by Prince Licaylicay | Jan 7, 2022 | 1031 Exchange, All Articles, Buying, Investing, Selling
If you’re like most real estate investors, you’re continually assessing your portfolio to see if you are spending your money well. That involves exploring your real estate choices to determine if you can extract your value and reinvest in a more successful investment vehicle.
You may realize this equity in your assets in one of two ways: selling the property or refinancing with cash out. But which is better for you: Selling your property and performing a 1031 exchange or refinancing the project and pulling your money out?
What is 1031 Exchange?
A 1031 Exchange, otherwise known as a like-kind exchange, is a swap of one investment property for another. Kind transactions allow real estate professionals to grow and diversify their portfolios, with limited federal income tax implications. To qualify under Section 1031, there must be an exchange of real property held for the productive use in a trade or business or for investment solely for property of a like-kind to be held either for practical use in a trade or business or investment. It is a mode of asset appreciation on the exchange wherein the payment of tax is not eliminated but merely deferred until a later point when the taxpayer eventually sells the property received in the exchange.
What is Cash Refinancing?
A cash-out refinancing refers to a mortgage financing option where an old mortgage is replaced for a new one with a more significant amount than owed on an initial load, thus helping borrowers use the difference to procure some cash. In real estate, financing generally refers to replacing an existing mortgage for a new one that typically extends more favorable terms to the borrower. By refinancing a mortgage with a new one, you may be able to have potential access to cash, decrease the monthly mortgage payments, negotiate a lower interest rate, renegotiate the periodic loan terms, remove or add borrowers from the loan obligation.
Advantages of a 1031 Exchange
- Low minimum investment and flexible investment amounts. Because multiple people are investing in the same asset, the minimal investment on a TIC property is usually lower than you might expect. In addition, since tenants own the property in a shared ownership agreement, each owner can maintain a different interest in the property. Moreover, the amount you can expect depends wholly on the size of your ownership, i.e., the larger the size of property owned, the larger the return and vice versa.
- Higher potential for diversification and safety. Given that the safety barrier to the investment is lower in a TIC property, this fact offers many investors the chance to diversify their portfolios and invest in multiple properties. This, as a consequence, makes each investment secure since it lessens the likelihood of incurring significant losses.
- Access to higher-quality real estate. Since people tend to pool their money for investment purposes, the TIC investor often has access to higher quality real estate than they would afford if they invest in the same using their own money. This also opens up an opportunity to attract tenants with higher levels of income.
- Greater ease of ownership. Since the property has multiple owners, it means that there will be various hands that would be able to take care of the day-to-day operations and the management of the investment property. So while you may be able to pull your weight investment-wise, the amount of work you are expected to do is less than the work you will do if you own the property on your own.
Disadvantages of a 1031 Exchange
- Shared risk means shared rewards. It should be noted that sharing a portion of the risk for investment purposes also requires you to share any rewards from it as well. For example, the portion of any rental income you receive will only be a portion of the whole, which is smaller than what you would usually receive if you were the sole investor. The reason behind this is that whatever profit you might earn is shared with your co-investors.
- Little potential for unilateral decision-making. Undoubtedly, having co-owners also takes away your right to make unilateral decisions regarding the property. In addition, the IRS Revenue Ruling 2002-22 provides that a vote must take place before any major decisions may be made. Therefore, if you are not the type of person who does well in group decision-making, this type of investment may not be for you.
Advantages of Cash-out Refinance
- Lower interest rates. A mortgage refinances usually offers a lower interest rate than a home equity line credit/home equity loan. A cash-out might give you a lower interest rate down the line, especially if you would have bought your property when mortgage rates were much higher.
- Debt consolidation. Utilizing the money from a cash-out refinance to pay off interest-bearing loans that give high interest could save you thousands of dollars of interest. This is because Cash-out refinancing typically offers lower interest rates than you would have paid if you bought the property.
- Higher credit score. Paying off your credit card in full due to a cash-out refinance will eventually build a positive credit score from the banks where you procured the loan. This reduces the credit rationalization ratio, i.e., that ratio the banks use to determine whether to lend you money or not, as well as the amount of credit available for you to use. Therefore, the higher the credit rating, the more money the banks are willing to lend you.
