The Real Risks of Ground Leases in NYC

Context: what kind of risk are we actually pricing?

Before going through specific ground-lease risks, it helps to separate two categories. Structural risks come with the ground-lease form itself. Every ground lease has them, and they can only be priced, never drafted away. Drafting risks belong to a particular lease (gaps in leasehold-mortgagee protection, weak reset language, missing ROFR provisions) and vary widely between otherwise similar leases. Both matter, and mixing them up leads to bad pricing.

Good NYC ground-lease practice treats every lease as two jobs: a structural pricing exercise (model the form) and a drafting diligence exercise (read the actual document). Skip either one and the losses that follow were avoidable. The risks below mix both categories on purpose, because real underwriting has to assess them at the same time.

Risk #1: Fair-market-value reset volatility

The biggest leasehold risk in NYC ground leases is the FMV reset. One fair-market-value reset can re-rate ground rent by 200%, 300%, or more, particularly when the prior rent was set decades earlier against a far lower land value. The 1991 Empire State Building reset is the reference case, and resets at landmark hotel ground leases and Manhattan office ground leases have repeatedly produced step-ups of similar size.

What makes the FMV reset so dangerous is the valuation basis: as if vacant, at highest and best use, ignoring the existing improvements. A leasehold owner who spent heavily on renovations gets no credit for it at the reset. The land is valued as though the building could be torn down and replaced with the most valuable structure the site allows. That is consistent with the legal theory of the ground lease, and it still produces sudden re-ratings the leasehold had no control over.

Mitigation: model FMV reset scenarios at acquisition, using realistic land-value appreciation paths. Buy leaseholds with cushion, meaning enough operating cash flow to absorb the modeled reset without breaching the leasehold mortgage covenants.

Risk #2: The leasehold financeability cliff

A leasehold lender needs the remaining lease term to comfortably exceed the loan term plus an amortization tail. CMBS and life-insurance lenders typically want 25–30 years of lease term left at loan maturity. So a 99-year ground lease with 35 years remaining is already squeezing how long a loan can run, and below 30 years remaining, mainstream leasehold financing is scarce.

Because exit value depends on the next buyer's ability to get a leasehold mortgage, leasehold values start compressing 15–20 years before the cliff actually arrives. A leasehold with 45 years remaining and no extension agreement trades at a discount to the same lease with 60 years remaining, even though current cash flow is identical.

Mitigation: negotiate extensions or restructurings well before the financing window closes. Well-advised leasehold owners start extension talks 25–30 years before scheduled expiry, while they still have bargaining power.

Risk #3: Reversion risk at expiry

Without a negotiated extension, the leasehold reverts to the fee owner at expiry, typically with no compensation for the building improvements. This reversion risk is what defines a ground lease, and it is real even though it rarely plays out cleanly in NYC.

In practice, most commercially significant NYC ground leases are extended or restructured before expiry, because neither side wants to go over the cliff. The closer to expiry the negotiation happens, though, the more the extension terms favor the fee owner. Leaseholds that wait until the final decade routinely pay material extension premiums (large upfront capital payments, ground-rent step-ups, or both) to keep the asset.

Risk #4: SNDA and leasehold-mortgagee protection gaps

Older NYC ground leases, particularly those drafted before modern leasehold-mortgagee protections became standard in the 1980s and 1990s, often have weak or incomplete lender provisions. The common gaps:

• No explicit non-disturbance language protecting the leasehold mortgagee on tenant default.
• Inadequate notice-and-cure rights: the leasehold mortgagee doesn't get enough time to step in and cure a ground-rent default.
• Missing 'new lease' rights: the leasehold mortgagee cannot demand a new ground lease on the same terms if the original is terminated.
• Restrictive assignment provisions that limit the leasehold mortgagee's ability to take possession and re-tenant after default.

Each gap raises the cost of leasehold financing, and in extreme cases it leaves the leasehold uninsurable for institutional title underwriters. Experienced leasehold buyers have leasehold-mortgagee counsel review the SNDA provisions during diligence and price any weakness explicitly.

