Arizona is currently experiencing significant growth, with many businesses and residents relocating to the state. This rapid growth is helping to reshape the economic landscape of the state. A developing trend as a result of this transformation is the growing demand for ground leases, a unique property agreement that offers flexibility and financial advantages for both landlords and tenants. The surge in businesses, residents, and investors seeking opportunities in Arizona has created a thriving market for ground leases, which are being utilized to facilitate development and manage the rapid growth the state is witnessing.

Factors Contributing to the Business and Population Growth in Arizona

The current economic growth in Arizona is a result of a convergence of several factors, which have combined to create a flourishing environment for businesses, residents, and investors.

New Industrial and Technology Companies 

Arizona has become a hub for innovation, attracting technology companies, startups, and entrepreneurs. The state's focus on fostering a business-friendly environment has led to the growth of industries such as renewable energy, aerospace, and autonomous vehicles. This influx of innovative companies has generated job opportunities, drawing talent from across the country and driving population growth.

Low Corporate Tax Rates 

Competitive corporate tax rates have been instrumental in attracting businesses to Arizona. The state's favorable tax climate not only encourages new businesses to establish operations but also incentivizes existing companies to expand their presence, creating more jobs and attracting new residents.

Affordable Cost of Living

Arizona's cost of living is lower than many other states, particularly those on the west coast, such as California. This affordability makes Arizona an attractive option for both businesses and individuals looking to relocate. Lower living expenses, coupled with competitive wages, enable residents to enjoy a higher quality of life.

Housing Affordability

The relatively affordable housing market in Arizona is another significant factor driving the state's population boom. In comparison to neighboring states, Arizona offers a range of housing options, from single-family homes to apartments, at more accessible price points. This affordability attracts individuals and families seeking a better standard of living without breaking the bank.

Lower Taxes

In addition to low corporate tax rates, Arizona also boasts lower personal income and property taxes. These tax advantages help retain existing residents and attract new ones, further contributing to the state's population growth.

Climate and Lifestyle

Arizona's warm weather and sunny climate make it an ideal location for those seeking an outdoor lifestyle. The state offers a variety of outdoor recreational opportunities, including hiking, mountain biking, golfing, and even water sports. The appeal of this lifestyle attracts individuals and families looking for a healthier, more active way of life.

Proximity to Major Markets

Arizona's strategic location near major markets, such as California, Texas, and Mexico, provides businesses with easy access to essential trade partners and markets. This proximity also allows companies to leverage the resources and talent pools available in these markets while still benefiting from Arizona's business-friendly environment and lower costs.

Ground Leases 

A ground lease is a type of long-term property agreement in which a tenant leases land from a landlord and is permitted to develop and build improvements on the property, such as buildings or other structures. Ground leases typically span several decades, offering various benefits and considerations for both landlords and tenants.

Key Components of Ground Leases:

Lease Duration

Ground leases are characterized by their long-term nature, with lease periods often extending from 50 to 99 years. This extended duration allows tenants sufficient time to develop the property, recoup their investment, and potentially profit from the development.

Rent

Ground lease agreements outline the rent structure, which is typically based on a percentage of the land's value or a fixed amount subject to periodic adjustments. The rent may be subject to periodic reviews or escalations to account for changes in market conditions or inflation.

Tenant Rights

Tenants in a ground lease agreement generally have extensive rights to develop, use, and manage the property, subject to local zoning and land use regulations. These rights often include the ability to sublease, as well as the ability to assign or transfer the ground lease to another party, subject to the landlord's approval.

Advantages for Landlords:

Retaining Ownership

One of the primary advantages for landlords in a ground lease agreement is the ability to retain ownership of the land. When the lease term expires, the land and any improvements revert to the landlord, potentially increasing the property's value.

Steady Income

Ground leases provide landlords with a consistent stream of income, often with rent escalations built into the agreement to account for inflation or market changes.

Advantages for Tenants:

Lower Upfront Costs

Tenants in ground lease arrangements benefit from lower upfront costs compared to purchasing land outright. By leasing the land, tenants can allocate more resources to developing the property, which may result in higher returns on investment.

Potential Appreciation

Tenants can potentially benefit from the appreciation of the property and the improvements they have made. If the property's value increases over time, tenants may profit from selling or refinancing the improvements before the lease expires.

Ground leases are versatile and can be used for various types of property development, including retail, commercial, and residential projects. Prominent examples include shopping centers, office buildings, hotels, apartment complexes, and mixed-use developments. Ground leases are particularly popular for large-scale or long-term projects, where the benefits of the arrangement can be more fully realized.

The Role of Ground Leases in the Arizona Market

Ground leases have become an increasingly important tool in managing the rapid development occurring in Arizona. By offering a flexible alternative to traditional property ownership, they provide several benefits to the various stakeholders involved in the state's growth. 

Financing

Ground leases provide an attractive financing option for investors and developers by reducing the initial capital outlay required to secure land. By leasing the land instead of purchasing it outright, developers can allocate more resources toward construction and development costs. In some cases, lenders may view ground leases as a more favorable financing option due to the lower risk associated with not owning the land, potentially resulting in better loan terms.

Risk Management

Ground leases can help manage risks associated with property development. As the tenant bears the responsibility for developing the land and maintaining the improvements, the landlord's exposure to risks related to construction, market fluctuations, and property management is minimized. Tenants can also mitigate their risks by negotiating favorable lease terms, such as renewal options, rent adjustments, and subleasing rights.

Flexibility

Ground leases offer flexibility in terms of land use and development. With the ability to develop various types of projects, such as retail, commercial, or residential, tenants can adapt their development strategies to align with market demand and local zoning regulations. This flexibility enables developers to respond more quickly to changing market conditions and better capitalize on growth opportunities.

