Comments Off on Reflecting and Projecting 2023 – 2024
As humans, it is natural for us to take things for granted. Our children will stay young forever. A business will continue on its current growth trajectory. 2023’s rapidly changing interest rate environment served as a reminder that things can change quickly. On March 17, 2022, the federal government set out to slow down an economy that was growing at an unsustainable rate. The federal funds rate rose from 0.25% to 0.50% in March 2022 to 5.25 to 5.50% on July 26, 2023 which represents the last rate hike (https://www.forbes.com/advisor/investing/fed-funds-rate-history/). That’s 500 basis points in 16 months! Rapidly increasing the federal funds rate achieved the government’s goal of slowing inflation. The speed of change was rapid, being the fastest in multiple decades, and sent shock waves throughout the commercial real estate world. Some of Black Diamond Realty’s observations are captured in the bullet points below.
Buyers were forced to adjust their internal underwriting to account for higher borrowing costs, due to higher interest rates, which ultimately led to rising cap rates.
Sellers are also forced to adjust value expectations when evaluating their assets and pricing to meet required DSC for Buyers of their assets (making it a bankable deal). Sellers are slow to adjust to a changing economy. Human nature protects our psyche resulting in most sellers reluctancy to accept the fact that asset valuations from mid-2022 are no longer an accurate representation of today’s market value.
The buyer-seller gap was wide at the beginning of early 2023 but slowly shrunk. Like many things in life, time heals wounds or, in this case, narrows the buyer-seller value expectation gap.
Banks are quick to adjust pricing and risk tolerance guidance and adjust required DSC levels and reprice assets.
Banks struggle with nonperforming assets and collections.
Metro markets often rise faster than tertiary markets and, therefore, tend to fall faster when economic conditions adjust. The markets Black Diamond Realty services experienced a slowdown in activity but it was much less profound than many metro markets consuming national media.
Greater increase in creative deal structures including seller financing.
Higher interest rates make leasing a more attractive option for some businesses. In comparison to sale volume, leasing activity has experienced increased transactions across most sectors of commercial real estate.
High borrowing costs, combined with increased labor and material costs, have resulted in a significant slowdown in new construction starts. This is a national trend in most markets.
Land sales have slowed. Higher interest rates and increased construction costs make it more difficult to “pencil” returns that meet developer hurdle (internal return) rates.
Less individuals can afford to buy their “dream home” because of rising home prices and rapidly changing interest rates which has resulted in many potential buyers sitting on the sidelines and renting longer. Market rents have continued to tick up in most markets helping to create greater demand in CRE’s multifamily sector . Market inventory continues to be the key struggle leading to lower transaction volume this sector.
2023’s theme was rapid change. What will 2024 look and feel like? Predicting the future is impossible, but national trends and experience allow us to make educated guesses. Please bear in mind you should always complete your own due diligence before making an investment decision. Black Diamond Realty’s 2024 predictions are as follows:
The Federal government is anticipated to lower interest rates three to six times throughout the year. BDR anticipates four lowering events with a final result between 100 to 150 basis points.
Election years usually create uncertainty and fear which causes many investors and businesses to adopt a holding pattern. Declining interest rates should create a market buzz but uncertain political outcomes will soften 2024’s activity. In comparison to 2023, greater CRE deal volume is anticipated.
Combined with high bank CD and money market rates, 2023’s slowdown in CRE activity has led to pent up demand with a lot of “powder” sitting on the sidelines. Cash is, once again, king/queen. “One person’s demise is another’s potential treasure.” Many adjustable and/or maturing loans will present buying opportunities over the next 12-24 months.
Banks will be quick to move nonperforming/uncollectable assets off their books. This will create opportunities for buyers to pick up properties at a discount…timing and connections will be key to buying up these assets.
Office assets, overleveraged real estate and properties financed with short-term debt all face headwinds in 2024. Distress, leading to buying opportunities, is anticipated across these categories.
User demand for industrial/logistics, retail and residential is anticipated to remain strong.
Cash buyers and international investors are anticipated to be more prevalent.