- Tax deductions. Mortgage interests may be utilized as a deduction to the total amount of tax you will pay. In addition, this interest may be available on a cash-out refinance if the money will be used for the purchase, building, or the substantial improvement of your home. All of these interest expenses may be deducted from the total amount of tax due, which will benefit the taxpayer.
Disadvantages of Cash-out Refinance
- Foreclosure risk. There is a foreclosure risk because your home is used as collateral for the mortgage. There is, therefore, a risk of losing your home if you cannot make prompt payments. Therefore, if you are doing a cash-out refinancing, always make sure that you are promptly paying your credit-card debt; otherwise, you run the risk of the possibility of losing your home because of the non-payment of the debt in due time.
- Closing costs. The new mortgage will have different terms from the original loan. So, always make sure that the interest rates and fees are double-checked before agreeing to further terms and conditions. Otherwise, you will be exposed to risk because of ambiguous, extravagant closing costs that you could not take note of before closing the agreement or agreeing to new terms.
Refinancing a 1031 Exchange Property: Before and After
The mechanics of refinancing in 1031 transactions before exchange are relatively simple. The taxpayer pulls cash out of the relinquished property from a lender. This lender uses the equity in the property as collateral. Then, the taxpayer sells the property, pays off the loan, and then reacquires the debt on the purchase side of the exchange. The debt must be reacquired; otherwise, the taxpayer will have to pay tax on the cancellation of the debt. If the aforementioned process goes down without a hitch, the financial advantage is this: The taxpayer has pulled cash from his equity without triggering any tax liability. This will be even more advantageous if the new debt on the purchase has a lower interest rate than the refinance loan.
Furthermore, some tax experts feel that refinancing the replacement property after the exchange is preferable to refinancing the relinquished property before the exchange. In any case, you should think about the dangers and talk to your tax expert about your objectives.
CONCLUSION: If you want to sell your property and generate income with a low minimum investment and flexible investment amounts, or if you’re going to have a higher potential for diversification and safety, but shared risk means shared rewards, or if you’re going to have a limited ability to make unilateral decisions, then a 1031 exchange is for you. On the other hand, cash-out refinancing is the most fantastic option if you desire lower mortgage interest rates, the chance to combine your debt or a good credit rating.
Even after outlining all the information above, deciding whether to go for a 1031 Exchange or a Cash Refinancing can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your business and investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on your 1031 Exchange? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Prince Licaylicay | Jan 4, 2022 | All Articles, Buying, Investing
The construction, development, and investment in commercial real estate (CRE) properties require financing. If an investor or a CRE developer lacks or is short in funding, they typically apply for CRE loans from numerous entities providing these loans, such as banks, independent lenders, insurance companies, and private investors. These loans typically entail five (5) to 20-year repayment terms, with the amortization timeframe longer than the loan term.
If you are new to CRE investing or development, here are some important terms you need to familiarize yourself with.
Loan-to-Value (LTV) Ratio
One consideration for CRE loans is the percentage of the loan-to-value (LTV) ratio, or the loan value measured against the property value (loan value ÷ property value x 100). Lenders favor loans with lesser LTV since these properties sustain higher stakes and, therefore, involve lesser risks.
Credit Rating and Guarantee
For almost every loan provision process, a financial record or credit rating is required of entities or individuals applying for such loans. In cases where these entities lack financial record or credit rating, the lender may require the owners of the business entity to utilize their own financial track record/credit rating, therefore providing guarantee for the loan. If the guarantee is not provided, the CRE property subject for construction/development is often identified as the only means of recovery when a loan default happens. This mechanism is referred to as a non-recourse loan.
Loan Repayment Schedules
As mentioned, commercial loans can range from five (5) to 20 years, and the amortization timeframe would typically be longer than this loan term. In this matter, a longer loan repayment timeframe equates to higher interest rates.
Debt-Service Coverage Ratio
Debt-service Coverage Ratio (DSCR) refers to the ability of a property to pay its annual mortgage fee based on its annual net operating income (NOI). This is calculated by dividing the property’s annual NOI with its annual mortgage fee (annual NOI ÷ annual mortgage rate = DSCR) to determine whether the cash flow can cover the fee. The DSCR must be more than 1, less from which indicates that the ratio is negative, implying that the annual cash flow is not enough to cover the property’s annual mortgage fees.
With all these loan provisions in place, CRE investors and developers still must deal with taxation. It is understandable why CRE investors and developers are in search of ways to ease these burdens. So, one thing to look at is tax deduction.