Examples of Ground Lease Use Cases in Arizona

Commercial Developments

Ground leases have been instrumental in facilitating commercial developments across Arizona, such as office buildings and industrial parks. With the influx of technology companies and the growth of new industries in the state, the demand for commercial spaces has increased, and ground leases have become a popular option for developers seeking to capitalize on this trend.

Shopping Centers

Ground leases have played a significant role in the development of shopping centers and retail spaces in Arizona. By leasing land to multiple tenants, landlords can generate a steady income stream while diversifying their tenant base. Tenants, on the other hand, can benefit from shared amenities and increased foot traffic, making retail ground leases a mutually beneficial arrangement.

Mixed-Use Projects

Mixed-use developments, which combine residential, commercial, and retail elements, have become increasingly popular in Arizona as the population continues to grow. Ground leases offer developers the flexibility to create diverse, community-oriented projects that cater to the needs of residents and businesses alike.

Challenges and Considerations for Ground Leases in Arizona

While ground leases offer numerous benefits to landlords and tenants, they also come with challenges that must be addressed to ensure successful developments. 

Negotiating Fair Lease Terms

One of the primary challenges in ground lease agreements is negotiating terms that are fair to both the landlord and the tenant. Key factors that require careful negotiation include rent structure, lease duration, renewal options, and tenant rights. To ensure a balanced agreement, both parties must be well-informed of market conditions and have a clear understanding of their respective rights and responsibilities. Engaging experienced legal and real estate professionals can provide valuable guidance and help protect the interests of both parties.

Land Use Regulations and Zoning Restrictions

Ground leases must adhere to local land use regulations and zoning restrictions, which can impact the type and scale of development permitted on the leased land. These regulations can be complex and may require modifications or variances to allow for the desired development. To navigate these issues, developers should consult with local planning and zoning authorities and engage land use attorneys or consultants to ensure compliance with regulations and secure necessary permits.

Environmental Concerns and Sustainability

As Arizona continues to grow, concerns about environmental impacts and sustainability become increasingly important. Ground lease developments must consider factors such as water usage, energy efficiency, and habitat preservation. Developers should strive to incorporate sustainable design principles and practices, such as green building technologies, low-impact development techniques, and native landscaping. In some cases, local governments may provide incentives for environmentally friendly developments or require adherence to specific sustainability guidelines. Working with environmental consultants and staying informed about local requirements can help developers address these concerns effectively.

Due Diligence

Proper due diligence is critical in ground lease agreements to ensure that potential risks and liabilities are identified and addressed. This process may include title searches, environmental assessments, surveys, and inspections. Additionally, both parties should carefully review and understand the terms and conditions of the ground lease agreement. Engaging experienced professionals, such as attorneys, surveyors, and environmental consultants, can help ensure a thorough due diligence process.

Financing Challenges

Although ground leases can offer attractive financing options, they may also present challenges in securing financing. Some lenders may be hesitant to finance ground lease developments due to the complexities associated with land ownership and lease terms. To mitigate these challenges, developers should work with experienced lenders and provide comprehensive documentation to demonstrate the viability and long-term stability of the project.

Future Outlook for Ground Leases in Arizona

As Arizona's population and economic growth continue to surge, the demand for ground leases is anticipated to remain robust. 

New Ground Lease Models

The evolving landscape of Arizona's economy and development needs may give rise to innovative ground lease models tailored to specific industries or types of developments. For example, customized lease structures could cater to the unique requirements of renewable energy projects, technology hubs, or mixed-use developments. These tailored models could offer enhanced flexibility, risk management, and financing options, further contributing to the popularity of ground leases in the state.

Impact on the Real Estate Market

Ground leases have the potential to shape the real estate market in Arizona by providing alternative financing options and attracting a broader range of investors. As ground leases become more prevalent, traditional property ownership models may be challenged, potentially leading to shifts in property values and transaction dynamics. Additionally, ground leases could contribute to the diversification of real estate portfolios as investors seek exposure to various types of property arrangements.

Attracting a Diverse Range of Investors

Ground leases can appeal to a wide variety of investors, including institutional investors, real estate investment trusts (REITs), and private equity firms. The long-term, stable income streams and potential for capital appreciation offered by ground leases can provide attractive risk-adjusted returns for these investors. As the demand for ground leases in Arizona grows, we can expect to see an increasingly diverse range of investors participating in the market.

Integration of Technology

As technology continues to advance, the integration of digital tools and platforms in the ground lease market could streamline processes and enhance transparency. For example, blockchain technology could be utilized for secure record-keeping and tracking of ground lease agreements, while advanced analytics and data-driven insights could aid in lease term negotiations and risk assessments.

Emphasis on Sustainability

As environmental concerns and sustainability become increasingly important in property development, ground leases in Arizona may be subject to stricter guidelines and incentives for eco-friendly projects. Developers may need to incorporate green building technologies, renewable energy sources, and sustainable land use practices into their ground lease projects to comply with local regulations and cater to the growing demand for environmentally responsible developments.

With more businesses and residents relocating to Arizona in recent years, it is easy to see why the ground lease is growing in popularity. As businesses, residents, and investors continue to flock to the state, ground leases will play a pivotal role in managing growth and providing opportunities for all parties involved. By fully understanding the benefits and challenges that come with a ground lease, businesses looking to establish themselves in the state can both capitalize on the growing local economy and contribute to its continued growth.

JOSHUA SIMON >

Founder & CEO

As Founder and CEO of SimonCRE, Joshua Simon leads the company's growth strategy while directing daily operations. He carries the torch for a team committed to developing projects that benefit clients and the communities they serve. When Joshua is not in the office, you will find him advocating for the CRE community, serving on a number of committee boards and appearing as an industry expert at various conferences.