Banks will continue to tighten their lending belts and stress properties at higher interest rates (8-9%). Debt service coverage ratio (DSCR) levels will continue to be higher than pre-COVID levels. Most banks will require a 1.25 DSCR
We often joke Black Diamond Realty is not a group of magicians. We are skilled CRE professionals whose job is to maximize exposure, navigate complicated processes and provide sound consultative investment and decision-making guidance based upon experience. We are in the commercial real estate trenches every day. We do not sell homes.
Diversifying investments, pursuit of passive income, filling a void in your portfolio’s performance (leasing) and liquidating an asset to meet long-term goals are all reasons to contact our Black Diamond Realty team. Call our team of experts today to set up a consultation. We look forward to serving you in 2024 and beyond.
Article by:
David Lorenze, CCIMPrincipal, and team.
Comments Off on Reflecting and Projecting 2022 – 2023
Congratulations! You just rode one of the wildest rollercoasters the modern economy has ever experienced. Roughly one year ago, experts predicted interest rates would begin ticking up twenty-five to fifty basis points, with a target of 4.5 to 5% interest rates. The goal was, and still is, to fight record high inflation (9.1% in June 2022; a 40-year high). Many projections were far off, including ours. In today’s market, a 4.5 to 5.0% interest rate on a deal is unheard of and would make investors drool. As we enter a new year, we are looking at the prime rate hovering in the mid sevens; that’s 7.5%! This marks a 400-basis point increase in the past nine months.[i] Last year experienced the most aggressive economic tightening campaign in over three decades. So, how does that affect commercial real estate?
Rising interest rates put downward pressure on valuations. Financial institutions, including regional and national banks, typically want to achieve a 1.20 to 1.25 debt-service coverage ratio (DSCR), meaning 20%-25% of a project’s cash flow is available to pay current debt obligations. When the cost of borrowing funds increases, meeting required DSCR ratios is more difficult, and a buyer cannot afford to pay as much value to a seller while still maximizing leverage (borrowing power). A buyer either has to come up with more capital to lower the loan-to-value (LTV) ratio or lower the offer price. Here is an example:
ABC Investment LLC has renovated an asset and wants to cash out to redeploy capital into the next project. You like the asset a lot. You offer full asking price – $1,250,000. A bank that requires an 80% LTV ratio (some banks will offer lower, say – 70-75% LTV) will result in you needing to borrow $1,000,000. Nine months ago (Q2 2022), you could have hypothetically achieved an interest rate of 3.65% (Black Diamond often saw rates between 3.25% to 4.00%). Amortizing $1,000,000 over 20 years at 3.65% interest results in a monthly payment of $5,876.97. Fast forward nine months (Q1 2023), and that same loan structure has changed drastically.[1]
As of December 15, 2022, the current prime rate is 7.5% in the U.S., according to The Wall Street Journal’s Money Rates table, which lists the most common prime rates charged throughout the U.S. and in other countries by averaging out the prime rate from the ten largest banks in each country. The federal funds rate is currently 4.25% to 4.50%. With that in mind, you can see how the “fed funds plus 3.00” rule of thumb plays out: 3.00% + 4.50% = 7.50%.[ii] At Black Diamond Realty, we would argue this rate is very conservative, as our experience has resulted in many regional banks willing to entertain deals at lower interest rates – with a 250 to 300 basis point spread in play.
Getting back to our example, your investment company’s new interest rate (7.25%; 275 basis point higher than federal rate) results in a monthly expense of $7,903.76. The difference between a 3.65% interest rate and a 7.25% interest rate is $2,026.79/month. The yearly difference is $24,321.48. In today’s market, let’s assume a regional multi-family asset comps out and sells at a 7% capitalization rate. Utilizing a 7% capitalization rate, the $24,321.48 yearly interest rate difference results in a downward value adjustment of $347,449.71 ($24,321.48 / 0.07). This ~$350K difference results in a seller/buyer “value gap.” Buyers are forced to react quickly because the capital markets respond within weeks, often days. Some buyers are struggling to find deals while sellers reassess their motivations to liquidate. Sellers are realizing they missed the market peak. Buyers are coming to the table with greater liquidity to meet DSCR (healthy, “bankable” deal) and bridge the seller gap.