Now, the question: are CRE loans tax-deductible?
Let’s first get to know what tax deduction means. A tax deduction is the process of reducing an individual or organization’s tax liability by subtracting a government-validated amount from their taxable income. This government-validated amount may include annual expenses that can be deducted from an individual or organization’s gross income. Governments set tax codes to determine taxable items and tax-deductible expenses, and these include mortgage interest for investment properties. So, to answer the question: yes, CRE loans are tax-deductible. However, in this article, we look at this from a slightly different perspective.
How does this work?
An individual or business entity pays their taxes, the amount of which is determined by their annual taxable income. The higher their taxable income is, the higher their tax rate will be. Therefore, the goal is to reduce the annual taxable income.
If a person or a business entity applies for a CRE loan, the interest payments for mortgage are considered tax deductibles, or qualified reductions on an individual or organization’s income tax return. This is to be reported on the Mortgage Interest Statement. Lenders are typically required to supply this form to borrowers in the event that the property subject to mortgage is considered a real property, or a piece of land and all structures within its premises.
What happens is while you pay your full mortgage every month, this amount is tax-deductible and can still be used to deduct from your taxable income, thus reducing it. Therefore, your interest mortgage payments allow you to save a certain amount from your taxes.
For instance, your initial annual taxable income is at $100,000 and your annual mortgage interest payment is at $30,000. Your mortgage interest payment, which can be claimed as tax deduction, can be subtracted from your annual taxable income, which will then be reduced to only $70,000.
Typically, tax authorities only allow the utilization of either itemized deductions or standard deductions. This means that an individual or an organization can only choose whether to opt for their standard deductions – a fixed deduction amount you are qualified for – or for itemized deductions, which entails the enumeration of government-validated and qualified expenses which are considered tax deductibles.
Tax-deductible interest threshold
Perhaps you are wondering: how can you determine the threshold of tax-deductible interest you can avail? What/who determines this?
The answer depends on your marginal tax rate, or also referred to as your tax bracket. This is the pre-determined income tax rate based on your income. This moves as your income increases or decreases, or simply put: the higher your income is, the higher tax is deducted from you.
Now, what are the qualifications for your mortgage interest payments to be tax deductibles?
There are typically three (3) qualifications for your mortgage interest payments to be considered as tax deductibles. First, the borrower must be legally liable for the loan applied. Next, the lender and the borrower must both agree that the latter intends to repay the loan. Finally, the lender and the borrower are required to form a legit lender-borrower relationship.
All these provisions mean that you must be viable for a loan and this should be between you and a legit lender, not just from relatives or friends. Otherwise, your loan interest might not be considered deductible by tax authorities. This is because tax authorities want to secure that these loans are not only strategies for people to avoid or reduce their active income tax.
In addition, you are required to spend your loan and not just let it sit in a bank. If this happens, tax authorities will also not consider your loan repayment as deductible, even if you are actively repaying what you owe your lender.
Indeed, taxation can be complex if you are a beginner in the area but these pieces of information may now allow you to enter the loan and taxation field with the basic knowledge on how terms work.
Even after outlining all the information above, dealing with loans when investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your business and investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
DISCLAIMER: Leveraged CRE is not a law firm, and its employees are not attorneys nor are we affiliated or associated with attorneys. The information contained in this blog is general information and should not be construed as legal advice to be applied to any specific factual situation.
Here are some related articles about investing in CRE:
by Prince Licaylicay | Dec 27, 2021 | All Articles, Buying, Investing
Successful real estate investors can perceive, analyze, and can leverage other people’s money. As a result, they’ve perfected the art of investing in commercial real estate with little to no money. This is an appealing approach for newer and cash-strapped investors to break into the real estate market without having the necessary financial resources or credit.
It is feasible to get started investing in commercial real estate without spending any money. However, if you are not planning to invest your own money, you will want another resource: a reliable network. The key is to recognize who can assist you and how to collaborate with them. You don’t need an unending supply of cash to get a good bargain. You must understand how to invest in commercial real estate with the proper method and strategy in mind.
We’ll go through the strategies and steps for investing in real estate with little money or expertise in this post. You’ll learn how to start investing in real estate without having to spend hundreds of thousands of dollars. Any property owned purely to create profit, either through rental income or market value appreciation, is referred to as an investment in commercial real estate. There is no such thing as no money down in real estate since the funds must come from somewhere. You must gain the capacity to detect, analyze, and even leverage other people’s money if you wish to invest in real estate with little or no money.
