How Does Land Value Tax (e.g. Georgism) Decouple Lease Transfer From Improvement Transfer?
In practical terms the leaseholder will need a certain degree of certainty over her future rent payments on the lease to be able to make the investment. That’s why leaseholds often have long durations (in Germany typically 99 years). At the end of the lease the buildings become property of the freeholder. Depending on the jurisdiction the freeholder may have to compensate the leaseholder for the building. That is why leaseholds typically specify which type of building is permitted. Also the limited lease duration limits the ability of the leaseholder to actually benefit from the positive externality because her investment is already made; neither can she liquidate the increased land value at the end of the lease.

If the lease were permanent and subjected to real time land value taxes the leaseholder would have little incentive to invest. This would be equivalent to a one-year rental contract in which the tenant has a perpetual option to renew but the landlord can adjust the rent each year. It would be hard to convince someone to make a significant investment under these conditions. A solution may be for the leaseholder to buy insurance against excessive land value tax increases. But I have not heard of this in practice.