The current market reflects the seller-buyer gap. On its own, this would be bad news for sellers everywhere. Fortunately for the market, supply and demand also comes into play. Like many things in our economy, construction materials (think Lowe’s, Menards, Home Depot) have experienced significant inflation in 2022. Construction expenses rose 13.7% since September 2021.[iii] Higher construction expenses, including excavation work, have resulted in lower nationwide new housing construction starts. Privately-owned housing starts in November were at a seasonally adjusted annual rate of 1,427,000. This is a 0.5 percent below the revised October estimate of 1,434,000 housing starts and is 16.4 percent below the November 2021 rate of 1,706,000.[iv]
The same trend is true across most sectors of commercial real estate. Higher material costs combined with higher costs of borrowing funds (interest rates) has resulted in a slowdown of new construction activity. We anticipate this trend to continue. Sticking with the multifamily sector, lower housing starts have resulted in increased rents and corresponding increased valuations. The same data shows a downward trend in construction costs during Q4, 2022 which is something to watch in 2023. So, what else can we expect in 2023?
Deals happen in all cycles of commercial real estate. Rising interest rates create downward pressure but, on the flip side, rising rents/income result in higher valuation. Do these two opposite effects counterbalance each other? The answer is specific to each commercial real estate sector (supply/demand) and the specific market. Depending upon the market, rising income is outpacing inflation which continues to push rents higher. The risk lies in the job market. Job loss and higher unemployment will eventually reduce consumer purchasing power and result in less demand for materials, goods and real estate. When unemployment rises, rent growth will be at risk for most sectors of commercial real estate. Our team is keeping a close eye on unemployment in 2023.
The ‘R’ word has been tossed around many dinner tables and watering holes across America. An economic recession occurs when GDP, which measures trade and industrial activity, declines in two successive quarters. Are we amid a recession? US Government courses reported that Quarter 3 of 2022 saw a 3.2% increase in GDP over the previous quarter.[v] This increase is welcoming news after two quarters of declining GDP. Some fear the data is artificially inflated due to the government’s easing of energy costs. The biggest challenge in reviewing federal government data is the lag. Most data lags at least three months, sometimes six, which means the Fed is making decisions based upon outdated information. What does the real estate market cycle forecast look like knowing this? Keep reading.
Real estate market cycles vary by sector and location, amongst other factors. Mueller’s[vi] forecasting model breaks down the real estate market cycle into four phases:
There are 16 total points along the horizontal axis. Points 1-11 are in phases 1 and 2 which represent a period of growth. Points 12-16 are in phases 3 and 4 which represent a period of decline. The four market cycle quadrants have varying characteristics. Phase 1, Recovery, is characterized by declining vacancy with little to no new construction. Negative rental growth to below inflation rental growth is expected during this part of the cycle. Phase 2, Expansion, is characterized by declining vacancy with greater new construction. High rent growth is common. Phase 3, Hypersupply, is characterized by increasing construction with continued and/or increasing construction. Rent growth remains positive but begins to decline. Phase 4, Recession, experiences increasing vacancy with more completions. Below inflation and negative rent growth is experienced during this part of the cycle. The Mueller report’s primary objective is to enhance investment decision analysis – to make investors aware of national trends.[vii]
Sector breakdowns are provided in the bullet points below with quick comments about the regional market. Keep in mind what is happening in New York City, NY is not necessarily a direct correlation to what is happening in Bridgeport, WV; hence several anecdotal comments from Black Diamond Realty’s perspective which are focused on the two core areas we serve: North Central WV and WV’s Eastern Panhandle. We recommend referencing the chart as you review the points below. Mueller’s data is the black bullet points. Black Diamond’s points are white sub-bullet points. In addition to this distinction (national trend – Mueller vs. Black Diamond), bear in mind Mueller’s chart lags by two quarters. The cycle has progressed along the bell curve over the past three to six months.
Point 11: Peak of Phase 2 – Expansion Cycle
Industrial – Warehouse
Remains strong throughout north central WV and WV’s Eastern Panhandle. For north central WV, keep an eye on oil and gas volatility/strength in 2023. For WV’s Eastern Panhandle, we are watching consumer confidence and retail strength.