THE FOLLOWING ARE THE STEPS TO INVEST IN REAL ESTATE WITH LITTLE TO NO MONEY OR EXPERIENCE:
- The Subject property must be exceptional or outstanding: Firstly, if you have found a commercial property to buy is must at least have two (2) of the following four (4) characteristics: a) it’s in a good neighborhood; b) it’s priced below market for its condition; c) it already has enough net operating income (NOI) to cover the mortgage payments; d) it has a substantial repositioning upside. This might include rentals that are already below market, a lower-than-market occupancy rate, or the need for low-cost operational and aesthetic modifications to allow rents to be raised.
- You should be able to put down at least 10% of the down payment in your name: The next step is rather important. You must be able to raise 10% of the down payment in your name. The method will depend on you regardless of how you do it. You may borrow from your parents or the bank, sell your assets, or even use a home equity credit line. As a result of this down payment, you will have more power to influence or control the situation. One thing you can bet on is that every investor and lender will inquire about your investment amount, and you do not want to answer “none” to them.
- It would be best if you had a high-net-worth investor or proxy: Find someone to mentor you who has the same level of wealth, cash, and experience as you. In doing so, you will be able to notify listing real estate agents and lenders that you’re representing this high-net-worth investor and are commercial real estate property on their behalf. Indeed, that will open some doors for opportunities. This investor may or may not be the essential principle in the transaction, and you may need to locate another before closing. The investors will most likely have made a lot of loans when this person was replaced with a competent investor.
- You have a fully executed purchase contract on the property: Don’t imagine for a second that private investors and lenders would spend their time on your idea until you have a completely completed purchase contract on the commercial real estate. Hence, you must have executed the property’s purchase contract to show the investors that you intend to and can invest in commercial real estate. This is performed by putting down the previously mentioned 10% down payment.
- Seller Pays the Down payment. Next, inquire with the seller about the possibility of the seller paying your down payment. You’ll almost certainly wind up paying way above their asking price to structure a transaction like this, but that shouldn’t matter because you won’t have to pay anything out of pocket. Getting the property appraised for your new purchase price, on the other hand, may be tricky.
- You have the critical property financials: Without a pro forma predicting revenue, costs, mortgage payments, and net profit over a minimum of two years or the length of time you want to own the property, your transaction won’t stand a chance. These property financials should be based on facts rather than assumptions in the listing broker’s proposal. Actual current and historical rent rolls and profit and loss records are required to prove that the key financials are factual. The purpose of this is to show the investors that you have the financial capabilities to invest in commercial real estate, although you are leading or giving no cash at the moment.
- Your pro forma shows strong financial returns: This is also a key one. Investors must be enthused about the return on their investment after the property has been repositioned. A minimum yearly cash-on-cash return (CCR) of 8% is required. Of course, ten percent to twelve percent is preferable. The annual internal rate of return is more relevant (IRR). This is the sum of operating income and appreciation. Appreciation usually typically outperforms operations in commercial buildings.
- Your executive summary is excellent: Your Executive Summary must be excellent. It should at least have four (4) pages and pitch your business to investors and lenders. Begin by astounding them with the property’s estimated yearly CCR and IRR. Then describe the property in detail, including its location and proximity to main malls and motorways. Add in the price you’re paying for it, the cost of your value adds, and a forecast for how much it’ll be worth in a few years. Don’t forget to explain potential dangers and how you plan to address them. Demonstrating that the property can break even with 75% or lower occupancy can help it weather the storm during a downturn. Finish with an exit strategy.
- Seller Financing: Inquire about the seller’s willingness to bear the debt on the property if you purchase it. You may be able to make your monthly payments to the property owner instead of going through arduous lender approvals. On the other hand, the seller’s financing may balloon after a few years, forcing you to refinance to pay them off, or they may carry the debt for the life of the property — it all depends on how you arrange the agreement. The following are the reasons why a seller should refinance the commercial real estate:
- They want to avoid tax obligations from a sale;
- They enjoy having monthly income;
- This could help them get rid of the commercial property faster;
- The returns could be more attractive in the long run.
