All Forum Posts by: Stephanie Z.

I need to learn to assess a sale and negotiate a commercial lease, as the owner/lessor. 

Can y'all tell me what you're seeing right NOW in the market for commercial (office) space leases regarding the annual increase rate?

Backstory: We own a business that we are considering selling. The deal will have several interdependent factors -- mainly, 1) the sales price of the business, 2) the RE sale price OR lease deal 3) the employment agreement for the key employee (my spouse) who would be required to work for a couple more years after the sale. 

So, it's not as simple as hiring a broker and negotiating a sales price and being done with it. This is more like buying a car with a big trade in AND financing it. For that, I'm used to negotiating only one thing at a time, but that's not possible here as the three parts all have to happen at the same time. We will be negotiating all three put together (and some smaller issues) to make the deal happen. (We will, of course, involve our CPA and attorney before signing any deals!!)

The buyer will offer to buy OR lease the property that the business sits on from us; this sort of buyer is generally happy to do either. I am leaning towards the NNN lease, with the fact that we would get a substantial, reliable monthly cash flow in rent to supplement our earned income and delay any need to dip into our assets to support our anticipated early, partial retirement.

We will likely be offered a NNN lease with 5 or 10 year initial term plus 2 or 3 five year options. The last time we considered selling was 5 years ago when inflation and interest rates were quite low. At that time, we were offered 2% annual increases and we were considering moving forward, negotiating for 3%. Things have changed a lot in the market since then, so I'm ISO a concept of what the norms are and what the ranges are. 4%? 5%? A tie to inflation rate?

How can leases take variable inflation into consideration? Are annual increases ever tied to inflation? If so, using what measure? And what exactly are the increases looking like right now? 

Thoughts? Thank you!!

When deciding whether to sell or lease a commercial property you own (but no longer need), what are your deciding factors? 

For instance, say the value to sell is $500k, and the potential 10 year NNN lease rate is $5k/mo, making it a 12% cap rate. (Assume same new user is offering to either buy or lease, at your choice.)

What other factors besides cap rate do you consider? Quality of tenant? 

How do you determine the fair annual rent increase? Is there a norm? 

If you provide options to renew (say three 5 year options), how do you determine the rent rate in those future options? Is that rent generally controlled by the deal you set in the original 10 year lease? If not, how is it determined? Is there a norm for valuing these options (do they impact the rent amount)?

How sale-able are properties like this once they are leased? Are they best sold with the lease in place (as I know often happens with residential rentals) or are they best sold empty? 

What professional(s) are best to advise a small time investor on these sorts of decisions? 

Anything else to consider?

Thanks for any tips or links you can provide!

Newbie, please be gentle. :) I have been a landlord before (and still am), but it's not my main gig, so I'm definitely a newbie in this sort of analysis. I appreciate any feedback.

Purchase price 160k (might get down to 155k)

4 beds / 3 baths. Nice little lot on a dead end street in our local small college town/city, lot backs into a nice wooded part of a local park.

SFH. Old house (80-100 years), mostly renovated recently with big items new (furnace, roof, wiring, plumbing, bathroom fixtures, kitchen counters/sink, all flooring), even new stairs . . . with decent replacement windows throughout and either original decently refinished hardwoods or tile (wet spaces) or laminate in a couple rooms.

Complications abound, however. The house has changed hands twice in the last year or so, first guy was a local contractor (of dubious but not God awful reputation) who did all that new work on the house. Seemed like he was choosing pretty decent finishes/etc. (Nice architectural shingles on the roof, etc.) Can see some spots where he cut corners, which is of course typical in this type of situation. But nothing screams "super crappy work" in a big way. But, there's lots of little things that need fixed. Trimming doors down, finishing interior trim on a few windows/doors, putting in the light and mirror in one of the bathrooms, etc. They've got ALL the utilities shut off and will only allow us to turn them on in our own names to evaluate/inspect. They won't allow us to even turn on the water (it is winterized). I can see from the basement that the house has been rewired and replumbed, even down to the main stack, etc. I'd sure like to be able to check those systems thoroughly, but I mostly can't. 