Apartment
Remains strong in both markets due, in part, to the ability to push rental rates to counteract rising interest rates.
Retail – Neighborhood/Community
Still demand albeit at a slowing pace in both markets. Headwinds are forming which we believe will negatively affect all subsectors of retail.
Point 12: Beginning of Phase 3 – Hypersupply
Industrial – R&D Flex
Flex space has remained strong in both markets. North central WV has an undersupply of quality, newer flex space with docking capability. The Eastern Panhandle has consistently filled any new supply but it appears some headwinds could be forming (Hypersupply phase) where new product is taking longer to secure tenancy.
Office – Suburban
Demand still exists albeit at a slower clip compared to pre-Covid.
Retail – Factory Outlet
Point 13: Middle of Phase 3 – Hypersupply
Office – Downtown
Major metro markets have struggled post-Covid. In smaller/tertiary markets, he jury is still out on whether long-term leases will restructure plans as
Predicting future trends is nearly impossible. Market dynamics are complex and can shift quickly. Our team of experts has made some observations and anticipations for 2023. In no way, shape or form are we suggesting these “educated guesses” to be fact. Mere predictions are not indicative of actual future results. Please consult with your professional legal and financial advisors, complete your own due diligence and draw your own conclusions pertaining to the best financial moves for you.
Black Diamond Realty Predictions:
Real estate is considered by many as a great hedge against high inflation and a strong diversification play. Income producing assets are still warm, not hot, as an investment diversification play. Activity has cooled due to higher interest rates putting downward pressure on valuations. Ranking the sectors is difficult because there are so many factors (location, age, tenant, traffic patterns, surrounding amenities, etc.) but anticipated trends can be projected. In addition, there are several macroeconomic and microeconomic items we anticipate playing out in 2023.
Multifamily and industrial are anticipated to remain strong in the markets we serve. However, look for headwinds beginning to form within 12 to 24 months. Office is the weakest sector as evidenced by higher-than-average historical vacancy rates caused by lower demand created, in part, by work-from-home trends.
Tertiary markets with a core employment base of eds, meds and government jobs (considered recession resistant) will become more attractive to outside investors who are seeking a “safe place” to park capital. West Virginia has significant positive momentum as evidenced by the numerous basic employment announcements throughout 2022. Tertiary markets, similar to several growing areas in West Virginia (North Central, Eastern Panhandle), offer higher cap rates which are attractive to investors. Review Black Diamond Realty’s October newsletter article which compiles numerous statewide job announcements. Click Here.
One to two additional rate hikes in the first half of 2023. We anticipate a reversal, declining rates, starting as early as Q3 or Q4, 2023.
Can the government continue to service its debt at high interest rates? An economist who follows monetary policy, politics and global business much closer than our team will need to answer that question. What we know about monetary policy and our government’s current debt obligations is concerning, at best – downright frightening to others.
Black Diamond Realty anticipates seeing debt options with lower LTV ratios in 2023. Banks will adjust from offering 75-85% LTV to a range of 70-80% LTV.
Construction starts will continue to slow in most sectors. Multifamily and industrial may continue to expand in 2023 but high interest rates are putting downward pressure on construction starts.
Consumer confidence will slip. Challenging retail financial reports will follow. There will be heightened volatility in the stock market.
Our belief is that we are in the midst of a recession. It is either already here or quickly approaching. Government data lags by several months. Consumer confidence has declined during 2022.[viii]Inflation reached record highs in 2022 although it has been declining in recent months. Some believe the inflation decline is, in part, artificially enhanced by the government’s proactive action in releasing 1 million barrels per day of oil reserves. Energy prices will remain volatile especially if/when this strategy is lifted.
Black Diamond Realty is keeping a close eye on unemployment. When unemployment rates increase, consumer purchasing power will decline which will have a trickle up effect to GDP, negatively influencing most sectors in commercial real estate (most notably, retail).
For Black Diamond Realty, sales volume is forecasted to decrease while leasing volume will increase which should lead to leasing price increases in the high demand sectors (industrial and multifamily).
