Understanding how properties are sold and acquired in Hawaii is sometimes challenging for the professional realtor as well as the property purchaser or renter. Now, of course this depends on the terminology used in specific buyer/seller transactions. Let’s explore one such transaction that involves two specific kinds of properties with their similarities and differences.
Fee Simple versus Leasehold. A fee-simple property is one where you own the property and the land that it sits on. A leasehold property is one where you own the property, but not the land that it sits on. A ground lease sets forth the terms between lessor(land-owner) and leasee which includes the monthly rent and time period. As the property owner you’d pay rent to enjoy and use the land for a fixed amount of time. Upon expiration of the lease, all property ownership reverts back to the land owner.
With leasehold, the title of the property is given to the buyer, who now has the right to use the property for a specific amount of time. The property includes the land and any improvements done to the land. When the land-owner enters the agreement with the buyer, a ground lease is formed. Once the ground lease is formed, a leasehold interest is created and the leasehold buyer has full rights to the property. It’s important to note here that the buyer of a leasehold property does not have ownership of the land at anytime.
In Hawaii, an owner or lessor leases property to buyers or lessees for certain time periods. This is considered a leasehold property. In turn, the lessee is allowed to occupy the property, pay rent, and property taxes for the time period specified in the lease agreement. Lease periods in Hawaii are usually quite long, spanning beyond the normal 30-year mortgage.
An ownership scenario where the buyer purchases the property for indefinite use, is fee simple ownership. The usual payments are required, including maintenance and/or association fees (if applicable) to remain in good standing with the property purchase agreement.
Fee Simple and Leasehold are common “Land Tenure” statuses in Hawaii. Fee simple properties are typically more expensive than leasehold properties. However, most every buyer would rather fee simple, but they are not affordable to everyone. Leasehold properties tend to decline in price the closer they get to expiration. If there is a property priced cheaply on the market, it could mean that there are only a few years left on the lease.
Sometimes buyers may find themselves in the position of needing a mortgage loan to make the property purchase. In order for most mortgage companies to consider the loan, they require that the lease remaining on the property be five years longer than the loan they request. For instance, 35 years would have to be remaining on the property lease to acquire a 30-year mortgage loan.
In Hawaii, leasehold properties are hard to compare. Each property comes with different fee purchase prices, monthly payments, and lease terms. Due to the many lessors in Hawaii, each has their own way of designing the lease agreement. The process might be easier if there were two land parcels similar in size or two condos in the same building with comparable lease terms.
Although leasehold properties seem like a great deal, there are certain risks associated with purchasing these properties. The different lease terms may impact the market value of your unit. This decline in value can happen even during a market rise. While there is no guarantee for when values will drop, they have been discovered to drop when there are between 25 and 35 years left on the lease. One of the reasons for this drop in value is due to the perception that lease properties are high risk, because the remaining time is lower on the lease. This means it may take longer to recoup your money from the property.
Say you buy a leasehold property at a bargain with only 10 years left on the lease. Seven years down the line when you make the decision to sell the property, you have only three years left on the lease. Now your new buyer gets an even better deal, because the lease is so close to expiration. However, there is a surrender clause that says all ownership of any improvements or dwellings on the land go back to the landowner. There are situations where terms of a lease can be re-negotiated.