We can/will have an inspector in there before we move forward and have them evaluate all the systems to our best ability. I'll likely get an electrician in and a plumber in to look at those systems as best they can given the limitations. And definitely an HVAC guy to evaluate the new furnace and new ductwork. Assuming we don't find any big disasters, we will move forward with the purchase and use these inspection findings as a task list.

Market rent is probably $1500/mo and it should rent easily.

I'd have the renters put utilities in their own names.

So, our ongoing costs would include the business license (nominal) and some sort of taxes to the city -- a 1% tax on rents is the main thing, then maintenance/repairs/time lost at lease turnover.

Given all the new systems in place, I don't think repairs/maintenance would be too much. Based on our other experiences as a landlord, I'd probably budget $100/mo.

15 year 25% down mortgage will be at about $850/mo P&I or $1100 including taxes and insurance. (Yes, I have the quote in hand from a good lender. Good rates for an investment loan, I think. 3.5%, comes out to 3.92 APR)

We'd need to bring about 47k to the table and put in another 15-20k on appliances (there are none), finishing the electrical and plumbing stuff (ie, have a master plumber and electrician evaluate and fix as needed), and then lots of little things, plus or minus replacing the back deck.

So, that puts us at 65k in.

Budget Monthly:

+1500 rent

-1110 mortgage and escrows

-15 city tax

-125 vacancy set aside (1 month per year)

-100 maintenance/repairs

That leaves me $150/mo in net positive cash flow.

+++++++

If I considered the 65k invested that could have been otherwise invested, then 8% returns would be 5200/yr or 433/mo

However, I'd also be paying down principal rapidly, at about 500/mo the first year and 600/mo by year5, 750/mo at year10.

So, that ROI lost for the 65k is coming back to me in equity all along pretty comfortably. I think it's fair to just consider those two things a wash.

In my mind, this makes OK sense, especially since I've been pretty conservative on the expenses. 

I have some non-finance reasons for buying this house (to provide housing for one of my adult kids), but I'd also like to evaluate the deal on its own merits, so if we don't end up using it for Adult Kid, I will have a good feel for whether this was/is a decent deal from a pure financial position. 

Thanks for any insights y'all can offer!

I'm looking at buying an investment SFH property in our town with the primary goal being to have a safe, decent place to offer to one of our young adult children (not legally a dependent.) I'm curious if anyone has experience doing this and any tips on best ways to structure the ownership/rental of the property for tax purposes. I don't need/want advice on the family/personal dynamics.

My goal is to have a decent home to offer this "child." Spouse & I will retain ownership; joint ownership with Child isn't an option. Can't be our second home as it's too close to our primary residence. Would be an "investment property" in so far as lender/legal (and we'll put it in its own LLC.

For the time-being (possibly permanently), our child won't be paying any rent (no significant income.) They would likely have 1 or 2 roommates who WOULD be paying rent to us. Our child may do some chores caring for / managing the property. 

Any legal/financial/strategic tips or things we should explore in how to best structure this plan to minimize our taxes now (very high brackets) and/or long-term (cap gains, etc.)?

Thanks!

I'd put down ceramic tile in a "wood look" style for the floors. It's a bit pricier than most options if you hire it out, but it's actually a pretty easy DIY job if you can do it yourself or have an hourly person you can hire to do it competently. My own basement was dry for a decade . . . until we did some renovations/additions that accidentally messed up an exterior drain system . . . And, OF COURSE, those renovations had included finishing the basement for the first time. . . Lovely LVP floors with a special subfloor for warmth . . .

So, then we had about two years of figuring out exactly what was wrong and fixing it . . . flooded each time we had a really hard rainstorm (we can get 4 inches in an hour!) . . . We finally ripped up the LVP and subfloor and put down tile ourselves. It was not hard at all, even in a large space with bazillions of doorways. I wouldn't do any other flooring, ever, in a basement that has any tendency to flood. It's totally impervious to water. Great peace of mind.