We recommend each party consults with its professional accountant, tax, and legal advisors to better understand the effects of market conditions and real estate transactions. Primary keys to successful investments are knowing the market, the numbers and market trends. Our professional team at Black Diamond Realty is an industry leader. Our company mission is to add value to the communities we serve. We look forward to consulting with you in 2023. Make it a successful investment year.
[1] It should be noted that interest rates can change drastically depending upon many factors, including the deal’s strength, the borrower’s financial strength (including investment and business experience), debt-to-liquidity ratios, and LTV.
Comments Off on Commercial Office Buildings | Sale or Lease | I-79 Technology Park Fairmont, WV
5000 NASA Blvd, Fairmont, WV
Located within the I-79 Technology Park, 5000 NASA Blvd is a 114,055 (+/-) square foot building with multiple office suites available ranging in size from 1,622 (+/-) to 14,740 (+/-) square feet. This building is separated and identified as North Tower and South Tower. There are two elevators within each tower. The I-79 Technology Park houses multiple office buildings and is HUB Zone Certified. The property offers signage availability, and ample courtesy parking for visitors and employees.
The High Technology Park is located within the heart of the I-79 High Technology Corridor just south of Fairmont, West Virginia. The location of the I-79 Technology Park places it within one day’s drive of 60% of the U.S. population and some of the Nation’s largest cities including New York, Boston, Washington, Chicago, Atlanta, Charlotte, Philadelphia, Baltimore, Pittsburgh and Indianapolis. Access to I-79, Exit 132 can be achieved by traveling 0.8 mile southeast. The building and park are highly visible from traffic traveling in both directions along I-79.
Located within the I-79 High Technology Park, 1000 Technology Drive (Innovation Center) is a 102,723 (+/-) square foot building with multiple office suites available ranging in size from 779 (+/-) to 6,337 (+/-) square feet. The I-79 Technology Park houses multiple office buildings and is HUB Zone Certified. The property offers high security, high end finishes, reception desk attended during office hours, free parking, conference/training room with WIFI, projector, fitness center, group fitness classes, large outdoor courtyard.
The High Technology Park is located within the heart of the I-79 High Technology Corridor just south of Fairmont, West Virginia. The location of the I-79 Technology Park places it within one day’s drive of 60% of the U.S. population and some of the Nation’s largest cities including New York, Boston, Washington, Chicago, Atlanta, Charlotte, Philadelphia, Baltimore, Pittsburgh and Indianapolis. Access to I-79, Exit 132 can be achieved by traveling 0.5 mile southeast. The building and park are highly visible from traffic traveling in both directions along I-79.
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Our Second Location is Finally Official!
Black Diamond Realty is proud to announce that we have officially closed on an office building along N Queen St in Martinsburg WV. Our talented Graphic Designer/Office Manager, Andrea Icenhower is permanently servicing this office along with David Lorenze and Kim Licciardi who travel from our headquarters in Morgantown WV. We are excited about the expansion of our business and will continue to uphold our commitment of ensuring the success of our clients and community. Stay tuned for more updates on the renovations of our office space and official address.
In the meantime, our Black Diamond Realty team is available and ready to help serve you. Please call Black Diamond Realty’s Martinsburg (304.901.7788) office to speak to Andrea and set up a consultation to discuss your commercial real estate needs.
Why the Eastern Panhandle?
Our team sees a growing need in the Eastern Panhandle for a specialized commercial brokerage firm. The Eastern Panhandle community is rich in history. Serviced by I-81, WV’s Berkeley and Jefferson Counties represent an abundance of growth, serving as the main connection between the Washington, DC / northern Virginia area and the beautiful mountains of West Virginia. We are excited to expand our team and our approach to the area.
Andrea’s Big Move to Jefferson County
In the beginning of August, our Graphic Designed/Office Manager Andrea and her husband Michael Icenhower packed up a Uhaul and moved to the eastern panhandle where Andrea will head the new office. Andrea recently joined the Leadership Jefferson program which is sponsored by theJeffersonCounty Chamber ofCommerce –Jefferson Co Chamber Facebook – The Primary goal of Leadership Jefferson program is to educate current and future community leaders about JeffersonCounty’s assets, opportunities, and hurdles, to strengthen the sense of community and ensure a prosperous future.
