In the Spotlight: Exploring the 'Gray' Between Ground and Space Leases

One of the prime incentives to incorporate ground lease provisions into a retail space lease is that the landlord can achieve separate financeability for the lease. A landlord can obtain financing for a lease if the premises comprise a separate tax lot and zoning parcel, allowing the landlord to make the tenant liable for all real estate taxes, as well as operating costs. In such instances, however, the landlord must be extremely careful to reserve rights to the demised premises because the demised premises typically comprise not only the tenant's building and parking and related facilities, but also the “excess” real estate surrounding such improvements. In the absence of a specific provision allowing a landlord to make future improvements and lease or sublease such improvements to another tenant, the landlord foregoes its future rights to install billboards, cell phone towers, kiosks, and any other revenue-generating improvements (or, for that matter, any improvements that may positively impact on adjoining properties of the landlord) without first having to come hat-in-hand to the tenant to ask permission. This problem does not arise in normal space leases where the landlord's typical boilerplate language will reserve to the landlord the right to modify and augment common areas and any other portions of the shopping center so long as such changes do not materially adversely affect the tenant's use and enjoyment of its leased premises.

There are frequently varying shades of gray between a true ground lease and a space lease, particularly in retail real estate. The true ground lease is exactly that: a lease of ground ' dirt ' generally for a long term where the landlord has few, if any, obligations and, in fact, few rights other than to collect a rent stream which can only be interrupted in extremely limited circumstances. A space lease, of course, provides a landlord with varying responsibilities from construction to maintenance, repair, enforcement of other tenant obligations, etc., as well as creating various landlord rights such as use restrictions, radius restrictions, continuous operation provisions, etc. Landlords often get into trouble when they blend concepts from both ground and space leases without carefully considering whether the blend actually works throughout the lease term.

One of the prime incentives to incorporate ground lease provisions into a retail space lease is that the landlord can achieve separate financeability for the lease. A landlord can obtain financing for a lease if the premises comprise a separate tax lot and zoning parcel, allowing the landlord to make the tenant liable for all real estate taxes, as well as operating costs. In such instances, however, the landlord must be extremely careful to reserve rights to the demised premises because the demised premises typically comprise not only the tenant's building and parking and related facilities, but also the “excess” real estate surrounding such improvements. In the absence of a specific provision allowing a landlord to make future improvements and lease or sublease such improvements to another tenant, the landlord foregoes its future rights to install billboards, cell phone towers, kiosks, and any other revenue-generating improvements (or, for that matter, any improvements that may positively impact on adjoining properties of the landlord) without first having to come hat-in-hand to the tenant to ask permission. This problem does not arise in normal space leases where the landlord's typical boilerplate language will reserve to the landlord the right to modify and augment common areas and any other portions of the shopping center so long as such changes do not materially adversely affect the tenant's use and enjoyment of its leased premises.