When your searching for an investment property in Hawaii, you might notice that oddly some properties seem to be very similar to other properties except for one small detail: some seem to be marked down to 50% off! Growing up, my father always taught me to investigate when something seemed too good to be true, and it usually was. The lower price on these properties is typically due to it being a leasehold property; sometimes other factors like sky-high HOA fees cause this as well, but more often than not, it’s the leasehold status. In most places in the country, you won’t see leasehold properties for sale, and it may be unfamiliar to you; let me help shine some light on the topic.
What is a Leasehold Property?
A ‘leasehold’ is, in essence, a long-term rental contract. In a leasehold contract, you own your building or condo, but the land you don’t own, your only leasing or ‘renting’ the land, so to speak. In ‘fee simple’ ownership, by contrast, you own the building and the land forever. Many times leasehold properties will renew the land lease before the lease term expires; however, this doesn’t always happen and if the land owner chooses not to renew then you’d be forced to surrender your rights to the property at the end of your lease term.
This risk of complete loss of investment capital causes leasehold properties to actually decrease in value the closer they get to the lease term expiration. So from an investment standpoint, the only return you will ever see on your investment would be the gains you make from renting it out. This is in sharp contrast to a property that you purchase through a fee simple ownership. With a fee simple property, even if you choose not to rent that property out, the property will generally still appreciate and gain value over time. Hawaii has historically some of the best appreciation rates in the country, and this is a primary motivation for many property investors in Hawaii! If you buy a leasehold property, you’re basically passing on one of the best property investment advantages that Hawaii offers.
Another point to consider before entering into a leasehold agreement is that the party from whom you lease the land will charge you a monthly or annual leasehold fee. These fees are generally negotiated by the homeowners association, but the landowner typically has a big advantage in these negotiations. This is because the landowner has the unilateral power to not renew the land lease and can ultimately make the tenants surrender the property.
The Benefits of a Leasehold
So the leasehold doesn’t gain in value over time, it has limited return on investment potential, and you might find yourself kicked out of the property if the lease isn’t extended. ‘Tom,’ I can hear you asking, ‘why in the world would I ever be interested in a leasehold as an investment property?’
I’m glad you asked.
You see, there IS a reason to invest in a leasehold property. They typically cost much, much less to acquire than a fee simple property would. This shouldn’t be surprising; since you’re essentially renting the property, of course, the price will be lower than if you were buying. But the lower barrier to entry does stand as a potential benefit; less money needed to get into the property means less time before it potentially starts turning a profit for you.
I also had a client a while back who specifically requested a leasehold property because of their age; the client was of advanced years and didn’t mind the idea of the leasehold because–not to put too fine a point on it–they didn’t believe they’d be around to see the end of the lease. They saw it as a way to upgrade their living conditions without having to spend as much money as they would if they’d purchased the property outright. I can’t deny that such things can be a consideration when getting into leasehold properties, but I don’t generally recommend them as primary motivators.
You can probably guess where I fall on the issue of leasehold investment properties by this point. I don’t think they’re a good idea, and I always advise my clients to steer clear of them unless they have a unique set of circumstances. The next time you see condos that are listed at well below market value, or beach houses that have prices that seem too good to be true, don’t be too excited. These are often leasehold properties, and as the old saying goes, “things that seem too good to be true generally are.”
Want to Know More?
Whether you are new to real estate or you’ve been doing this for a long time, Hawaii is different than most other states. Getting help from an industry expert is really the best way to go. If you ever have a specific real estate question, just send me a quick email, call, or text. I love talking real estate, and I’m happy to help, no strings attached.
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