Ground lease, nnn deals! What am I missing here?

Ground lease, nnn deals! What am I missing here?

Orlando, FL · Member since 2018 · 3 posts · 0 votes

So my family has been involved in commercial real estate for a while. More specifically, we've bought and converted two hotels that we converted to other brands which we went on to sell. We've also built one from the ground up that we've been operating for many years now. To diversify our portfolio, we've built two other businesses that we also run ourselves. Even though everything is working smoothly, it's an operational headache. 

Because of this, I've been doing some research on ground leases and nnn deals but everything I've been seeing is from the investor side. What is like from the developer side? I've found a couple properties that I think would be good for something like a wawa, walgreens, cvs, etc. How do I go about creating the ground lease nnn deal and selling it? To make things simpler, I want to only be involved with the site acquisition, I want find a credit worthy tenant that will build their own structure, and then I want to sell the whole package.

Why don't more people with this kind of capital look into doing this? 

My supplementary question is, why do these credit worthy tenants agree to a 20-25 year ground lease where they have to build the structure and then eventually give it up to the owner? This seems very costly for the tenant.

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Attorney · Durham, NC · Member since 2016 · 224 posts · 126 votes
8y
Saving on the land acquisition costs (especially in very expensive markets) and getting the benefit of deducting lease payments are two reasons a ground lease can be attractive to a tenant. That said, the cost of a ground leasing property can be higher in the long term, tenants can have less flexibility over the development, use, and operation of the property due to lease restrictions and, to the extent the leasehold interest is used as a financing tool, it’s value and marketability diminishes over time as the lease term approaches its end. In some cases, a landlord may insist on a ground lease (for reasons like avoiding a taxable gain on sale or maintaining control of the land and the use of the property).
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  • Joel OwensBusiness Member
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    Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes
    8y

    Only a small percentage agree to ground leases. Pharmacy very rarely agrees to a ground lease. Usually they agree when the land owner will not sell the land to them but they really want the site as a location for their business.

    Typical is put the site under contract and then market to a tenant. Loi then lease from tenant and make sure site plans and zoning is approved before closing on the land. Then market the land to sell as a ground lease.  

  • Attorney · Durham, NC · Member since 2016 · 224 posts · 126 votes
    8y
    Saving on the land acquisition costs (especially in very expensive markets) and getting the benefit of deducting lease payments are two reasons a ground lease can be attractive to a tenant. That said, the cost of a ground leasing property can be higher in the long term, tenants can have less flexibility over the development, use, and operation of the property due to lease restrictions and, to the extent the leasehold interest is used as a financing tool, it’s value and marketability diminishes over time as the lease term approaches its end. In some cases, a landlord may insist on a ground lease (for reasons like avoiding a taxable gain on sale or maintaining control of the land and the use of the property).
  • Orlando, FL · Member since 2018 · 3 posts · 0 votes
    8y

    Thank you Joel and David for the quick reply!

    I've seen some listings that were marked as "ground lease, nnn lease". Can a ground lease also be a nnn lease or is this a mistake? 

    Seems like it would be difficult and risky to get into this but I'd still like to learn about it anyway. Any good books on this topic that you guys would recommend? 

  • Chicago · Member since 2017 · 44 posts · 9 votes
    8y

    @Joel Owens, is it legal to receive LOIs from potential tenants while under contract to buy land?  I have a situation where there are several potential tenants that are interested in a ground lease. I'm under contract to purchase the property and will be going through the land use approvals process soon however wasn't sure if it was normal to start receiving LOIs at this stage. 

  • Syndicator and Fund Manager · Victor, NY · Member since 2012 · 760 posts · 345 votes
    8y
    Gene Han not only is it legal, it’s recommended. Unless you’d rather drag out the cost / process...
  • Chicago · Member since 2017 · 44 posts · 9 votes
    8y

    @Derek Carroll, thanks for the input. I wasn't aware that this was the case. 

  • Chicago · Member since 2017 · 44 posts · 9 votes
    8y

    @Derek Carroll, does this apply to lease agreements as well? Or can we accept LOIs while we're under contract

  • Syndicator and Fund Manager · Victor, NY · Member since 2012 · 760 posts · 345 votes
    8y
    Originally posted by @Jean H.:

    @Derek Carroll, does this apply to lease agreements as well? Or can we accept LOIs while we're under contract

     as soon as you start to look at a property you're going to want to know what your options are for it.  Once you tie it up you can get real serious with negotiations with end users.  Get a lawyer, you're not going to enter formal agreements or they will be contingent upon closing on the deal.  In a perfect world you'd close on both the same day.  you'll want to have an idea ahead of time of who the likely users of the land/space are otherwise you're taking it down on spec.  not a bad option but risky and could hold it for a while.  use your due diligence period to get serious with negotiations for a user. 

  • Orlando, FL · Member since 2018 · 3 posts · 0 votes
    8y
    Originally posted by @Derek Carroll:
    Originally posted by @Jean H.:

    @Derek Carroll, does this apply to lease agreements as well? Or can we accept LOIs while we're under contract

     as soon as you start to look at a property you're going to want to know what your options are for it.  Once you tie it up you can get real serious with negotiations with end users.  Get a lawyer, you're not going to enter formal agreements or they will be contingent upon closing on the deal.  In a perfect world you'd close on both the same day.  you'll want to have an idea ahead of time of who the likely users of the land/space are otherwise you're taking it down on spec.  not a bad option but risky and could hold it for a while.  use your due diligence period to get serious with negotiations for a user. 

     Is it reasonable to ask for a 60-90 day due diligence period for this purpose? Also, I spoke with a real estate broker recently and they mentioned preleasing. What exactly is this and do people do this in practice?

  • Syndicator and Fund Manager · Victor, NY · Member since 2012 · 760 posts · 345 votes
    8y
    Originally posted by @Sundeep Singh:

     Is it reasonable to ask for a 60-90 day due diligence period for this purpose? Also, I spoke with a real estate broker recently and they mentioned preleasing. What exactly is this and do people do this in practice?

    You can ask for it and it's not unheard of but if you're in a competitive bidding situation then an extended due diligence period will hurt your chances of winning the deal. If it's a private off market negotiation I'd have no problem asking for 90 days but prepare to be negotiated back to 30. Keep in mind that you can often buy a week or two addional from time of LOI until purchase contract is drafted and executed.

    Preleasing to me generally means some sort of multi tenant product being newly constructed and owner enters into lease agreements to commence upon completion. The broker also very well could have been talking about existing space being marketed by a buyer before closing on the purchase. 

  • Rental Property Investor · Chicago, IL · Member since 2018 · 3 posts · 4 votes
    8y
    In answering your ‘supplemental’ question... Developers are excited to enter into these deals because they can do so with little or no equity into the deal. By selling the leased fee (the dirt) and entering into a high leverage loan on the leasehold (the improvements), they might be as high as 105% LTV on both pieces. Keep in mind that as long as he holds the real estate with the loan... he doesn’t pay any income tax on the excess proceeds. Layer that with a healthy developer fee and a number of other tax benefits related to zero cash flow and Section 467, and these deals wrote themselves. Problem is that generally the leases are flat and owning high $/SF real estate when your tenant vacates is a very serious issue.
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