Subordinated vs. Unsubordinated


What Is a Ground Lease? How It Works, Advantages, and Example

Investopedia/ Tara Anand

A ground lease is a contract in which a renter is allowed to establish a piece of residential or commercial property during the lease period, after which the land and all improvements are committed the residential or commercial property owner.

- A ground lease is a contract in which a renter can develop residential or commercial property throughout the lease duration, after which it is committed the residential or commercial property owner.
- Ground leases are frequently made by industrial property owners, who usually rent land for 50 to 99 years to occupants who construct buildings on the residential or commercial property.
- Tenants who otherwise can’t pay for to purchase land can develop residential or commercial property with a ground lease, while proprietors get a consistent income and retain control over the usage and development of their residential or commercial property.
How a Ground Lease Works

A ground lease suggests that improvements will be owned by the residential or commercial property owner unless an exception is created and specifies that all pertinent taxes sustained during the lease period will be paid by the renter. Because a ground lease allows the proprietor to assume all improvements once the lease term expires, the property manager may offer the residential or commercial property at a higher rate. Ground leases are likewise often called land leases, as landlords lease out the land just.

Although they are used primarily in business space, ground leases differ significantly from other types of industrial leases, like those found in shopping complexes and office buildings. These other leases typically do not designate the lessee to take on duty for the system. Instead, these renters are charged rent in order to operate their services. A ground lease involves renting land for a long-term period-typically for 50 to 99 years-to a tenant who constructs a structure on the residential or commercial property.

Tenants normally presume obligation for all financial elements of a ground lease, including rent, taxes, building and construction, insurance, and funding.

A 99-year lease is normally the longest possible lease term for a piece of realty residential or commercial property. Historically, it was the longest possible under common law. Nowadays, it depends on the jurisdiction whether leases longer than 99 years are allowed. Most U.S. states still have a 99-year maximum.

The ground lease defines who owns the land and who owns the structure and improvements on the residential or commercial property. Many property managers use ground leases as a method to maintain ownership of their residential or for preparing factors, to prevent any capital gains, and to produce earnings and earnings. Tenants typically assume duty for any and all expenditures. This consists of building, repairs, restorations, improvements, taxes, insurance coverage, and any funding costs connected with the residential or commercial property.

Example of a Ground Lease

Ground leases are frequently used by franchises and big box stores, as well as other commercial entities. The corporate headquarters will usually purchase the land, and permit the tenant/developer to construct and utilize the center. There’s a great chance that a McDonald’s, Starbucks, or Dunkin Donuts near you are bound by a ground lease

A number of Macy’s shops are ground leased. Macy’s owns the structures but still pays rent on the ground the building is on. As of February 3, 2024, Macy’s reported long-lasting lease liabilities of just under $3 billion. This rented real estate consists of small-format stores, circulation centers, office space, and full-line stores.

Some of the fundamentals of any ground lease must include:

- Regards to the lease.
- Rights of both the property owner and occupant
- Conditions on financing
- Use arrangements
- Fees
- Title insurance
- Default

Subordinated vs. Unsubordinated Ground Leases

Ground lease occupants often fund improvements by handling debt. In a subordinated ground lease, the property manager accepts a lower top priority of claims on the residential or commercial property in case the tenant defaults on the loan for improvements. Simply put, a subordinated ground lease-landlord basically enables the residential or commercial property deed to serve as security when it comes to renter default on any improvement-related loan.

For this kind of ground lease, the landlord might work out greater rent payments in return for the risk handled in case of renter default. This might likewise benefit the property owner because constructing a building on their land increases the worth of their residential or commercial property.

On the other hand, an unsubordinated ground lease lets the landlord retain the leading priority of claims on the residential or commercial property in case the tenant defaults on the loan for enhancements. Because the loan provider may not take ownership of the land if the loan goes overdue, loan experts may be reluctant to extend a mortgage for improvements. Although the property manager retains ownership of the residential or commercial property, they usually have to charge the renter a lower amount of lease.

Advantages and Disadvantages of a Ground Lease

A ground lease can benefit both the renter and the property manager.

Tenant Benefits

The ground lease lets a renter develop on residential or commercial property in a prime location they might not themselves purchase. For this factor, big store such as Whole Foods and Starbucks frequently use ground leases in their corporate expansion strategies.

A ground lease also does not need the renter to have a down payment for securing the land, as buying the residential or commercial property would need. Therefore, less equity is involved in getting a ground lease, which releases up money for other functions and improves the yield on using the land.

Any rent paid on a ground lease may be deductible for state and federal income taxes, indicating a reduction in the renter’s overall tax burden.

Landlord Benefits

The landowner gains a constant stream of earnings from the occupant while keeping ownership of the residential or commercial property. A ground lease usually includes an escalation clause that ensures boosts in rent and eviction rights that provide protection in case of default on rent or other expenses.

There are also tax cost savings for a proprietor who utilizes ground leases. If they offer a residential or commercial property to a renter outright, they will recognize a gain on the sale. By performing this kind of lease, they prevent having to report any gains. But there might be some tax implications on the lease they get.

Depending on the arrangements put into the ground lease, a proprietor may also have the ability to keep some control over the residential or commercial property including its usage and how it is developed. This indicates the landlord can approve or deny any modifications to the land.

Tenant Disadvantages

Because proprietors may require approval before any modifications are made, the renter might encounter obstructions in the usage or development of the residential or commercial property. As an outcome, there might be more limitations and less versatility for the renter.

Costs related to the ground lease process may be higher than if the renter were to purchase a residential or commercial property outright. Rents, taxes, improvements, permitting, as well as any wait times for landlord approval, can all be pricey.

Landlord Disadvantages

Landlords who do not put in the proper provisions and provisions in their leases stand to lose control of tenants whose residential or commercial properties undergo advancement. This is why it’s always crucial for both celebrations to have their leases examined before finalizing.

Depending upon where the residential or commercial property lies, using a ground lease may have higher tax ramifications for a property owner. Although they might not realize a gain from a sale, lease is considered earnings. So lease is taxed at the common rate, which may increase the tax problem.

What Are the Disadvantages of a Ground Lease?

A few of the downsides of ground leases consist of the possibility of residential or commercial property loss, loss of greater earnings due to market changes if rent increases aren’t constructed into the agreement, and tax downsides, such as depreciation and other expenses that can’t offset income.

Is a Ground Lease a Good Investment?

It can be. A ground lease lets an occupant develop on residential or commercial property in a prime area they might not themselves buy. They can invest their money in improving the residential or commercial property. On the other hand, a tenant may deal with limitations on what they can do with the residential or commercial property.

What Happens When a Ground Lease Expires?

Ground leases normally last decades so it will not expire anytime quickly. When it does, you’ll need to leave the residential or commercial property, and all structures and enhancements revert to the landlord. However, a lease can be extended. Prior to the expiration date, unless you or your landlord take specific actions to end the contract, it will just advance exactly the exact same terms till its end. You do not require to do anything unless you receive a notification from your landlord.

A ground lease is a contract in which a tenant can develop residential or commercial property throughout the lease duration, after which it is turned over to the residential or commercial property owner. Ground leases are frequently made by business property managers, who usually lease land for 50 years to 99 years to occupants who construct buildings on the residential or commercial property.

Tenants who can’t manage to purchase land can construct on the residential or commercial property and use the land, while property owners get a stable earnings and keep control of their residential or commercial property.

Schorr Law. “Lease Over 99 Years Is Void, Not Voidable.”

Macy’s. “Macy’s, Inc.
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