- Lease with option to buy/own. Is the commercial property currently unoccupied? If yes, then you might propose a lease-to-own arrangement with the landlord. To make the payments, you’ll lease the property from the landlord and run your business or sublease it to other tenants. This lease can run as long as you and the owner want it to, and the percentage of rent payments that go toward the purchase price will depend on the terms of your agreement. Your monthly payments can go toward the purchase of the building, saving you the trouble of having to put down a significant down payment. This can all be done without having to show money at the initial stage of the transaction.
In conclusion, if you want to invest in commercial real estate with little to no money, stick to this guide strategy. To be successful, you’ll need to practice giving a terrific presentation to investors and lenders and leverage a seasoned commercial broker who specialized in investments.
Even after outlining all the information above, investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your business and investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Prince Licaylicay | Dec 10, 2021 | 1031 Exchange, All Articles, Buying, Investing
Yes. When it comes to 1031 exchange, you can buy multiple properties. In fact, you are allowed to buy up to three properties. But if you want to have more than three properties, a corollary rule of 1031 governs. This is actually possible through a couple of 1031 exchange rules called the 200% and 95% rules. These rules can help you with property identification.
Consequently, property identification can create an ease of buying multiple properties in a 1031 exchange. As to the mentioned rules, the 200% rule allows someone to identify more than three properties, provided that the combined value of the properties does not exceed 200% of the value of the relinquished property. On the other hand, the 95% rule provides for a property identification with no reference to the sale price of the relinquished property, provided that an investor actually acquires and closes on 95% of the value identified.
In summary, you can buy multiple properties in a 1031 exchange as long as you follow the applicable rules. After all, buying properties is not subject to unlimited discretion by the investor. Note, however, that it’s a great idea to have 1031 exchange experts and legal counsels to help you out.
Even after outlining all the information above, dealing with 1031 Exchanges can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your 1031 investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on your 1031 Exchange? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Prince Licaylicay | Dec 7, 2021 | All Articles, Buying, Investing, Selling
Commercial real estate (CRE) property prices are influenced by many factors. Price drops or price increases among these properties may be predicted once these factors are analyzed, which include Supply and Demand, Demographics, Location, Interest Rates, Economic Situation, Government Policies, and Global Shifts.
Supply and Demand
Supply and Demand are two of the most basic concepts in the economy. These factors influence several aspects of the economy, most especially real estate properties. The theory of supply and demand in Economics states that if the demand increases while supply decreases, prices will increase; whereas when demand decreases and supply increases – prices will drop.
If there is a large number of investors looking for commercial real estate (CRE) properties but there are not much buildings, prices will increase. Similarly, when there is a huge supply of buildings but only few buyers, the CRE property prices may probably drop. However, this is still reliant on other factors, as well.
Demographics
This factor is often overlooked but is very crucial in determining CRE property prices. Demographics refer to the characteristics and composition of the population, such as age, income rate, civil status, race, gender, and population growth. The characteristics of the population will influence the kinds of businesses to be built, what businesses will boom, and the prices of CREs. Major changes in the demographic characteristics will greatly affect businesses and CRE prices for years, or even decades.
For instance, is the trend among millennials opting to have 2 or less children. Using this trend, investors, developers and businesses will try to accommodate the needs of this small family.
Location
It is already a given that the location is one of the most critical factors affecting CRE properties’ market value. Different locations mean different demographic characteristics, which would also mean different needs. Furthermore, the location where the property is situated can either detract or add potential investors. The access to amenities, such as power lines and transportation will affect the demand for the property.
Crime rates and doubtful businesses will detract investors. Unpleasant neighbors will also scare off potential buyers. CREs around this area will most likely lower down their value for them to get an offer. On the other hand, low market value of CRE may be the result of sketchy businesses coming into the neighborhood.
It is safe to say that cheaper prices are not always the best option.
Interest Rates
Interest rates also have a major impact on the CRE property market value. Interest rates of CRE loans fluctuate. This is a crucial matter especially when you are the one putting up your property for sale. If banks decide to increase the interest rates for loans, it is a possibility that mortgage lenders will also follow.
Higher interest rates mean higher mortgage payments. This is a huge turn-off for most. Whereas, when interest rates are low, potential buyers may increase because of equally low mortgage payments.
Thus, when interest rates are up, CRE properties are less attractive which would force them to lower their market value. Consequently, when interest rates are low, CRE properties are more attractive, which would mean a higher market value.
