Ground Leasing — Unlocking Opportunities in Real Estate
Ground leasing is gaining traction in real estate development, benefiting landowners and developers. It creates a mutually beneficial arrangement for the two parties without any land sale, increasing growth and development opportunities.
A ground lease is an agreement between a landowner, called a lessor, and a tenant, known as the lessee, where the former transfers their land usage rights to the latter for a given duration. The tenant is usually a developer in most cases. During this period, the tenant can develop property on the land and earn income from it. A typical lease period ranges from 50 years to 99 years. After the lease period elapses, the tenant hands over the property to the landowner.
The ground lease spells out who owns the land and who owns the property on it. Some landlords prefer this option to sell the land since they retain land ownership and earn an income. The tenant incurs all applicable expenses, including taxes, insurance, property financing costs, construction, repairs, and renovations.
Ground leasing opens real estate opportunities. For the landowner, besides earning a stable income, the lease contains an escalation clause. An escalation clause dictates that the landowner can periodically increase rent and provides eviction rights and other protection mechanisms if the tenant fails to pay rent and other expenses.
The owner also gets some tax benefits. If they were to sell the land, they have to report the gain and get taxed accordingly. Still, when they rent the property, they have other tax obligations, including income tax from the rent they receive. However, this is not as much as what they would pay to sell the land.
Some landlords may retain control over the land depending on the lease’s terms and conditions. This includes decisions on how the tenant should use the land and what properties to develop. Thus, they may accept or deny the tenant the right to change the land.
Meanwhile, the tenants get access to land without buying it. The land may be a prime property that would benefit them once they develop properties such as rental houses since it may attract potential house tenants. A prime property is land near cities, schools, and shopping malls.
Again, real estate development projects take time due to processes such as design and construction. This is the main reason land leases get lengthy terms of up to 99 years. Consequently, this provides security to the lessor and lessee because the extended period guarantees them that the project will be completed and they will both earn returns on their investments.
Despite these benefits, it is important to know the risks of the arrangement. If the tenant goes bankrupt, the landlord loses their income. The landlord may incur more losses since it may take time to get another tenant. Similarly, the developer loses the property and any income it generates.
There are also some tax implications for the owner. The structures built on the land depreciate, considering the typically lengthy lease term periods. However, land doesn’t depreciate, and there is usually no additional income to offset depreciation.
