Why Ground Lease REITs are Building In Popularity

As more residential or commercial property owners in need of liquidity usage ground rents to unlock capital, investor could enjoy the rewards.

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Numerous publicly traded property trusts (REITs) have actually dealt with challenges in the previous year, with returns mainly routing stock exchange indexes. But REITs that are focused on ground leases - owning the land without owning the structures that rest on it - have been an exception.

Splitting the ownership of industrial land from the buildings that sit on it isn't an originality. In some ways, it's the exact same financial structure that middle ages royalty utilized with its subjects. But the democratization of ground leases and their growing appeal is reflective of other type of securitization throughout the economy - developing narrower and more concentrated return characteristics to fit the needs of different classes of financiers.

And with business workplace real estate, in particular, in a popular state of post-lockdown upheaval, the ability to develop a de-risked realty asset has been warmly welcomed by investors.

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At present, Safehold (SAFE) is the sole openly traded ground lease REIT pure play. It will likely be among several on the market in the coming years, triggering other more traditional REITs to diversify their holdings with land leases.

We have actually already seen this with a mega-deal involving Real estate Income and Wynn Resorts. In a deal valued at $1.7 billion, Wynn Resorts sealed a sale/leaseback plan with Real estate Income, a traditional REIT, for its Encore Boston Harbor advancement, a hotel, casino and theater task 6 miles south of Boston.

Unlocking capital when in need of liquidity

Residential or commercial property owners are utilizing ground leases to open capital in areas where liquidity is lacking. With regional banking tightening up lending - even with the specter of lower rate of interest - we are now seeing land lease questions shoot up. In my own land lease specialized practice, we are fielding more questions from owners and developers in all property sectors.

One requires to just take a look at numbers promoted by Safehold. Tim Doherty, Safehold's head of financial investments, stated in a news release that the business has actually broadened land lease deals from 12 in 2017 to 130 in 2022, with the worth of the portfolio at more than $6 billion. He attributed the growth to a brand-new level of sophistication in the land lease market, adopting techniques such as predictability of lease payments, a relocation that leads to more efficient rates. Over the last three months of 2023, Safehold stock was up almost 40%.

Growing popularity of ground leases has not gone unnoticed. Three years ago, Dallas-based Montgomery Street Partners began a $1 billion REIT targeted on investments in the nation's top 50 markets. High interest from institutional investors triggered Montgomery Street to expand the pool to $1.5 billion in 2022.

Murray McCabe, a handling partner of Montgomery Street Partners, stated in a news release, "The strong demand we have actually seen for GLR's (ground lease REIT) follow-on equity offering validates our method and confirms that ground leases have progressed to end up being an acceptable and mainstream financing tool."

Clearly, ground lease financial investment funds are among the emerging patterns in realty. Ares Management and genuine estate private equity firm The Regis Group formed Haven Capital in 2020 to record growing land lease demand to, in their words, supply "a more efficient form of financing" that helps unlock possession value.

These current developments, along with total financing trends within the property industry, establish a pattern that's hard to disregard: Land lease activity, which has actually grown to a more than $18 billion market in 2022, will just see more offers announced over the next 10 years. By one price quote, the market could be near to $2.5 trillion in the United States alone, offering a considerable runway for expansion.

How does a land lease work?

Long a staple of family offices looking for a constant earnings and foreseeable stream from long-held uninhabited parcels in preferable areas, the land lease has become commonly accepted because the car presents a win-win circumstance for both the structure owner and the landowner.

How does a land lease operate? Typically covering a term of 50 to 99 years with renewal choices, a land lease REIT or sponsor acquires the land from the structure owner. This plan makes it possible for the developer to release crucial capital, directing it toward areas with higher return capacity. Simultaneously, the building owner retains full control of the possession while divesting the land below it, which, though useful in the development process, provides little go back to the total task. The lease is tailored to fit the job.

The Boston Harbor Development serves as an illustration of the enduring use of land leases in the hospitality market. Additionally, this method has found popularity in retail, fitness centers and fast-food outlets. Now, numerous industries are acknowledging the worth of this idea. Ground lease payments include established annual lease increases.

" Proof of concept continues to spread," Safehold's Doherty stated.

As the benefits to a project's capital stack become easily apparent, ground leases will gain broader approval and be routinely used as a crucial element in the realty market. Predictions suggest that ground leases will end up being mainstream within the next 5 to ten years, offering a spectrum of investment chances for astute gamers.

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How to Find the Best REIT Stocks.

Publicly Traded REITs vs. Non-Traded REITs: What's the Difference?

Real Estate Investing: How You Can Profit Now.

This post was composed by and presents the views of our contributing advisor, not the Kiplinger editorial personnel. You can inspect consultant records with the SEC or with FINRA.

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Jim Small is the Founder/CEO of Sante Real Estate Investments, an impact-based property business. For over ten years, he has actually partnered with ultra-high-net-worth people and family workplaces to acquire and manage thousands of multifamily assets across the U.S. and Europe, creating consistent returns and positive social effect.

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