Everything You Need to Know About the Master Lease
What is a master lease?
A master lease is the lease that is in control of subleases (subsequent leases). It’s a lease through which existing lessee (master lease investor) is allowed to lease additional assets under the same terms and conditions without the need to negotiate a new contract to the existent lease.
A master lease guarantees the rights of the lessee. It helps create solutions for any investment dilemma. Master Lessee have two main rights under a master lease:
- The right to monitor the asset for a limited period of time.
- The right to sublease the asset.
The aforementioned rights pave the way for a master lease investor to obtain cash flow assets, even though he/she might have a limited cash capital.
Is the meantime good for master leases?
In the meantime, owners cannot sell their properties because prices are still low from the heights when a lot of them purchased their homes and not all buyers can apply for mortgages. However, everyone is in need of a place to live. That leads to a growth in rental rates.
The growth in rental rates and the difficulty in selling real estates are considered ideal for adopting the master lease method but with the right sellers.
What characteristics the right seller has?
If you’re a master lease investor, you should be selective when it comes to who you can approach the strategy of master lease with.
The great thing about this approach is that it’s open to any owner. Yet, there’re specific owners who are more open to it. These owners are:
- Free owners who wish to sell for a certain price and can’t obtain it in the current market with its current environment; they are motivated to obtain that number and might not need the whole cash in the meantime, and at the same time they don’t like renting.
- Owners who purchased their assets at the market’s height and wish to sell, but they can’t because the market value is less than the original price at which they purchased them. Such owners are possibly encouraged to accept any master lease.
What are the types of master leases?
The master lease can be broken down into two types:
- The performance master lease: according to this type, the master resident is required to pay a certain percentage of the funds they get from their sub-resident.
- The fixed lease: according to this type, the master resident is required to make payments even though they don’t have a sub-resident.
There are several hybrids stating that every owner has their own different needs. You can negotiate the aspects of your own master lease as a master investor.
Those aspects include the variable rent, the fixed rent, the terms and conditions, the escape clauses, and the liability of the expenses.
The point is to draft your files by design not by default with the owner.
What are the risks associated with this approach?
A lot of investors are more skeptical about adopting a master lease than they are about purchasing an investment property.
Many experts believe that these fears are irrational because it’s easy to cancel a lease than to get out of title. In this case, the risk of liquidity is mitigated when under a master lease strategy.
Some investors believe that they should have a license under the brokerage law of real estate business to be able to enter into a master lease. To their surprise, this isn’t true! Property managers are the ones required to get licensed since they maintain a fiduciary relationship with the principals.
What are the pros of a master lease?
A master lease is a great choice that paves the way for any future negotiations. It offers you the chance to build the kind of relationship that eases the way for any future purchases.
Never think that your master lease is your final negotiation. It can be your first way to negotiations, leading to many future ones.
What are the cons of a master lease?
You may experience a risk related to your first payment to the owner. That is, you will still be paying the rent to the owner even though the sub-tenant stops paying.
You will have cash flow variability related to undesired repairs, leading to negative cash flow. You can eliminate this risk by carrying out an inspection before you master lease the investment.
As a master lease investor, you’ll need to deal with landlord tenant court. This risk is mitigated by underwriting the tenants. In this case, you’ll be able to get rid of bad tenants.
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