Stay Away from NYC Ground Lease Co-ops!
Ground leases are relatively common in New York City commercial real estate. Some of New York’s most notable properties, like the Chrysler Building, are encumbered by one. In a ground lease, the owner of land leases it to a developer with the intent that the developer will build something valuable on it. The term of a ground lease is typically very long (for example, 99 years). The developer pays the ground lessor a fixed rental payment (like any other lease). This payment resets at various points during the lease term, typically according to the market value of the land (without considering the value of the improvements). At the end of the lease term, the ground lessor can take the land back with all improvements, but very often the leases are renewed.
Except in Battery Park City, ground leases are not typically found in residential co-ops and condominiums. Among other things, they add a layer of costs on top of each unit owner’s maintenance/common charge payments, which can become rather considerable with each rent reset. This makes the apartments less marketable. In turn, they generally sell at a significant discount to comparable units in buildings unencumbered by ground leases.
The normal co-op structure is that each apartment “owner” is a shareholder in a corporation that actually owns the real estate in which the apartments are located. With a ground lease, the corporation does not own the real estate but, rather, leases it from a real estate investor pursuant to a ground lease. At the end of the lease, the equity of all shareholders in the co-op can conceivably be wiped out if the lease is not renewed, as the corporation will no longer own any assets. This essentially reduces its shareholders to the status of renters. This diminishes the leverage held by the co-op to negotiate favorable rental terms in a new lease.
Very often, the co-op buys the land at an exorbitant price (at a tremendous expense to its shareholders). If they cannot muster the funds, they agree to painful one-sided terms favorable to the ground lessor. This separation of interests also creates the very scary prospect of a ground lessor selling the land to opportunistic investors looking to capitalize on the rent resets that will occur during periods of rising land values. This is a common situation in the news today as land prices break new records every day.
Examples of Ground Lease Co-ops in Trouble
The land underneath the Carnegie House co-op, located at 100 West 57th Street, just sold to a group of investors for $285MM, and the land underneath the Trump Plaza co-op on East 61st Street is currently on the market. This situation is terrifying for co-op unit owners, as the only reason why investors would purchase a co-op ground lease is to make money on it – that is, escalating the ground rent as high as possible based on the then-existing market price of the land. According to an analysis by The Real Deal, at current market prices, the Carnegie House co-op’s annual rent owed pursuant to the ground lease could increase from $4.4MM/year to $27MM/year! Imagine what that would do to your maintenance payments!
So, if you’re ever searching Streeteasy and become enamored with a 2br/2ba co-op with a beautiful terrace that is priced comparably to a studio, but has unusually high maintenance costs, turn away fast and continue your search. It is probably encumbered by a ground lease. Do not try to convince yourself that it’s worth it because of the low price tag. You do not want to mess with a ground lease co-op!
If you’d like to understand more about ground lease co-ops, please reach out to me at [email protected] or (917) 675-0037.