Andrea and her other classmates will continue to meet through June 2023 to learn more about the community and to meet businesses in the area! The class of 16 will continue to work together on a class service project! We can’t wait to see what they come up with!
Comments Off on Fear. Uncertainty. Challenging Economic Times.
Fear. Uncertainty. Challenging Economic Times.
For many Americans, these feelings and beliefs have embedded themselves into our cultural fabric. Reminders of uncertain, and for many, challenging times are plentiful. Gas pump prices have soared over the past 12 months. A gallon of milk is 11.2% higher in the same time period. Your favorite morning coffee tastes a little less fulfilling with the higher price tag. Our society has shifted from one cultural extreme to another – enduring a long stay-at-home mandate that stressed the core of human interaction needs to an economy flooded with out-of-control inflation. Why is this happening? What comes next? Our team of experts has thoughts and ideas. Before reading further, please know these thoughts, beliefs and predictions may make you uncomfortable. They are observations and beliefs; not a crystal ball reading. Time will tell how things play out.
Inflation is the new frowned-upon visitor knocking on doors around the country.
Most of our nation’s current inflation can be pinned to two primary factors. The first factor is stimulus money. The federal government injected over $5 trillion into America’s money supply over a 24 month period via Covid relief funds. This amount represents roughly 27% of the current money supply in circulation. More money in citizen pockets led to increased spending. The higher velocity of spending creates inflation. To combat this velocity, the federal government utilizes one of its key control levers, interest rate fluctuation, to control spending habits. The goal of increasing interest rates is to decrease spending in an effort to slow down the economy. The Feds recent rate increases illustrate the government’s concern that inflation is running too hot. The impending challenge is the Fed’s interest rate hikes are only geared toward addressing the demand (spending habits) side of the equation. It does not address the supply side. The Fed faces an unprecedented task of reining in high inflation with 40% additional money in play.
Simply put, our dollars today are significantly less valuable (lower purchasing power) than they were 12 months ago. Stimulus money aims to help those most in need; those individuals most vulnerable and lowest on the earning potential food chain. The irony is disheartening… Our government over-injected for short-term benefit, thereby creating a long-term inflation challenge. The band aid (government stimulus checks) has been pulled while the wound has intensified. Printing money and more government spending is it the answer to stop the bleeding.
The second factor is energy costs.
Under President Biden, an extreme focus on sustainable, clean energy has resulted in an under supply of oil and gas. In the long run, most agree this will be better for our planet and the sustainability of our nation. Others will point out this goal is a multi-decade process to reach a level of production and reliability to avoid power shortages and blackouts. In the short term, President Biden’s regime eliminated the ability to drill on most federal lands. The recent stay-at-home mandate also resulted in lower power consumption which led drilling companies to halt operations. Sanctions placed on Russia are also in play. The following article goes into great detail about how high energy costs greatly affect inflation: https://www.nytimes.com/interactive/2022/06/14/business/gas-prices.html
Where are we heading? How will commercial real estate valuations be affected?
It is impossible for any individual to look into their crystal ball to decipher the outlook 1, 3 or 5 years out. Nonetheless, our team has put together a list of educated guesses.
Our team believes the federal government will continue to push interest rates higher. The government’s goal is to decrease inflation by slowing our economy. Black Diamond Realty projects a 1.5-2.5% increase over current rates within the next 9-12 months. If you are facing a refinance event within the next 2-3 years, lock in rates now. Most likely, they will not be lower 2-3 years from now.
As interest rates continue to rise, CRE valuations will experience downward pressure. The following two sub-bullet points explain why.
Cost of borrowing funds, a buyer’s expense, directly ties into debt service coverage ratios. Many banks seek a minimum 1.2-1.25 DSCR while amortizing loans over 15, 20 or 25 years. We anticipate banks will quickly enter a period of greater scrutiny in which “stress testing loans” will become more laborious similar to policies and procedures observed following 2008-09’s Great Recession.
Cap rates will go up. As the cost to borrow funds increase, a similar rise can be expected to cap rates. Institutional grade deals should retain value while more mom/pop tenants and shorter lease terms will pose greater risk and a corresponding heightened cap rate.
