Attorney Jeffrey Reich was proud of his 14-year-old daughter. She’d noticed that a luxurious Park Avenue cooperative was for sale at a relatively bargain price: under $4 million. “Is it because there’s a ground lease, Dad?” she asked him. She was almost certainly right.
Rare but tricky for boards and buyers alike, ground leases are a real estate instrument in which a cooperative or condominium corporation (or any other landlord) owns the building but only leases the land, usually for long periods of up to 99 years.
Attorney Steven Troup, a partner at Tarter Krinsky & Drogin, represents 2 Tudor City in Manhattan. “There’s a ground lease held by a family, and they refuse to sell, but they’re reasonable in negotiating rent,” explains Troup. “They look at it as a long-term income stream that’s stable, dependable. It converted to co-op in the early ’80s. The ground lease was renegotiated in 2000 and goes to February 1, 2150.”
In addition to the monthly maintenance or common charges, apartment owners pay a ground-rental fee. Unless the board takes any of a variety of actions before the lease runs out, an apartment’s market value diminishes. Hence, a generally lower sales price.
“The value of the space is only decreasing with time,” says veteran attorney Bruce Levinson. “It’s defying market forces, since normally real estate appreciates. Let’s say there’s a 75-year lease. You own the apartment for 25 years and the next person owns it for 30 years and they want to sell it.” But they may have trouble finding a buyer, and even if they do, a bank might not be willing to offer that buyer a loan knowing there’s little time left before the lease is up.
“If I’m a bank, I want to see significantly more than a 30-year lease because after 30 years the apartment’s not going to be worth very much,” notes Reich, a partner at Wolf Haldenstein Adler Freeman & Herz.
Adds Troup: “I typically advise my clients not to buy in a building that doesn’t own the land. Some clients are in situations where it might make sense to them, since prices of the apartments are 20 to 40 percent below what they would be otherwise. But maintenance is typically very high in a land-lease building.”
Another problem with such properties is that having an outside owner can complicate decision-making.
“Typically, to do an improvement to the building – not to replace a boiler or an elevator, but to install something new, like a roof garden or a rooftop pool – you have to get the consent of the owner of the land. In most cases, it won’t be unreasonably withheld, but it can really slow you down: it can take a year or more to negotiate these points, especially with owners who are foreign nationals. Communication is an issue, culture is an issue. You really are restricted [on] how you use the land,” says Troup. Still, he notes, “You can renovate your apartment; you can do that.”
Love at First Site
So why would anyone buy an apartment with a ground lease? “People fall in love with an apartment,” says Reich. “When you walk in, there’s no sign saying, ‘This is a ground-lease apartment.’ Then you go to a lawyer and hopefully he’s savvy enough to look at the offering plan and know what it means. I’ve told clients I thought they were making a bad business decision, and here are the risks, and they say, ‘Jeff, we appreciate your telling us about the risks, but we love the apartment.’”
“You learn to live with it,” says Anthony Notaro, board president of the Liberty Terrace condominium at 380 Rector Place in Battery Park City, the whole of which sits on ground-lease land. “It’s part of your whole cost of ownership. So there’s a tradeoff there, but the ability to live in such a beautiful neighborhood makes it all worthwhile for me.”
Fortunately for most apartment buyers, it’s not a tradeoff they face, since ground leases are uncommon, with the most prominent ones, according to Reich, concentrated mostly along Park and Fifth Avenues, where family real estate dynasties hold on to incredibly valuable land. And under the New York State Condominium Act, condos must own the land they’re on (the exceptions being Battery Park City and Roosevelt Island, which are owned by state agencies).
What options are there for a board at a ground-lease co-op or condo? Essentially three: negotiating to extend the lease, adjusting the rent, or purchasing the land.
That last proved successful at the co-op 2 Fifth Avenue in Greenwich Village, where former mayor Ed Koch was among the residents. In March 2005, nearly 20 years after the building went co-op, the shareholders paid the Rudin family $29.25 million for the land. The negotiations were lengthy and acrimonious, but urgent for the co-op: while the ground rental had increased only 4 percent a year, it could have jumped as high as 30 percent once the lease reached its 20th year.
“That’s one strategy,” says Reich. “Go to the landowner and say, ‘We want to buy the land. We’re willing to pay market value for it. You’re only making whatever it is per year,’ since if the lease was written in a way not favorable to the landowner, it might be trailing inflation. Otherwise, you don’t have a lot of leverage.”
A collection of condos at Battery Park City – where the state-owned land is administered by the Battery Park City Authority – successfully executed the other strategies: renegotiating the ground rent and lease terms. In May 2011, the Battery Park City Homeowners Coalition, representing 11 condominiums, worked with New York State Assembly Speaker Sheldon Silver to reduce an estimated $804 million the authority wanted to collect over three decades, bringing it down to a more manageable $525 million.
“We wanted to do a deal [that extended] to the end of the master lease in 2069, but the authority wound up doing a 30-year period,” says Notaro, who, in addition to being his condo’s board president, also chairs Community Board 1’s Battery Park City Committee. “We’ll probably go back to them and negotiate the remainder of the lease. For the next 15 years, we have roughly a 3 percent yearly increase. On the 15th year, we give them another increase, a fixed amount for each building. Even though each building differs in square footage, we tried to set roughly a similar dollar amount per square foot.”
Elsewhere, however, notes Reich, “some leases say, ‘We’re going to reset to 97 percent of the market value of the land.’ And because land values have skyrocketed in Manhattan, that causes some ground rents to increase a great deal.”
Indeed, sharp rental increases are the main danger of ground leases, not eviction. Theoretically, “At the end of 99 years, [a landowner] can say to a Trump or to anybody else, ‘All right, would you please remove that building?’” says Levinson. But there appear to be no such instances of this happening.
“I have never heard of a co-op situation where that has happened,” says Reich, who nonetheless cautions: “We’ll start to come up on co-op ground leases maturing. I know of ground leases that are going to mature in the next 40 or 50 years, and that sounds like a long time, but it’s really not in the world of real estate finance.”
Take the Long View
Shortsightedness will work against buyers and boards. “There are very few buildings in all of New York City that have a ground lease, and, frankly, most people don’t understand them,” Notaro says. “Nobody thinks about what’s going to happen 25 years in the future. They live in denial. I think it’s basic human nature: something that far in the future that’s a little complex, people say, ‘You know what? I’ll deal with it later on.’”
Since “later on” tends to arrive much earlier than people think, it behooves any board in a ground-lease building to develop long-term plans. Even after negotiating new ground-lease terms through 2042, the Battery Park City homeowners are staying on top of their situation. The coalition recently added six more condominiums, bringing to seventeen the number that are negotiating together. Observes Notaro, “In a sense, negotiations have already started. The authority has a new chief operating officer, Shari Hyman, and members of the homeowners coalition met with her about a month ago to let her know we wanted to start the process. She was receptive to sitting down and talking with us.”
Indeed, Notaro’s outlook could be the mantra for any boards facing a similar dilemma: “Something will be negotiated: a renewal of the lease, a takeover by the city, a sale of the land to us. No one’s worried that I’ll have to take my building and leave.”