miller and Peden said. In a lot of cases with a subordinated ground lease, the proprietor might require greater lease payments since they're handling some quantity of threat.

Unsubordinated Ground Lease

With an unsubordinated ground lease, the maintains higher concern than the loan provider. Lenders are not able to foreclose on the land or use it as security if an occupant is not able to make their loan payments. Rather, if the occupant defaults on the loan, the lending institution can just pursue their company assets. Some lenders may hesitate to offer a mortgage to occupants who have actually signed an unsubordinated ground lease. Because of this included difficulty for the renters, proprietors will generally charge lower rent.

Advantages and disadvantages of Ground Leases for Tenants

Like all leases, ground leases include their advantages and drawbacks, for both occupants and property managers. 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, renters can build a residential or commercial property in an area of their choosing, without being bound to pre-existing buildings in a location that may not be perfect for their particular company requirements.

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 acquired the land.

No Deposit: With a land purchase, the occupant would be paying a big deposit to purchase 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 approach building on the land instead.

Reduced Lease Payments: If the tenant were renting both the land and the building, then lease payments would be much higher. With a ground lease, the tenant is making lower month-to-month payments.

Building Customization: When leasing an already existing area, the tenant is unable to customize the building to fit their specific requirements. However, with a ground lease, renters are just leasing 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 are able to customize their structure as they please, in some cases the financial expenses might exceed those advantages.

Doesn't Retain Ownership After the Lease Expires: After putting money and time into constructing a residential or commercial property and making enhancements, the renter will have to provide up ownership of the residential or commercial property once the lease expires, if they pick not to renew the lease. At that point, the landowner stands to benefit 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 regard to the lease.

Pros and Cons of Ground Leases for Landlords

For proprietors, a ground lease could be helpful for a variety of factors, however obviously it features both advantages and downsides.

Pros

Lower Taxes: With a ground lease, property owners do not need to report any capital gains as they would with a land sale. On top of that, the tenant is responsible for residential or commercial property taxes.

Steady Income: Landlords have the advantage of receiving regular monthly lease on the land, thereby approving them a stable income stream. In addition, lots of ground leases also consist of an escalation stipulation, which guarantees a lease increase and expulsion rights when it comes to an occupant 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 revenue.

Cons

Lack of Control: In the scenario where a landlord doesn't consist of certain clauses in the lease, they may not have any say in what the tenant makes with the land.

Higher Income Tax: Although a property owner won't need to pay capital gains taxes, the rent they get from the tenant counts as income, and so they will have to pay higher earnings 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 new vehicle car dealership. The land was rented to Grubbs Automotive, with plans to transform the existing structures into a new Volvo automotive dealership. In this example, Grubbs Automotive is leasing the land but has the flexibility to build brand-new residential or commercial properties and make improvements on the land and any existing buildings as they please. Once the lease term ends, if they do not restore, then all of those improvements become the residential or commercial property of the landlord.

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 party, from which the renter is leasing. 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 improvements become residential or commercial property of the landowner, similar 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 period that has been agreed to. With a leasehold, there is an agreement in between the owner of the residential or commercial property and the lessee with generally more limitations on the lessee on what can be made with the residential or commercial property." Essentially, leasehold arrangements feature more constraints than ground leases but are otherwise relatively similar.

Is a Ground Lease Right for You?

While a ground lease features its advantages and downsides for both the occupant and the property owner, it is necessary to understand what you're searching for in a rental contract before picking a kind of lease. Ground leases are useful due to the fact that of their longevity and surefire income for property owners. And for renters, ground leases allow you to develop a residential or commercial property that fits your customized requires. However, there are several lease structures. Before selecting what fits your needs, make certain to do your due diligence and learn more about the various kinds of commercial leases out there.