A transition from “cash is trash” back to “cash is king” in the CRE marketplace. Cash has been trash for the past dozen years. Bank and government loans could be achieved at rates slightly above historical inflation figures. This provided tremendous purchasing power to less sophisticated and lower capitalized individuals. Black Diamond Realty observed many deals 90-95% leveraged with creative financing and bank loans leveraging the asset. It is anticipated some investors will still highly leverage assets but we predict at a much lower frequency. Greater cash down will become a returning norm. Cash offers with quick closes will carry greater weight. In summary, rising interest rates will make cash more powerful in the months and years ahead.
Real estate will remain one of the greatest wealth building tools known to mankind. The deal structure and valuations are changing but the fundamentals behind real estate investing’s power remain intact. Real estate is a tangible asset. Historically, real estate has been a tremendous investment tool to hedge against inflation. This centuries long truth will remain strong albeit with changing deal structures and valuations compared to the past half decade.
Please note that statements based on forward-looking estimates may not materialize; there are no guarantees of future economic performance.
Warren Buffet has profited billions with a simple, straightforward investment strategy. Fear creates irrational decisions which lead to opportunities. “Buy when there is fear in the market.” The world’s current fear, uncertainty and challenges will result in tremendous buying opportunities.
The fundamentals of successful commercial real estate investing is changing. Our team of experts recommends keeping the following tips in mind.
Create a 12 month rainy day fund. Calculate your monthly expenses and multiply by 12. Make sure you have this money “set aside” in the event you need to draw from it.
Have some of your liquidity positioned in relatively low risk investments which will allow you to access cash any moment an investment opportunity presents itself.
Take advantage of one of the greatest wealth building tools offered by the federal government – IRS Code 1031. Lever up into larger, higher cash flow and appreciating assets.
Know the asset class you are investing in. Understand the current fundamental strengths, weaknesses, opportunities and threats (SWOT) for each sector of commercial real estate that you are considering.
Look for stabilized, cash flowing opportunities while not shying away from value add plays if the ROI and time/effort required make sense for your personal situation.
We live in a world of challenges. Fear and anxiety are at all time highs for some. We survived the 1973-81 recession and will certainly overcome the present day’s hurdles. The United States has proven, many times over, to be a dynamic and resilient culture with the ability to overcome adversity. Proceed with caution, be prepared to pounce and consistently monitor opportunities. Buckle up. Remember rainbows only show after periods of rain. Challenging times present wealth building opportunities.
Our Black Diamond Realty team can help guide you. Please call Black Diamond Realty’s Morgantown (304.413.4350) or Martinsburg (304.901.7788) office to set up a consultation with one of our experts.
Comments Off on Leveraging Real Estate Gains: The Power of a 1031 Exchange
Nine out of 10 US millionaires have found tremendous financial success in real estate investment. Read the seven reasons why 90% of millionaires choose to invest in real estate and why you should too in this article.
The federal government’s rules and regulations offer favorable incentives including annual depreciation and interest expense deductions. These tax deductions encourage investors to deploy money into real estate. The most favorable, generational wealth building tool can be found in Section 1031 of the IRS code. According to IRS.gov,
Whenever you sell a business or investment property and you have a gain, you generally have to pay tax on the gain at the time of sale. IRC Section 1031 provides an exception and allows you to postpone paying tax on the gain if you reinvest the proceeds in similar property as part of a qualifying like-kind exchange.
A 1031 exchange allows a real estate seller to defer paying taxes so he or she can leverage capital gains into a larger asset with presumably greater cash flow. The IRS essentially allows an investor to ‘kick the can down the road’ and reinvest the government’s money via a 0% interest loan. The taxes do not disappear, but an investor has the opportunity to leverage the government’s money into larger assets. The 1031 program rewards investors while encouraging further investment in real estate.
This is one of the greatest wealth building tools that exists, because there is no limit on the number of times an investor can utilize a 1031 tax exchange. The federal government is also flexible on the definition of a like kind property. For example, you can sell an apartment building and purchase an office building, land, industrial building, or an asset in a different sector of real estate. To qualify for a 1031 like-kind tax exchange, there are important rules and regulations that must be met. Identification timeframe and the process are two key items to understand.