Is your HELOC a fixed rate? The HELOC I have on our primary residence (and the other ones I've had in past decades) were all floating interest rates. Is the investment property mortgage interest rate fixed?

I wouldn't move a fixed 4.25 to a variable 2.45. Nope, no way. Interest rates are very low now, and likely will be low for a couple years, but certainly there's no reasonable expectation they'll stay this low for many years. 

If the HELOC is fixed at 2.45, then that's perfectly fine to do, as long as you've considered any tax implications and review the details of your HELOC to make sure it's duration and the details of the ultimate transition to an amortized loan/whatever work for your repayment timeline. (I.e., my HELOC has a 10 year draw and then at the end of those 10 years, whatever I owe transitions to a straight 10 year amortization. These things vary a good bit.)

That said, assuming you don't move the debt to your HELOC, you can probably do a bit better than 4.25. You can check into refi'ing your investment property. I'm about to close on a no-fee (except us paying half the appraisal -- bank is paying the other half) refinance on a commercial property at 3.5% (fixed, straight amortization over 7 years), and that's not with the bank that currently holds the mortgage. Now, we do have some good leverage as we have a pretty big cash flow business checking account, credit card processing account, etc, that the bank wants and we're *considering* moving after the loan closes, and we only owe about 30% loan-to-value, so that good a rate may not be readily available . . . but who knows. You don't know until you try.

My investment/rental SFH is at 3.25% fixed for 15 years with very low fees, and that was purchased back in 2015. So, anyway, I'd definitely check into refinancing, because if your credit is excellent and you don't owe too much, you could likely do better on that. Look into a 15 year fixed rate refinance. Contact the current lender first, and they might be willing to just drop it by half a point with no cost.

Unless you have reason to believe the tenant maliciously or recklessly broke the oven, I'd simply repair or replace it, assuming I intended to keep renting the premises and that renting it generally required having working appliances. (I.e., if these tenants leave next month, would you need to replace the oven to get it re-rented? If so . . . replace oven now, IMHO.)

If you don't want them to move out, then you should probably try to maintain the property at the level that the tenant would have reasonably expected based on when they first accepted the rental. That's generally my approach with our couple rentals. . . 

They've been your tenant for 2 years . . . so you know already if they have a history of breaking things. If they break appliances willy nilly, then it'd make more sense to stick to your lease and tell them it's on them to fix it.

Our leases are written up to outline the basics that are agreed upon (rent, etc), but then also to pretty much cover my/the Landlord's butt, because, I designed the leases . . . BUT, that doesn't mean that I actually stick to the letter of the leases. I fix/improve/update things on a routine basis as is reasonable and needed, in my opinion. The fact that the lease says "appliances not my problem" and "plugged drain is tenant problem" doesn't mean that I won't fix these problems, within reason, when needed. It just means that if I ended up with an a-hole renter who trashed appliances or who whined about every plugged toilet, I could tell them to pound sand. Never had to do that, thankfully, because we've had good renters. 

This approach results in long term happy renters, which means my land lording is mostly hassle free, which is important to me.

Then again, if you want to get rid of these tenants, and your lease and PA law permits it, then I guess you have the option of not fixing it. 

I've been happily using cozy for 4 years. I love that tenants can easily set up auto-pay, which helps keep them paying on time. Simple, reliable, free (except the float, which I don't care about). Works for me. 

Thank you for the feedback! That's reassuring. As a RE and business owner, but with no experience in development, what would you suggest is a reasonable first step in exploring our options to maximize our value? We have a S corp for our business entity (has employees, etc.) and 2 LLCs (one that holds just his RE and one that holds another investment property in another state), and a solid CPA who does our taxes/etc, and a good relationship with our general RE/business/estate attorney, but I have no idea who to call or what to ask to start exploring how to maximize our outcome with this property. Who would you suggest I talk to? What should I ask to talk about? 

