Commercial Real Estate as an investment vehicle

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Topic Author
Don46
Posts: 198
Joined: Sun Feb 24, 2013 5:53 pm

Commercial Real Estate as an investment vehicle

Post by Don46 »

Back in 1994 my mother died and left me and two siblings some commercial property. It turned out to be one of the best investment vehicles of my life. We sold the property, which was a corner lot in downtown Las Vegas that some developers wanted because they wanted the entire lot. I believe my share of the sale was about $500k, up from an estimated $300k about two or three years earlier (like I said, the developers wanted this property.)
My siblings and I rolled the investment over as a 1031 exchange, a complicated but common way of postponing taxes. We bought a medical office building, also in Las Vegas.
There were some problems with the tenants and my brother and sister wanted to sell. I did not, but fortunately I was outvoted. This was in 2005 and the Vegas economy was about to tank. I decided that I would roll over my share using another 1031 exchange and I bought a dialysis center operated by Fresenius, an international dialysis provider.

After seven years I've netted about $300k in income, that is less debt service, repairs, remodeling. Some of this income is sheltered by depreciation, about $13k a year.
I'm about to sell the property and will gross $1,4250,000. I paid 1,190,000; cap rate on purchase was 8.0 percent and on sale 7.6%. The market is good for commercial real estate sellers right now. After I pay commission, 5%, and pay off the mortgage, $522k, I should have about $831k before taxes. I should add that I already took out $200k when I financed the deal back in 2005. So my total return before taxes is about $1,331,000 and all this from an investment of about $550k at the beginning of 2006.

I'm 67 and about to retire, so I will not roll this over into another 1031 investment. But it has been good for me. I began as a complete novice and learned as I went. I sought help from realtors and legal advisers. This is not a very liquid investment so I don't recommend it for anyone who needs to sell quickly and easily. There are also a lot of costs getting in and out, commissions, legal fees, and time. I had owned residential real estate when I was younger, and I don't think I would want to do that again. But this was much easier to manage and I had no trouble with the tenants.
I thought I would pass this along for whatever it might be worth since I saw a few other posts on this forum regarding real estate as an alternative investment.
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White Coat Investor
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Re: Commercial Real Estate as an investment vehicle

Post by White Coat Investor »

Did you count the value of your time when calculating your returns? :)

The lack of diversity, additional leverage, and the additional work when compared to an index fund portfolio are the things that would cause me to require a significantly higher expected return before jumping into real estate as an investment, residential or commercial.
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course
btenny
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Re: Commercial Real Estate as an investment vehicle

Post by btenny »

Are you doing a 1031 with some of the money into some sort of annuity to save taxes and provide you a good base income? If so please tell us the details.

Yes I like commercial real estate as a investment vehicle IF a person has large outside income that needs some tax sheltering. But there are risks. What happens if the tenet goes BK or finds your location is just bad and closes the store? Or the store does not generate enough revenue to do any rent override sharing so the yield is really low? So net net you are then stuck with mortgage payments. Bad deal. This is why some "create new businesses" for their properties to keep them rented or even take below market rent to keep them rented....

Bill
Topic Author
Don46
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Re: Commercial Real Estate as an investment vehicle

Post by Don46 »

btenny wrote:Are you doing a 1031 with some of the money into some sort of annuity to save taxes and provide you a good base income? If so please tell us the details.

Yes I like commercial real estate as a investment vehicle IF a person has large outside income that needs some tax sheltering. But there are risks. What happens if the tenet goes BK or finds your location is just bad and closes the store? Or the store does not generate enough revenue to do any rent override sharing so the yield is really low? So net net you are then stuck with mortgage payments. Bad deal. This is why some "create new businesses" for their properties to keep them rented or even take below market rent to keep them rented....

