Tax breaks. Infinite are the incentives Uncle Sam provides for those who own income property. Mortgage interest, operating expenses, and depreciation can all be deducted. In some cases – capital outlays, such as a new roof or parking lot can be expensed.
Appreciation. Depreciating an appreciating asset is one of the marvels of commercial real estate investment. As an example – say you buy a structure for $5,000,000. The improved portion (not the land) can be depreciated over 39 years. But at the same time – over a ten year span – your $5,000,000 could be worth double!
With these benefits, you may be wondering. Why don’t all companies own their buildings? Why would anyone lease? And what should be considered before buying?
Fluctuating space needs. Many fast growing operations opt to lease vs own. You see, the amount of square footage required can vary. If you own and outgrow the footprint – money is tied up in a facility that is obsolete. Conversely, a series of short term leases and options to extend can handle the fluctuations without consuming precious capital.
Use of the down payment. Most finance an owner occupied commercial real estate purchase through the Small Business Administration – SBA. Originated is a loan(s) for 90% of the buy with the balance coming from the borrower. But 10% of a $5,000,000 deal is still $500,000. In some instances, this capital can be better deployed in new employees, machinery, or equipment.
Financeability. A lender considering making a loan will look at the credit worthiness of the borrower as well as the occupying entity. Is the business cash flow – after all the expenses are paid – sufficient to service the debt?
Company structure. As mentioned above, depreciation – for those who can benefit – is awesome. Publicly traded companies frequently avoid ownership of their buildings so that depreciation doesn’t ding their earnings.
Age of the principals. Years – an important consideration as commercial real estate ownership is a long play. Meaning. If the principals are in their eighties – chances are great – they won’t live to see the appreciation. Certainly, their heirs will thank them.
Exit strategy. Owning for an operation should also be considered in light of your horizon for the enterprise. Simply, if you plan to dispose of the business within the next five years – what remains is the facility. I’ve witnessed this work quite well as the acquiring group needs a place to live and signs a lease. I’ve also watched the value of the operation be diminished because a duplication of addresses occurs.
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at [email protected] or 714.564.7104. His website is allencbuchanan.blogspot.com.