When you say "now," do you mean NOW (before the TIF is a real deal) or NOW as in, the next year or so as the TIF progresses? Is this the sort of thing where I should get my ducks in a row while the TIF is still being structured/negotiated? Or can I leave it be for a few months/year or two while things get finalized and rolling? 

Thanks so much!

QUESTION(S): 

Our local city (and maybe the county as well in a collaborative effort) is proposing a TIF district that would include our 4 1/2 acre commercial property that is mostly undeveloped at this time (but we do use and need about 1/2 acre). I'm curious as to whether this is good for us or not, and what we can/should do to explore this idea. 

Is this good? Is this bad? What should I do to figure out how to benefit from this? Risks to be aware of? Things to watch for? Things to do? Questions to ask?

The targeted area includes mostly undeveloped or under-developed land around our local small airport as well as some more retail/commercial/office areas in a nearby more densely developed commercial district that is a mix of run-down industrial-ish buildings (building materials, feed store, Goodwill), banks/groceries/fast food, services (dental, tax, etc), small older strip malls, a few empty/torn down lots, and some new and nicer retail and low rise office buildings, including a brand new grocery being built on a recently relocated Ford dealership site, etc. The airport is slated to finally get a runway extension (just got FAA approval, has been in the works for a decade or longer), and I believe some of the TIF money would be used towards funding the 10% local share for that project. I have no idea what else TIF money would be aimed for, but presumably to somehow encourage rapid development. 

(Our property is right across the street from the airport property.)

The TIF project is a very new proposal. I am mainly seeking insights on what this project might mean for us and what questions I should be asking. Our county has done a few of these TIF projects in the last couple years around the outskirts of our city with booming results, FWIW. And, I do think this area is ripe for development. 

BACKSTORY:

We own about 4 1/2 acres of commercial land  (actually unzoned, so could be *anything*, but most appropriate for officespace or possibly retail) where our family business resides. We use about a half acre for our business. The remaining 4-ish acres is pretty much undeveloped but fairly well situated for building/development. It's mostly level (rarity here, was done before we bought it) on a nice, busy road, and happens to be across the street from the local small airport (that is expanding.) Our local economy is healthy and growing and should reliably be that way for the future. 

Our business creates our current income (which we need!) and the business itself, along with the real estate it sits on, is a big chunk of our net worth, so being strategic about maximizing its value is something I keep in mind for the long term. 

We will definitely need/want to eventually sell the business itself (likely about 13-15 years from now, unless universal healthcare comes along, in which case, we can/will sell out earlier), either retaining and renting back the portion of the RE that is needed for the business OR selling the needed portion of RE along with the business. 

At the time of (or before) selling the business, we'd nearly certainly "cash out" the remainder of the land by selling it separately. 

(The decision on whether to keep and rent-back the RE vs sell it would largely be determined by the buyer, as in our business, corporate buyers generally don't want to buy the RE, whereas individual buyers generally want the RE. Whether we sold to corporate or to an individual would depend on a huge host of factors, which we can't know until we are closer to selling, which isn't anytime very soon. BUT, I AM confident that the "extra" land will be best off sold separately, and as long as we keep the land needed for the business, we can sell the rest any time. Or we could develop the "extra" land ourselves or with a partner and do that instead of just cashing it straight out . . . I have no idea!)

Note, we *could* move the business to new RE altogether if required, i.e., if the RE became super-duper highly valued (unlikely but possible, and a welcome problem, lol). 

We don't have any immediate plans to further develop or sell the property, but it's always been part of my long term plan to eventually sell it off the "extra" land for development (before or at the same time as when we sell our primary business / retire from ownership), either before we sell the business or no later than at the time we are actively preparing to sell the business (so, 10-15 years from now). Maybe sooner if the right opportunity plopped in our laps; it wouldn't be a bad thing to "cash out" the "extra" part of this real estate. 

Thank you for any insights you can offer.