Why Ground Lease REITs are Building In Popularity

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As more residential or commercial property owners in need of liquidity usage ground rents to open capital, real estate financiers might reap the benefits.

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Numerous publicly traded real estate trusts (REITs) have faced challenges in the past year, with returns largely trailing stock market indexes. But REITs that are focused on ground leases - owning the land without owning the structures that sit on it - have actually been an exception.

Splitting the ownership of commercial land from the structures that sit on it isn't an originality. In some methods, it's the very same financial structure that middle ages royalty used with its topics. But the democratization of ground leases and their growing appeal is reflective of other sort of securitization throughout the economy - developing narrower and more focused return characteristics to fit the needs of various classes of financiers.
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And with industrial office realty, in specific, in a prominent state of post-lockdown turmoil, the ability to develop a de-risked realty possession 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 a number of on the marketplace in the coming years, prompting other more traditional REITs to diversify their holdings with land leases.

We've already seen this with a mega-deal including Real estate Income and Wynn Resorts. In a transaction valued at $1.7 billion, Wynn Resorts sealed a sale/leaseback plan with Real estate Income, a traditional REIT, for its Encore Boston Harbor development, a hotel, casino and theater job 6 miles south of Boston.

Unlocking capital when in requirement of liquidity

Residential or commercial property owners are using ground leases to open capital in areas where liquidity is doing not have. With regional banking tightening up lending - even with the specter of lower interest rates - we are now seeing land lease inquiries soar. In my own land lease specialty practice, we are fielding more inquiries from owners and developers in all realty sectors.

One requires to only look at numbers touted by Safehold. Tim Doherty, Safehold's head of investments, said in a press release that the business has expanded land lease deals from 12 in 2017 to 130 in 2022, with the value of the portfolio at more than $6 billion. He attributed the growth to a new level of elegance in the land lease market, embracing strategies such as predictability of lease payments, a move that results in more effective rates. Over the last 3 months of 2023, Safehold stock was up nearly 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 financial investments in the country's leading 50 markets. High interest from institutional financiers triggered Montgomery Street to broaden the pool to $1.5 billion in 2022.

Murray McCabe, a managing partner of Montgomery Street Partners, stated in a news release, "The strong need we have actually seen for GLR's (ground lease REIT) follow-on equity offering validates our technique and validates that ground leases have evolved to become an acceptable and mainstream funding tool."

Clearly, ground lease investment funds are one of the emerging trends in real estate. Ares Management and property personal equity company The Regis Group formed Haven Capital in 2020 to capture growing land lease demand to, in their words, provide "a more effective kind of financing" that assists unlock asset value.

These recent advancements, in addition to total funding patterns within the property industry, establish a pattern that's hard to ignore: Land lease activity, which has grown to a more than $18 billion market in 2022, will just see more offers announced over the next 10 years. By one quote, the marketplace could be close to $2.5 trillion in the United States alone, providing a significant runway for expansion.

How does a land lease work?

Long a staple of household offices trying to find a steady earnings and foreseeable stream from long-held vacant parcels in preferable areas, the land lease has actually ended up being extensively accepted due to the fact that the lorry provides a win-win situation for both the building owner and the landowner.

How does a land lease run? Typically spanning a regard to 50 to 99 years with renewal alternatives, a land lease REIT or sponsor obtains the land from the building owner. This plan allows the designer to release vital capital, directing it towards areas with higher return capacity. Simultaneously, the building owner keeps complete control of the possession while divesting the land below it, which, though beneficial in the development procedure, provides little return to the total project. The lease is customized to fit the task.

The Boston Harbor Development functions as an illustration of the long-standing use of land leases in the hospitality industry. Additionally, this technique has actually found appeal in retail, health and wellness facilities and fast-food outlets. Now, numerous industries are recognizing the worth of this concept. Ground lease payments include fixed yearly lease boosts.

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

As the advantages to a task's capital stack become readily evident, ground leases will acquire wider approval and be routinely employed as a key aspect in the realty market. Predictions recommend that ground leases will become mainstream within the next 5 to 10 years, offering a spectrum of financial investment chances for astute players.

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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 article was written by and provides the views of our contributing consultant, not the Kiplinger editorial staff. You can examine advisor 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 company. For over 10 years, he has actually partnered with ultra-high-net-worth people and household offices to acquire and handle thousands of multifamily assets throughout the U.S. and Europe, producing consistent returns and positive social effect.

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