Economic Situation
The economy may be favorable to some businesses, but not to some. This situation, unfortunately, is outside of anyone’s control but the government.
But you can analyze the economy and check if it is working on your side for you. You can check the health of the economy by examining the economic indicators: Gross Domestic Product (GDP), employment data, the prices of goods, the manufacturing activities and so many more. Generally, when all of these indicators are down, so will real estate properties. If this is the case, you might want to hold and sell your property only when the indicators rise back up.
Government Policies
Government action and legislation greatly affect the demands and prices of commercial real estate properties. It can impact CREs through tax credits, deductions, and subsidies. These policies can temporarily boost the demand for real estate properties until they are withdrawn.
However, the decline in GDP and other economic indicators may opt for the government to increase taxes from other businesses to keep the economy afloat. This will definitely negatively affect CRE property prices.
Therefore, being aware of the current government policies, legislation, and programs sure is an advantage. It can help you determine the changes in the supply and demand of CRE and identify false trends in the economy.
Global Shifts
The contemporary world suggests that when you make business, you must not focus only on your community but for a global scope. Entrepreneurs are connected despite the geographical proximity. When a country’s economy spirals down, one must also look into the possibility that it may affect their business. Take note that your products do not come from one country alone, and when one country’s economy is down, you should also look at the economic indicators of your country. The effect may not be immediate, so it would be best when you look at the trends from time to time.
Pandemics can also greatly impact the demands for real estate properties. For example, the COVID 19 pandemic made major changes in work and school arrangement. Majority of the population practiced working from home. It greatly made an impact on the demand for commercial real estate.
Another global shift to take note is the boom in online shopping platforms. Physical stores are no longer necessary. Customers are buying straight from the warehouse and shipped directly to their homes. This can negatively impact CREs.
So, will commercial real estate prices drop?
There is no definite answer to that. This is a changing world. Trends may continue to evolve. Government policies and programs also adapt to these changes. Furthermore, the economy is a cycle. It may drop now due to the innovations and current events, but it will rise back up, just like how the world overcame the great depression. The key to better anticipate these price fluctuations is to be well-informed of the current situation and of the factors listed above to know the market value of your property.
Even after outlining all the information above, investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your business and investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Prince Licaylicay | Nov 24, 2021 | All Articles, Buying, Investing, Leasing, Selling
In a leasing project, it is likely you will come across a Letter of Intent (LOI). In this article, we have rounded up everything you need to know about a Letter of Intent.
A Letter of Intent (LOI) is a written non-binding document between two parties that serves as the basis for a contemplated future agreement. It is a preliminary agreement that is negotiated between a tenant and landlord or buyer and seller. The Letter of Intent stipulates the dominant economics and key points with proposed terms in a lease agreement. They are designed to describe or draft the essential items that both parties can assess to decide whether to proceed or continue to an official contract. Thus, a letter of intent is a nonbinding document that encapsulates the basic terms of the offer and the initial goal of the parties without the extensive legal norms included in a real estate contract. This gives the seller or the landlord a concise picture of the scope and terms of the real estate purchase or lease agreement. It is rather important to note that a letter of intent could be binding if the parties decide that it is binding.
When is LOI used in real estate?
A letter of intent is submitted by a serious soon-to-be tenant, buyer, or representing broker in a commercial real estate transaction as an initial offer. It is planned based on basic preparatory information furnished by the landlord as well as the introductory due diligence of the property. Negotiations and formal due diligence begin after the Letter of Intent has been conveyed and prior to a formal purchase or lease agreement is entered into. It is not infrequent for Letter of Intents to be submitted and agreed upon, only to have the terms and conditions subsequently changed or even withdrawn altogether. This is so because a Letter of Intent, at its core, is a nonbinding document that merely states the buyer’s intent subject to verification and due diligence, all of which can be amended or changed any time.
A letter of intent is used in commercial real estate to put the major points of a proposed lease into writing. The party submitting the letter of intent should research, inspect, or even tour available properties on the market before submitting a letter of intent to the landlord. Generally, a letter of intent will be drafted by a commercial estate broker representing the buyer or tenant after the inspection or tour of the property and conducting a spontaneous discourse or conference with the owner or landlord. The Letter of Intent will, therefore, serve as a vehicle to outline the key points of the deal, such as but not limited to: (a) the rent; (b) due diligence period; (c) financing; and (d) the close of the escrow date or date of possession.