The government offers two primary identification methods for a 1031 exchange. Both methods require the seller to utilize an intermediary to quarterback the process. Some intermediaries specialize in only 1031 transactions. Other investors choose to utilize their preferred real estate attorney, whose firm is capable of handling a 1031 transaction. To execute a 1031, it is imperative the exchanger (seller of relinquished property) hire an intermediary who handles the 1031 transaction, before the relinquished property closes. A 1031 is considered null and void if the seller (of the relinquished property) takes position of the funds from the relinquished asset sale. More information about the top ten identification rules for a 1031 exchange can be found here.
The traditional 1031 method allows for a 45-day requirement to identify and designate property to purchase, once the relinquished property has sold. There are two “identifying” rules that govern how many properties can be identified. The first rule allows an exchanger to identify up to three properties to purchase. The second method allows an exchanger to identify as many properties as desired, up to 200 percent of the value of the relinquished asset. The second timeframe rule pertains to total days to purchase the replacement asset(s). From the sale of the relinquished asset (property sold), you have 180 days to finalize a transaction to purchase a replacement property or properties.
The second method to execute a 1031 occurs when the exchanger buys “replacement assets” before the relinquished property is sold. A reverse 1031, as implied, is effectively the reverse order of a traditional 1031. This option takes more time and is more cumbersome from a paperwork/process standpoint. The replacement asset(s) are purchased first and held by an intermediary. Then, the 1031 applicant has 180 days to close on the asset. Why would anyone utilize a reverse 1031? Black Diamond Realty recently experienced a situation, whereby a client secured a purchaser for a parcel of land and the client wished to defer capital gains tax payment. So, the client secured two replacement properties via a purchase and sale agreement. The land contract needed to be extended multiple times. After six months, the seller of the replacement assets (our client was the buyer) applied pressure for the multifamily properties to sell immediately. In addition, our client wanted to close on those assets, because we were in a rising-interest-rate environment. Our client closed on the two multifamily “replacement assets” before finalizing the sale of his land (cause for the capital gain to be in play), resulting in a reverse 1031 being executed.
Black Diamond Realty recommends you consult with your accountant or tax advisor and a real estate attorney before finalizing your like-kind exchange strategy. BDR has many on-market and off-market replacement opportunities. So, please utilize our team as a resource. Wealth building tools have been created to incentivize folks to invest in real estate. Be aware of their availability and utilize them to meet your investment goals.
Comments Off on The Real Way McDonald’s Makes Their Money—It’s Not Their Food
McDonald’s sells a lot of food. Like, a lot of food. We’re talking enough food to serve more than 70 million people every day, with more than 75 burgers sold every second.
That shouldn’t be too surprising, considering McDonald’s is one of the largest fast-food chains in the world. But their menu actually isn’t what generates the company’s multi-billion dollar profits. The real best-seller? Real estate.
There are more than 36,000 McDonald’s locations worldwide, but only about 5 percent of them are company-owned. The rest are franchised out, meaning they’re run by individuals who McDonald’s has contracted to operate them. In those situations, the company only spends money on the real estate of that location. The franchisee is responsible for all the costs of running the restaurant while also paying McDonald’s for rent (which adds up to an average of 10.7 percent of their sales), a $45,000 franchisee fee, and a monthly service fee equal to 4 percent of gross sales, Business Insider reports. With multiple means of collecting revenue at relatively minimal costs, it’s no wonder McDonald’s relies so heavily on franchises.
“We are not basically in the food business,” former McDonald’s CFO Harry J. Sonneborn reportedly told investors. “We are in the real estate business. The only reason we sell 15 cent hamburgers is because they are the greatest producer of revenue from which our tenants can pay us rent.”
Being able to hand off the costs of running the restaurants is a primary key to McDonald’s success. According to Wall Street Survivor, in 2014, the company made $27.4 billion in revenue, with $9.2 billion coming from franchised locations and $18.2 from company-owned locations. But after you factor in the total costs of running those locations, McDonald’s kept only 16 percent of the revenue from locations it owned directly compared to the 82 percent of the franchise-generated revenue. Here are 17 more things McDonald’s employees won’t tell you.
