My team and I just brought a gorgeous new property to market at 175 East 62nd Street.
This building, also called The Victoria, is on the corner of 3rd Avenue, now just one block from the Q train, an incredibly central location on a very cute block with excellent coffee on the corner.
The Victoria is also what’s known as a “Land Lease Building.”
Assuming that you don’t know what this means, in New York City land leases are not as common as other ownership structures.
When the building was built, whether in 1960 (as East 62nd was) or 10 years ago, a land lease building is built on leased land.
So some entity, not the cooperative, owns the “ground” and whoever originally built the building created a long-term lease with the ground owner.
When launched, these buildings usually set up a 99-year lease, the maximum generally allowed by New York State law.
In England, Israel, and other countries, either the State or the Crown owns the land in these situations, and lease length can be far, far longer.
And if you didn’t realize it, these leases are the wealth of the Crown.
I’m sure Meghan Markle has been learning all about it…
But back to NYC.
We have seen new land-lease buildings built as recently as 269 West 87th Street, a building that is currently being completed, or the Azure (333 East 91st) a few years ago,
or elsewhere all over the East Side such as 190 East 72nd Street, 150 East 61st Street, 205 east 63rd Street, 303 East 57th Street, 420 East 51st Street, or even Trump’s building at 167 e 61st, which recently bought the underlying ground in 2015 for $185mm.
The structure, if used today, is usually created only because the developer can’t get a seller to actually sell the land.
Or perhaps the land is owned by the Catholic Church who won’t sell the land, or some other mitigating circumstance.
All of this is to say that it’s less common, and over the years, apartments in land lease buildings have been discounted to a degree because they usually have a higher monthly charge associated with the land lease itself.
Things have changed over the last 12 months, and I’ve been thinking that it’s time to revisit the structure and look at why there may be more value there, especially given the softer market.
Anything with “hair on it,” whether it’s a property that needs a renovation, or a land lease building, anything that’s hard to understand- it’s been overly discounted, in my view.
That is, there’s value in some of these situations.
Land Leases’ higher maintenance were seen as a drag on prices/values when one could deduct unlimited real estate tax, but not the cost of a ground lease payment.
At the end of 2017, real estate tax deductions have been capped at $10,000 PER YEAR, when they were unlimited in the past.
So now, quite different than before, the tax changes have leveled the playing field.
We’re now dealing more in the realm of psychology, not rationality.
It is time to really think through the numbers of buying in a land lease building and how they compare.
You’ll forgive me, but I’m going to nerd out on some math and finance for a few minutes.
If you want to skip to the bottom for the conclusion, be my guest!
Let’s take my listing on 62nd.
An 1800-2000 square foot, 3-bed, 3.5 bath that’s been meticulously renovated.
The maintenance is about $5000/month, which is about $1500-1800 more per month than a comparably-sized unit in the neighborhood.
For argument’s sake, let’s call the difference $2000 per month.
Our listing is asking $1.99mm.
Taking a comparable cooperative in renovation quality, in a similar post-war coop.
The maintenance might be in the $3000-3300/month range.
Let’s make sure it’s the same size.
Same amenities, great location.
This will likely cost in the range of $2.5mm in this market.
Assuming a small discount on both units, there should be a gap of $450-500,000 in sale price.
Again, you can find slightly smaller units with three bedrooms and lower maintenance, but we’re trying to compare apples to apples.
And both units, regardless of old tax deductibility numbers, are capped at $10,000/year, and a max mortgage deductibility based on $750,000 mortgage.
62nd Street: Over a 10 year period, the land lease terms are set.
We know that each year it will adjust based on Consumer Price Index.
The expectation is that CPI will rise 1.5-2% per year.
In 10 years’ time, we expect a 40% increase in monthly maintenance.
Don’t forget that the ground owner pays real estate taxes, so a buyer here doesn’t have to worry about taxes.
In all coops, we have seen maintenance levels easily go up by a similar amount over a 10-year period, due to meaningful real estate tax jumps (they’ve more than tripled in the last 12 years, for instance).
Over 10 years, you will pay an extra $288,000 in monthly maintenance, assuming a 4% increase in annual maintenance, which is 40% over a 10 year period.
Don’t forget that monthly maintenance may be offset by the landlease coop owning its retail (which is very common).
We will leave this aside for the purpose of this thought experiment.
See my spreadsheet if you want to see my math.
Since you are buying at a lower price, your mortgage will be lower.
The difference between mortgage payments over 10 years is $224,000 in the OTHER DIRECTION.
Don’t forget that only $750,000 is tax deductible, so a larger portion of the mortgage for the Vanilla coop is paid with after tax dollars.
Now- Were you to take the difference in purchase price ($450,000-500,000) and put it in a relatively conservative instrument, or even the S&P, you could earn in the 3-4% range on an ongoing basis (or more).
Assuming this, your $500,000 would become somewhere between $650,000 and $711,000.
So we’ll call it a $150,000 add on to be conservative.
In the end, buying the landlease building actually wins:
Here’s the math: $224,000 less in mortgage – $288,000 more in maintenance +
$152,500 profit if you invest the difference in original purchase price = $88,500 net gain
One more thing to add.
In a softer market like this, land lease buildings, or any buildings with higher monthly charges, have been beat up a bit too much, more of a discount to the rest of the market than when the Real Estate markets are stronger.
So there are some really well-priced properties out there right now, if you are willing to run the numbers on them!
Of course, you can just argue that no one will invest the difference in purchase price, or that I’m not taking a long enough view.
I actually disagree.
If you’re an empty nest couple, or an older couple with a nest egg, you are choosing whether to take money out of the markets for a real estate purchase, or to leave it where it is.
So this is a real situation.
If you’re a younger, high-earning couple, you may not have put together a large enough nest egg to allow you to purchase in a 50% downpayment building.
And so in this case you may not be choosing between investing in an apartment or keeping monies in the market.
In the end, perhaps you could argue that I’m talking my book, since I have a lovely land lease property to sell…
I just don’t think people give it much thought and may be missing out on a great property for their own situation.
Since the average time living in an apartment is less than 10 years, I think 10 years is actually more than most people need to consider.
And since the Land Lease was extended to 2099 at 175 East 62nd Street, you could forecast what your monthlies would be for another 80 years.
Though you’d definitely be wrong!
Fun with numbers!
For any more information, just give me a call or email.
I hope you had as much fun as I did.
And please email me to poke holes in my ideas above.
Have a great month! -Scott