Hotel Appraisal - Fee Simple vs Leased Fee

[Russ Kitzberger]

The AI has been hammering the position that a lease less than 30 days, or some other short period of time, does not create a leased fee interest. 10 years ago I was taught, incorrectly, that if a lease was expired and month to month, or if the lease expired before the end of the estimated marketing and exposure time (usually 12 months) then there's not a leased fee interest. They are currently teaching that any consideration exchanged for the right of use as of the effective date results in a leased fee interest.



My particular situation involves a small lender that probably doesn't really understand fee simple vs leased fee and they didn't request one or other. This leaves it up to me to simply tell them if there's a leased fee interest in the subject and address it accordingly in the report. Which brings me back to my original question: does the AI stance that any exchange of consideration for the right of use result in a lease fee interest in a hotel? This is a technicality that doesn't impact the property's market value; but is there is a legal interest (leased fee) inherent in an operating hotel because it meets the AI's stance on what creates a leased fee interest? I'm just trying to figure out if it needs to be addressed in the report because there is technically a leased fee interest.

If the subject of the report is the fee simple interest, then the current lease needs to be analyzed and its reflection to market rent be summarized.

If the subject of the report is the leased fee interest, then the current lease needs to be analyzed, and the interim income reconciled relative to the market rent. If there is a chance the tenant could create issues for a potential purchaser as of the effective date, then that should be reconciled. Such as a tenant who has some sort of holdover provision, etc.

I think what AI is alluding to is that if there is a lease on any part of the realty, then a leased fee, or saleable value, or going concern should incorporate those provisions. A fee simple value, however, only should reflect the unencumbered property at market rate and term leases.

So, yes in your case you have a tenant who has a leasehold interest at the terms in the lease and 30 days at a time. The owner has a leased fee interest. If they said they wanted you to value the interest in place it is leased fee. But it is probably minor effect, because it can revert to fee simple in a short time with notice to the tenant to vacate. If they want you to value the interest that would be subservient to a mortgage, they should get a fee simple, as they should get a subordination agreement from the tenant before funding the loan.

That is a conversation for the client on what they intend to do, whether they will place a mortgage on the property and whether it is subservient to the lease.

 

[JL-]

Generally, the valuation of a hotel will be of the going concern, with allocations to the real estate, FF&E and business. The allocation of the real estate component would be of the fee simple Interest.

Correct, I appraise multiple hotels a month and allocate value as you point out. The question remains, is there an inherent leased fee interest in a hotel because of the consideration exchanged between hotel guests and the hotel in exchange for right of use of the room for a night? So, does the AI look at a nightly hotel rental the same as they would look at an apartment complex with tenants that are all on month to month terms with no legal rights beyond a month long window? In the multi-family example the AI says there is absolutely a leased fee interest but I'm not convinced the same applies to a hotel.

 

[Russ Kitzberger]

Correct, I appraise multiple hotels a month and allocate value as you point out. The question remains, is there an inherent leased fee interest in a hotel because of the consideration exchanged between hotel guests and the hotel in exchange for right of use of the room for a night? So, does the AI look at a nightly hotel rental the same as they would look at an apartment complex with tenants that are all on month to month terms with no legal rights beyond a month long window? In the multi-family example the AI says there is absolutely a leased fee interest but I'm not convinced the same applies to a hotel.

It would depend on the legal lease terms (and regulations of law). Recently, in some jurisdictions, due to COVID, if you were appraising a hotel and there was a tenant, they may have a legal right not to be evicted. I also can say from knowing legal tenant issues, even on a month to month in a Multi-Family, a landlord might spend a year to get a tenant out in some jurisdictions. I don't think AI can broad-stroke how many hours or days is a leased fee, that is dependant on the one off tenant/landlord legal rights as of the effective date of the analysis.

 

[JL-]

It would depend on the legal lease terms (and regulations of law). Recently, in some jurisdictions, due to COVID, if you were appraising a hotel and there was a tenant, they may have a legal right not to be evicted. I also can say from knowing legal tenant issues, even on a month to month in a Multi-Family, a landlord might spend a year to get a tenant out in some jurisdictions. I don't think AI can broad-stroke how many hours or days is a leased fee, that is dependant on the one off tenant/landlord legal rights as of the effective date of the analysis.