Risk #5: Fee-side risks (often overlooked)

Fee positions get marketed as bond-like and close to worry-free. They carry real risks all the same. For fee owners, those include:

• Discount-rate risk: fee values are highly sensitive to duration. A 100 bps move in long rates moves fee-position values 10–18%, depending on remaining term and reset structure.
• Leasehold tenant credit: ground rent is only as good as the leasehold tenant. A leasehold-tenant bankruptcy starts a complicated, SNDA-governed workout that can take years.
• Reset-appraisal disputes: FMV resets get litigated. The Empire State Building reset is the most famous example, but smaller reset disputes are routine and cost fee owners real legal fees.
• Reversion that arrives with deferred capex: a building handed back at expiry after decades of under-maintenance lands on the fee owner as a capex liability.
• Discounted prepayment risk: in distressed scenarios, the leasehold can push for a buyout on terms that favor the leasehold.

Risk #6: Systemic risks the post-2020 cycle surfaced

The post-2020 NYC office cycle tested ground leases in ways the conventional wisdom had not anticipated. Several Manhattan office leaseholds came close to covenant breach as office NOI fell below ground rent plus debt service. A handful of high-profile ground-lease defaults, including transactions involving Safehold's portfolio that drew investor attention to the asset class, raised the question of how ground-lease structures hold up in operating distress.

The lesson concerns one assumption. The standard ground-lease pricing framework assumes ground rent gets paid before operating distress bites, and a severe downturn tests that assumption. Investors on both sides are now layering in counterparty-credit analysis and stress-testing leasehold operating models against historical distress scenarios.

Risk #7: Concentration and leasehold-tenant credit

Ground-rent collection depends entirely on the leasehold tenant's continued ability to pay. In a single-tenant ground lease, where one operating owner holds the entire leasehold, the fee position's credit risk sits with that one counterparty. In a real sense, the fee position is an unsecured long-duration loan to the leasehold tenant, collateralized by reversion of an improved building decades from now.

That makes credit assessment of the leasehold tenant central for fee positions on operating commercial buildings. Institutional leasehold tenants (REITs, well-capitalized private operators, dedicated commercial real estate funds) present manageable credit. Smaller single-asset leasehold counterparties without substantial balance sheets concentrate the credit risk, and it should be priced explicitly.

Mitigation: SNDA structures with leasehold-mortgagee step-in rights, guarantees from the leasehold tenant's parent entity where available, and quarterly or annual financial reporting covenants from the leasehold tenant.

Risk #8: Capital-improvement obligations and building obsolescence

Ground leases typically require the leasehold tenant to keep the building in good condition through expiry. As expiry approaches, though, the tenant's incentive to spend on capital improvements drops sharply. Why put in a new HVAC system or replace a roof in the last decade of a ground lease when the improvements go to the fee owner at expiry?

The result is chronic under-investment in late-stage ground leases. Fee owners get back a building that has been under-maintained a little more each year; leasehold operators watch leasing slow as tenants notice the deferred capex. Modern NYC ground leases try to address this with capital-improvement covenants, reserves, and end-of-term restoration obligations, but enforcing and quantifying those obligations late in the term is still hard.

Obsolescence makes it worse. A 70-year-old building entering the final decade of its ground lease may be functionally obsolete (floorplates, ceiling heights, mechanical systems) on top of the deferred capex. Careful fee owners build the expected cost of obsolescence into their reversion-value estimates instead of assuming a fully maintained building comes back.

How Skyline Properties helps clients price and mitigate ground-lease risks

Skyline Properties advises both fee and leasehold buyers on risk-adjusted ground-lease pricing. Robert Khodadadian, featured in Commercial Observer's 2018 ground-lease Q&A, has spent more than a decade brokering and advising on Manhattan ground-lease trades, including reset-driven leasehold sales, fee-position dispositions, and leasehold extension structurings.

Every Skyline Properties ground-lease engagement includes a lease abstract review and reset-scenario modeling. Sellers and buyers both need to know which risks are priced into the current trade and which come with the lease form itself. On a typical leasehold disposition, the work includes SNDA review with counsel, reset modeling under several inflation paths, and a short list of buyer candidates whose investment criteria fit the asset's specific risk profile.