And while a letter of intent is a non-binding document, the act of furnishing one certainly demonstrates that the buyer or tenant is committed to moving forward on a deal and intends to advance in good faith the deal. However, there are instances where a party may change the terms of the Letter of Intent or even withdraw from the deal altogether based wholly on desired terms not being agreed to, new information after performing due diligence and after verifying information provided by the parties.
All in all, a Letter of Intent is used to convey the key points of the parties from the lease price to the close of the escrow date or date of possession. To this end, the potential tenant must be diligent in researching or inspecting the properties since new information may serve as a basis for continuing or even withdrawing from the potential deal. In the same vein, the landlord must likewise be diligent in taking care and preserving its properties so that potential lessors will not be discouraged.
What is the importance of the Letter of Intent?
A letter of intent is one of the essential documents in commercial real estate leasing/buying. This is because buying, selling, or leasing commercial real estate is, most often than not, a tedious, convoluted, and costly process even to the most experienced investors and tenants. Hence, a Letter of Intent guides the parties to ensure that they have a meeting of the minds or that the contract conveys what they genuinely intend before going into the intricacies of contract making regarding leasing commercial real estate.
A letter of intent will serve as a stepping stone between introductory discussions with the property owner and the drafting of a legally binding lease contract. The Letter of Intent serves as a modality for the parties to put their key points and provides them with a quick and easy way to familiarize themselves with the basic terms of the proposed transaction. This is crucial before negotiating the contract terms and before paying a real estate attorney to draft or review a lease agreement.
Likewise, letters of intent are an excellent way for the landlord to determine who the prospective tenant is. Furthermore, making a letter of intent does not entail any costs; hence, a prospective lessee or buyer may submit as many Letters of Intent as possible, expecting that at least one is accepted. However, suppose the terms of the prospective lessee significantly deviate from that of the property owner’s. In that case, this could be a tell-tale sign that such prospective lessee submitting the Letter of Intent may not be a good fit for the owner to move forward with or be serious about completing the proposed transaction.
What are the contents of an LOI?
A Letter of Intent generally includes:
- The parties: (a) the name of the tenant; (b) the address of contact information; (c) the party authorized to execute a final sales or lease agreement.
- The property: (a) the address and the suite number of a lease of the negotiated lease; (b) the building description including lot size and square footage; (c) Type of rent, whether Full Gross Service (FSG) or a Triple Net Lease including any Common Area Maintenance (CAM).
- The offer: (a) The lease price as well as any down payment thereof; (b) Due diligence period and general description of documents that the landlord will provide; (c) Lease Terms, including rent and any annual increase; (d) rent abatements or tenant improvements; (e) length of lease; (f) target for signing the purchase contract or lease agreement; (g) Expiration date of the Letter of Intent.
- Any Disclaimers: (a) that the Letter of Intent is not binding, and any (b) preconditions in signing the lease.
How To Write an LOI
The typical structure of a Letter of Intent is as follows:
- Introductory paragraph. The preceding paragraph serves to describe the purpose of the LOI, such as your interest in leasing the property;
- The parties to the proposed transaction. This includes entities which are involved, the legal and home state to reduce the risk of the wrong information being used in the lease agreement;
- The key points in the deal. This includes the description of the property, the terms of the offer, and the disclosure of any commercial real estate brokers involved in the lease transaction, as well as any other key terms and conditions specific to the proposed transaction.
- The Closing Paragraph which includes whether or not certain parts of the LOI are binding, a non-disclosure agreement of confidentiality clause, remedies for breaching any binding provision in the LOI, as well as a request that the party receiving the LOI to sign and return a copy thereof proper to the expiration date of the LOI.
Conclusion
A letter of intent is a non-binding document that serves as a guiding light for the parties before entering into any formal lease or purchase agreement. It details the key points the parties want to convey to the other party to the end that they would have a meeting of the minds. Furthermore, considering the letter of intent is not binding, it is not infrequent that the offer may be withdrawn before the commencement of the formal agreement.
Even after outlining all the information above, writing a letter of intent (LOI) can still seem daunting. That’s why the Leveraged CRE Team at Commercial Properties, Inc. is here to help locate commercial space for lease and assist in using a letter of intent to land such space. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
Recent Comments