Agreed. But I'm talking about a Hampton Inn with no leases encumbering the property. My co-worker, he got his MAI a couple years ago so he's been deep in the AI weeds more recently than I have, is telling me that there is a leased fee interest because hotel guests and the hotel owner have exchanged consideration for use of the property. No weekly or monthly guests/tenants with special leases/agreements, just your run of the mill Hampton Inn. I suspect that a hotel guest does not enjoy the same rights to the property that an apartment or retail renter has and therefore the AI stance on what creates a leased fee interest does not apply to a hotel.

 

[Russ Kitzberger]

Agreed. But I'm talking about a Hampton Inn with no leases encumbering the property. My co-worker, he got his MAI a couple years ago so he's been deep in the AI weeds more recently than I have, is telling me that there is a leased fee interest because hotel guests and the hotel owner have exchanged consideration for use of the property. No weekly or monthly guests/tenants with special leases/agreements, just your run of the mill Hampton Inn. I suspect that a hotel guest does not enjoy the same rights to the property that an apartment or retail renter has and therefore the AI stance on what creates a leased fee interest does not apply to a hotel.

Any party that has a contract to encumber the fee simple could be considered as having a leasehold interest and the owner creating a leased fee interest. Doesn't change your assignment which is a legal interest that should be defined at the onset of the project so you can scope the project.

You are not required by USPAP to label the leases in place, just describe it and analyze it relative to the legal interest that is the subject of the project. If you are valuing the leased fee or leasehold, then line 540 applies from USPAP.

 

[PL1957]

Agreed. But I'm talking about a Hampton Inn with no leases encumbering the property. My co-worker, he got his MAI a couple years ago so he's been deep in the AI weeds more recently than I have, is telling me that there is a leased fee interest because hotel guests and the hotel owner have exchanged consideration for use of the property. No weekly or monthly guests/tenants with special leases/agreements, just your run of the mill Hampton Inn. I suspect that a hotel guest does not enjoy the same rights to the property that an apartment or retail renter has and therefore the AI stance on what creates a leased fee interest does not apply to a hotel.

If I recall properly, occupancy in a hotel is via “license” as opposed to “lease”. You are licensing use of a specific space for a specific time period at a specific rate for a specific use. I vote fee simple ...

 

[Alamo Cowboy]

Fee simple.

 

[Deleted member 152047]

A colleague has recently told me that AI guidance on fee simple vs leased fee indicates that there would be a leased fee interest in an operating hotel because if there is any consideration exchanged for the right of use of any portion of a property there is a leased fee interest. His thinking, and his understand of the AI thinking, is that the payment of nightly guest room charges is a essentially a short term lease and meets the definition for consideration exchanged for the right of use of a hotel. Therefore, any appraisal of an operating hotel should report a leased fee value rather fee simple.

Any thoughts here on the issue?

Thanks

Fee simple interest.

I've heard arguments both ways for apartment complexes. Seems to be split down the middle with some thinking fee simple interest and some thinking leased fee interest is appropriate. I think both perspectives have validity. IMHO its a non-issue, is there a difference in the value if I call it a fee simple interest or a leased fee interest? No......move it along to bigger issues.

 

[Deleted member 152047]

I should have been more descriptive. I understand that the post is about a hotel, but there is no doubt in my mind that it is the fee simple interest on that one.

I brought up apartments as that is more of a gray area.

 

[Russ Kitzberger]

I should have been more descriptive. I understand that the post is about a hotel, but there is no doubt in my mind that it is the fee simple interest on that one.

I brought up apartments as that is more of a gray area.

If you are helping a client determine the interest to be valued, I think the first question should be if the client had to enforce their right in the real estate, what interest would they receive?

For instance, if it is a lender and all leases subordinate to the lender's mortgage position and/or would be conveyed in fee simple after a foreclosure, doesn't the client likely need to know what the fee simple interest is worth?

If the client is a partial interest investor with limited recourse, don't they need what their interest is worth?

Apartments might be tricky, if the tenants are able to keep their leases after foreclosure, as a matter of law or regulation, etc.