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ground lease

Ground Leases-Friend or Foe?

On the surface, a ground lease seems like a simple concept: a landowner grants permission for a tenant to use their land in exchange for rent. This agreement seems easy to grasp, but if you look beneath the surface you will uncover some hidden details that often go unnoticed.

For starters, a ground lease allows the tenant the right to make improvements (e.g. build a hotel, retail shopping center, apartment complex, or even dig/drill) on land they do not own in exchange for annual rent. A typical lease term of a ground lease is between 50 to 99 years, with the tenant not only paying an escalating annual rent, but in most cases all the other expenses tied to the property. Ground leases have to be long term in nature to justify the tenant making improvements to land they will ultimately concede to the landlord upon the lease expiring.

Although it seems like there is not a lot of upside for the tenant, burdened by rent and other expenses to use land, there are a few benefits. For one, buying land can be expensive, especially when talking about development/acquisition deals in urban/populated environments. The ground lease agreement will enable the tenant to save upfront costs on land, which will free up capital for other expenses such as construction costs. Alternatively, maybe it is not a cost saving tactic, but simply the landlord is unwilling to sell a highly desirable parcel of land. Under this scenario, the tenant might be willing to engage because the project economics are too enticing to pass up.

The tenant will be saving costs upfront; however, over the long term, all these expenses attributed to a ground lease will most likely be higher than purchasing the land outright. Another disadvantage for the tenant is obtaining financing with an unsubordinated ground lease, because the landowner will have hierarchy of claims over the lender. The lender will not be able take control of the land upon default of the tenant, and therefore might lend less or not at all. Moreover, properties constrained with ground leases will continually lose value to reflect the landlord taking ownership of the improvements, as the lease gets closer to expiration. Lastly, the ground lease might be restrictive to how they develop the land or use it in the future, preventing the flexibility granted when the tenant owns the land free and clear.

Flipping the coin to the other party of the agreement, the landlord, also has upside and downside in entering a ground lease agreement. The first and most obvious advantage is the landlord still owns the land, making it a stable long-term investment, especially for family-owned land that needs to be put to economic use. Not only is the landlord collecting rent and most other expenses tied to the property, but the landlord is also benefiting from the appreciation in the land value as improvements are constructed on their land. Depending on how the lease is structured, the landlord might also retain control on how the land is developed in the future, requiring the tenant to seek approval before making dramatic changes to the property. Furthermore, renting out the land does not trigger a capital gains tax like it would during a sale; upon execution of the ground lease, no income tax event occurs until the landlord starts collecting rent.

While it might seem like the landlord is in the driver’s seat collecting rent with little to no downside, this isn’t entirely the case.  One big financial risk facing the landlord is the risk the borrower defaults on the loan. causing the landlord to lose the land, if the landlord is in a subordinate position to the lender.  Another down side for the landlord is that rent collected on a ground lease is taxed as ordinary income, which is taxed at a higher rate compared to the capital gains rate.  Lastly, borrowing against the equity built up in land under a ground lease can either be restricted or prohibited depending on the terms of the ground lease.

A ground lease agreement is more complex than initially meets the eye; therefore, obtaining financing for acquisition/development deals with ground leases can be difficult. Please contact any Senior Director at Metropolitan Capital Advisors to help you navigate the complex capital markets.

The Author, Andrew Hanzl, can be easily reached at

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5 Most Salient Points in Financing a Ground Lease

By Brandon Wilhite

ground-leaseAt Metropolitan Capital Advisors (“MCA”), a commercial real estate capital intermediary, we are continually tasked with assisting our clients in financing challenging projects.  Financing a ground lease, in which the lender’s mortgage is typically not secured by a fee interest in the real estate but rather by the borrower’s leasehold interest in the real estate, certainly qualifies as a challenging assignment as ground leases are notoriously difficult to finance.

A ground lease can be an effective way for a developer or end-user to gain long-term control of land (a “leasehold interest”) that a fee owner may otherwise not sell.  Such is the case when private property is being developed on public land that is not available for sale or when a private interest wants to retain long-term fee ownership in the land to eventually sell or, perhaps, to create an annuitized income stream to pass down a generation.  In fact, many holiday shoppers may be surprised to know that Northpark mall in Dallas was originally developed on a ground lease, as is the World Trade Center in New York (owned by the Port Authority).

While one could conceivably write a book (or a least a chapter or two) on the ins and outs of financing ground leases, we will just touch on the most salient points in this blog post.

First and foremost, as previously stated, the leasehold mortgage is secured not by the fee interest in the real estate but by the borrower’s leasehold interest in the real estate.  Therefore, in order for the ground lease to be financeable, it must have certain attributes that give a prospective lender adequate protection of its collateral.  In fact, the lender’s biggest risk is not a default by the borrowerbut a premature termination of the ground lease.  Such an occurrence would completely wipe out the lender’s collateral, giving it little recourse to recover the loss of principal.  It is, therefore, crucial that the ground lease give the leasehold mortgagee (the lender) rights and remedies similar to those afforded to real estate-secured lenders in the event of a borrower loan default.  The rights and remedies will typically include the right, without the landlord’s consent, to:

  • foreclose and sell the tenant’s leasehold estate and interests
  • assume the borrower’s lease
  • assign or sublease the assumed lease to a third party
  • cure the tenant’s default – ideally, the ground lease cannot be terminated by a default by the tenant that is curable by the leasehold mortgagee
  • enter into a new lease under the same terms and conditions as the original lease, if the ground lease is terminated by the landlord, so long as the leasehold mortgagee pays all back rent due

Additionally, in order for a ground lease to be financeable, it must have significant remaining term.  Lenders may require that the ground lease extend anywhere from 10 to 20 years beyond final maturity date of the loan so that the borrower will be able to refinance the loan at maturity.  In fact, in some states certain regulations will put requirements on the loan term as it relates to the remaining lease term  (i.e. ten years beyond the lease term or less than 4/5 of the remaining lease term).

Finally, in some instances it may be necessary for the landowner to agree to a subordinated ground lease in order for the prospective ground lessor to obtain the necessary financing, as opposed to an unsubordinated ground lease in which the leasehold estate is the primary security for the loan.  In a subordinated ground lease, the landowner allows the lender to place a lien against its fee simple interest in the land to secure the payment of the loan.  The lender will have a lien against both the fee simple interest in the real estate and the leasehold estate of the tenant.  In some cases, such as when the land is owned by a public entity (i.e. the Port Authority), this may not be feasible.

Although there are typically more hurdles associated with financing ground leases, so long as the lender is given rights and remedies similar to that of a real estate-secured loan, those hurdles can certainly be cleared.  If you have a ground lease in need of financing or refinancing, contact one of MCA’s Senior Directors to assist you in locating the best financing source. Or, if you would like, please fill out the form below, and we will contact you shortly regarding your financing needs of a ground lease or if you are needed a commercial real estate deal funded:

Posted on by Scott Lynn in Commercial Real Estate Finance 2 Comments