Bill
I decided to cash out, pay my capital gains taxes, and put the money into a three-fund Bogle modeled portfolio.
I agree the lack of liquidity, the risk. the bother is such that I would not recommend this for most investors.
I backed into commercial real estate because I inherited some property and then decided to roll it over.
But it sure worked well for me. I felt like it was a ballast during the stormy times of 2008-9.
The time factor is not great when you have a triple net, or in my case net net lease. That means all the maintenance, taxes, insurance, are taken care of by the tenant.
Yes, the biggest risk is that you have a lease that expires and a tenant who leaves, or goes bankrupt. So the lease is as good as the tenant. The lease I had actually did expire and I renegotiated it for another 10 years before I sold it.
The buyer will pay $1.4 million and will draw about $1.2 million out of the property in gross income over 10 years, then either renew the lease for another 5 or 10 years, or have a property to sell or lease to someone else. Once the lease runs out and the property is empty then you are left with the intrinsic value of the property, which might be half of what I sold it for.
Tamahome
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Re: Commercial Real Estate as an investment vehicle

Post by Tamahome »

Thank you for your input. I also have a commercial real estate investment. I have a 50% interest in a commercial property that has an excellent tenant: Me. My business partner and I purchased this building because we are fairly certain that our 9 year old law firm is stable enough to make it a good investment. I know this means we have all of our eggs in one basket, so to speak, but it made more sense than paying someone else rent. If we sold today, I understand that we would actually make a small profit after commission.

That being said, it is a shaky time to be a commercial landlord (at least in the Atlanta area). I have clients that have building after building that sit vacant. Not being able to float a building without tenants, I am not willing to take on the risk (or the benefit of the low prices now).

Have you held residential real estate? If so, did you find commercial to be riskier or easier to handle than the residential? Would you have had trouble if you did have problems with the tenants (like not having any)?
I'm not a financial professional. Post is info only & not legal advice. No attorney-client relationship exists with reader. Scrutinize my ideas as if you spoke with a guy at a bar. I may be wrong.
Topic Author
Don46
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Re: Commercial Real Estate as an investment vehicle

Post by Don46 »

I became an investor in the 1031 rollover market where most investors are looking for an attractive lease rather than a property with future potential. The person I'm selling my property to is out of state and just investing in a deal that looks attractive to him as a way of converting some cash flow into capital gains through depreciating the property. For many it is like a bond where you have a 20 year net net net lease and you just collect your money and sell after so many years, usually while there is still time on the lease, or just milk the lease dry and sell the property for whatever you can get at the end.
After 2008 I saw so many for lease signs all around me that it make me realize how fortunate I was to have a strong tenant.
The 1031 system allows you to rollover indefinitely so it has the benefits of an IRA.
Lots of IRS rules to learn, or hire someone who already knows them as I did.
suming
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Re: Commercial Real Estate as an investment vehicle

Post by suming »

I am interested in commercial real estate. However, my real estate experience is only on residential rentals. What is the mimimum amount cash to get in the door? I don't have inheritance so all I have is the money accumulated over the years.
Topic Author
Don46
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Joined: Sun Feb 24, 2013 5:53 pm

Re: Commercial Real Estate as an investment vehicle

Post by Don46 »

suming wrote:I am interested in commercial real estate. However, my real estate experience is only on residential rentals. What is the mimimum amount cash to get in the door? I don't have inheritance so all I have is the money accumulated over the years.
I think my property, which I bought for 1.2 million is on the lower end of the range for this kind of 1031 market.
You can buy commercial real estate for nearly any price but if you want a nationally recognized tenant I think you ought to count on 1 million total.
Commercial real estate loans require larger down payments, but that is all open to negotiation. My loan was about 60 percent of the total value.
Interest rates are higher than home mortgages too; I was paying 5.5 percent and it amortized at 15 years, so the debt service was high. Still I had good cash flow:
about $109k coming in each year and debt service of about $65k, but at least $24k of that was paying off principle, so I figured my total return was more like $68k a year, almost 14 percent cash on cash per year. Hard to beat.
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