Welcome to Apartment Building Trader

With the current status of the capital markets in flux, many sellers of commercial properties are concerned about how this may affect the sale of their own properties, as well as the availability of solid replacement properties. Lenders are tightening their belts and imposing restrictions on new loans, making financing of commercial properties more difficult as well as more costly. In speaking with clients who have recently sold properties, or who have properties presently for sale, the overriding concern I hear expressed is, “how can I avoid blowing my exchange?” It has been reported that even before the current situation developed, exchange accommodators (also known as Qualified Intermediaries) who hold property sale proceeds in escrow for a potential 1031 exchange are forced to refund 30% of those funds when the buyers are unable to close on a replacement property.

At first glance it might appear that would-be sellers will have to hold on to their properties until restrictions on new loans are relaxed, and replacement properties are again readily available. Rather than taking the risk of having to pay capital gains taxes and depreciation recapture, some sellers may be reluctant to sell for fear of not being able to protect their exchange. Others who have sold their properties and have not yet identified a property for their exchange are even more frantic. “What if I am unable to close on my nominated property due to the inability to find financing?” This is a very real concern since paying state and federal capital gains taxes, as well as depreciation recapture, can add up to as much as 22-28% of the sale proceeds. On a $1,000,000 sale that means writing a check to the IRS for $280,000 – ouch.

At the risk of being an alarmist, it may not be an exaggeration to say that there exists a crisis in the commercial lending market such as we have not seen in recent years. One has only to pick up any financial publication or newspaper to read how the sub-prime residential lending debacle has essentially trickled upstream to negatively impact the commercial lending market, particularly the CMBS (commercial mortgage-backed securities) market.

All buyers and sellers of commercial properties are feeling the effect of this freeze-out by most lenders. Loans are harder to come by, require higher down payments, and have higher interest rates. Interest-only loans may be a thing of the past, at least until the markets calm down.

Considering the current status of the financing market, the safest, most reliable option for anyone considering a 1031 exchange may be to place the proceeds of a sale into a tenant-in-common property offered by a reputable sponsor. The larger, more established real-estate based TIC sponsors offer several advantages to exchangers:

• In most instances, when a property is offered for sale to TIC co-owners, the principal, or sponsor, has already acquired the property and locked the loan rate and terms. The loan may be interest only for all or a portion of the term, or it may be amortizing. In either case, the rate is set and not subject to market fluctuations.
• Most sponsors will have completed all of the due diligence on the property to the lender’s satisfaction prior to closing and offering the ownership portions for sale. Appraisals, environmental studies and physical inspections, among other research, have all been conducted and approved, and are made readily available to buyers.
• Certainty of execution is the strongest reason for investing one’s sale proceeds into a quality TIC property rather than a sole ownership property. A principal/sponsor such as SCI and others are not susceptible to having contracts fall out or failing to close on a property. Before the property is brought to the market, execution is assured.
• If the property being offered by a TIC sponsor is newer, high quality, investment grade real estate, in a thriving market, lenders are much more inclined to offer favorable financing rates and terms for these sales. These rates and terms are then passed on to the co-owners of the property.

How long the effects of the unstable lending market will be felt is any economist’s guess. This may be a mere bump in the road, or an uneven ride that lasts much longer. Either way, the tightening of restrictions on loans, and the rising interest rates, will cause investor returns to diminish over the short term. As anyone who has owned investment real estate will attest, however, short-term yields are only one factor to consider in making a purchase decision. What is much more critical to today’s investor is the assurance that his equity will go into a high quality property with upside appreciation potential, and not to Uncle Sam.

Posted By
Jane Hope, CCIM
Vice President - Sales and Marketing
Contact AptBldgTrader Investment Group for further information about Jane Hope and SCI!

This entry was posted on Thursday, August 30th, 2007 at 4:27 pm and is filed under Commercial Real Estate. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.