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Investment Real Estate

Using the SBA 504 Program to Build Your Business, and Your Bank Account

As a business owner, especially in the recent rough economic and capital climate, you are probably pessimistic about any lender actively lending money to small and medium sized businesses. There is a program however, that is not only actively lending, but is thriving during this current credit crunch. It is the SBA 504 loan program.

The US Small Business Administration’s 504 Loan or Certified Development Company program is designed to provide financing for the purchase of fixed assets, usually real estate, at below market rates and lower down payments for borrowers. This program’s popularity has surged recently due to the current lack of liquidity. Banks love it, because they need to loan money to make money, and in this risk adverse climate, a government backed loan is just what they want. Borrowers love it because they have access to capital at below market rates, and most of the times are only required to put 10% equity into a deal.

A recent change to the program now allows businesses to use the 504 loans as a refinancing tool, unlocking valuable equity in their real estate that can be used as working capital. Another attractive feature is that a business owner can create a separate real estate holding company that the business pays the rent to for the building. As a business owner, you now become your own landlord, enjoying the benefits of real estate ownership.

To be eligible for a CDC/504 loan, your business must be operated for profit and fall within the size standards set by the SBA. Under the 504 Program, a business qualifies as small if it does not have a tangible net worth in excess of $7.5 million and does not have an average net income in excess of $2.5 million after taxes for the preceding two years. In addition, a business must occupy a minimum of 51% of an existing structure, or 60% initially of a proposed newly constructed structure. There are other requirements, such as one’s related to job creation, so it is important that you meet with your banker, or a lender experienced with the 504 program to understand if you can qualify.

Many lenders are stating their belief that the 504 program will continue to grow in popularity, and they see this program as the dominant business financing tool in 2012. Keep it in mind the next time you write a rent payment to your landlord.

 

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Investment Real Estate

The CMBS Delinquency Flood is Upon Us – Or is it?

For the last two years, those of us in the Real Estate Profession have been bracing ourselves for the forecasted tsunami of foreclosed properties hitting the market as a result of thousands of delinquent loans and loans maturing without any hope of being refinanced. So we braced ourselves for dropping valuations, lower rental rates, and higher vacancies.

Do you know what happened?

Hardly anything. The flood was more of a trickle, and the effect on prices, vacancies, and rental rates was minor. Banks renegotiated, or extended the loans to avoid a high volume of foreclosures at the last moment and most were relieved. Now, the experts are warning us again. Should we believe them? Here is the latest update.

In its latest CMBS Delinquency report, Trepp, one of the nation’s leading providers of CMBS and commercial mortgage data, warns of looming trouble. “The day of reckoning is here for the class of 2007 originated loans as the five year balloon loans that were made at the height of the commercial real estate bubble have begun to mature. The 2007 vintage was the weakest in terms of underwriting standards and it is widely expected that many of these loans will have trouble paying off at their balloon date. In total, about $15.5 billion of these loans will come due in 2012, with the majority reaching their balloon dates over the next six months.” Trepp goes on to report that so far 27 percent of 2007 vintage five year notes are in special servicing and 18.5 percent are currently 30 or more days delinquent.

Morningstar supports this bleak forecast. In their most recent report, they reported that delinquent unpaid balances for CMBS rose by $1.06 billion in October 2011, up to $61.27 Billion. The resulting delinquency ratio for October 2011 increased to 8.35% and is almost 30 times higher than the Morningstar reported low of .283% in June 2007. As a whole in October 2011, the distressed categories of 90+ day, foreclosure and REO increased in aggregate by $939 million.

So is Armageddon upon us?

Will REO properties flood the market and drive prices down? We’ll need to see. Many still believe that once again, the doomsday scenario is overblown. They site an abundance of private equity cash waiting to be deployed to purchase non performing notes, or provide bridge financing. Also, many feel that banks will remain hesitant to foreclose on any properties other then the absolute worst offenders.

Regardless of what 2012 brings us, I want to wish all of my clients, friends, and associates all the best for the coming year.

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Investment Real Estate

Buying on CAP Rate. What’s Right For You?

The most common question I am asked by clients looking to buy an investment property is “what CAP rate can I get something for?” My answer is always the same. “What CAP Rate do you want to pay?” After a brief moment of silence, I am then asked, “what do you mean?”

Here’s what I mean. The market is very efficient. It is rare to find a property that you can buy at a 9 CAP that should be at a 7.5 CAP. Sellers are pretty shrewd. They are not going to significantly underprice a property, and if they do, it will be snapped up quickly. So when looking at a property, chances are the market has set the price. The CAP rates are determined based upon how risky the investment is for the buyer. Tenant strength, lease length, location, occupancy, and condition of property all go into determining what a fair CAP rate for a property should be. So when I ask what CAP rate a buyer wants, what I am really asking is how much risk is a buyer willing to assume.

If a buyer is willing to buy a property that has a short lease term left, or some vacancies, then expect a high CAP rate to reward your appetite for risk. For those who just want a check to come in the mail each month, with little if any management responsibilities, their CAP rate will be lower. The good news is that in this low interest rate environment, even the lower CAP investment properties still provide a return greater than what can be made in most other investments.

So before you call me and have me tell you what CAP rate you should expect, first ask yourself what level of risk you are willing to assume.

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Investment Real Estate

3 Reasons Why Real Estate Needs To Be In Your Investment Portfolio

3 Reasons Why Real Estate Needs To Be In Your Investment Portfolio

In the latest Issue of NREI, David Lynn, managing director and head of investment strategies for Clarion Partners in New York, wrote a great article showing how private real estate holdings are important in diversifying one’s investment portfolio.

He writes, “Private real estate can provide significant and important benefits for a mixed asset investment portfolio.” In the article he cites three reasons for this.

  1. Over the past 10 and 15 years, private real estate returns have outperformed the major stock averages. Private real estate has delivered 6.9% average annual income returns between 2000 and 2010, and 7.7% for the period 1978-2010.
  2. Private real estate has shown relatively low volatility and has achieved among the highest risk adjusted returns among the major asset classes since 1978.
  3. The low or negative correlation of private real estate returns with returns of bonds, equities, and public REIT’s suggest that it can be an effective diversifier.

In the article, Mr. Lynn explains why private real estate does not move in tandem with other asset classes, and therefore is a valuable tool in balancing out volatility of an investment portfolio, especially in this unpredictable global economy. He cites quarterly or annual appraisal based valuations versus the daily market valuations of equities as a big part of this.

I highly recommend reading this article. It is informative and well researched. Mr. Lynn has done a great job writing it. If you need a copy, send me an email, at jbox@arthaassociates.com and I’ll forward a copy on to you.