1031 investments into large residential and commercial projects.....maybe not so hot!

berettafan · 09-16-2009, 10:20 AM

Been saying this for some time; SOOOO much profit from the r/e boom years was thrown into carefully marketed 'exchange properties' with not nearly enough due diligence. An entire retail investment market was created to suck up the found money so many people had lucked into by selling real estate. Everyone thought they were trump jr. You could actually go to websites and see properties, both commercial and large multi unit residential, listed by 'cap rate' along with minimum investment amounts. Companies like Rite Aid took full advantage of this easy money by selling their new stores (the r/e) before they even opened!

You could find a whose-who of the worst chains in America on these lists yet Joe Lucky with his $1m cap. gain was so afraid to pay a whopping 15% cap. gain tax he ignored the basics of investing. It's a Rite Aid or Burger King, what could go wrong?

Values (cap rates) were set by the very companies that built the properties and were leasing them back!!!! Utter nonsense!!!

Now the cracks are showing.

Know of one project that is facing foreclosure. Demanding further cash infusion from its 'investors' to stave off bankruptcy. Many others LONG AGO reduced payouts citing that the gauranteed return rate was only for 2yrs. or some similar small period.

Cheapest darned income tax we're likely to see in our lifetimes and yet folks insisted on taking their big winnings to Vegas (literally in some cases).

I don't know how this kinda stuff isn't front page news.

pwd72s · 09-16-2009, 10:22 AM

Commercial real estate is bad news...has been for quite some time. It has the potential to be more of a debacle than the Fannie Mae bust.

berettafan · 09-16-2009, 10:33 AM

i think so too.

it requires uncommon expertise. we can all relate to single family homes and demand for such...but restaurants and drug stores and apartment complexes? not so easy to predict. dangerous even for seasoned veterans. yet what flocked to these things in droves were not veterans at all but lottery winners.

turbo6bar · 09-16-2009, 01:56 PM

Quote:

Originally Posted by berettafan

I don't know how this kinda stuff isn't front page news.

The 'victims' are not sensational.

I also saw stupid signs of excess. A national title pawn company bought a crappy local building, slapped lipstick on it, and then put it up for a sale-leaseback agreement. The cap rate wasn't terrible (7 or 8), but it smelled funny.

I don't think commercial RE is inherently unstable. You just need to be able to analyze the fundamentals and consider the downside risk.

I think the problem is you've mistaken speculation for investing. Assumed rent increases, absurd vacancy expectations, and negative cash flow has no basis in real investing.

As the days pass, I see more signs RE on a overall basis is becoming a better buy. Are there some rotten deals out there? Certainly. Are there some real deals? Most definitely.

Porsche-O-Phile · Porsche-O-Phile's Garage

Commercial RE - particularly retail space - is horrendously overbuilt. There will be a LOT of vacancy for a long time to come.

turbo6bar · 09-16-2009, 06:32 PM

Retail space is definitely looking shabby. I would not want to be near that or hotels for a good while. Warehouse/industrial is also quite overbuilt in many areas.

EarlyPorsche · 09-16-2009, 06:57 PM

Retail on street (e.g. - on 5th avenue NYC, on 18th street D.C.) is hot and always will be hot. The problem is that the value of these high foot traffic, high quality units are sometimes used to set strip mall prices. That just doesn't work. If you can afford main street retail its a good investment at the right price, strip malls and Rite-Aids I wouldn't touch unless I owned the whole strip.

EarlyPorsche · 09-16-2009, 07:11 PM

Also don't forget...its not 15%. Its a TON more than that because your income bracket changes as well not to mention capital gains and so forth (I'm no tax expert but theres more than 15%). On paper you could use $1,000,000 to buy a property 1031 and it would be fine if it was really only valued at say $700,000 because you would have lost that anyway. So if its income producing and a good value ON PAPER it works out that way. Of course take nothing I say as any sort of advice you should trust or follow! Seek professional counsel or guidance!

motion · 09-16-2009, 07:44 PM

Don't forget to add state taxes. Could be another 10% (California). It all adds up to a helluva lot more than 15%. I was part of that mad rush to purchase 1031 exchanges. If nothing else, the depreciation has helped me to HUGE tax savings. You need to look at the big picture.

berettafan · 09-17-2009, 02:37 AM

Long term cap gains is/was 15%.

In the cases I am describing many are one time big winners. They don't have 7 figure incomes every year for depr (which takes a long time on r/e) to offset.

Turbos comments about vacancy and other expectations are right on the money. I believe a LOT of the money in these projects is from people who were getting their first exposure to such things. Their own fault? Yes. But still a situation worth noting and learning from.

Simply put when someone is telling you its ok to lose money because your saving taxes odds are you're not seeing the whole pic.

berettafan · 09-17-2009, 02:40 AM

State taxes are often fixed and thus in many situations irrelevant. You're going to pay that 6 or 10 percent on any type of income. Its long term cap gains rate of 15% that makes things nice.

turbo6bar · 09-17-2009, 04:16 AM

Quote:

Originally Posted by EarlyPorsche

On paper you could use $1,000,000 to buy a property 1031 and it would be fine if it was really only valued at say $700,000 because you would have lost that anyway. So if its income producing and a good value ON PAPER it works out that way. Of course take nothing I say as any sort of advice you should trust or follow! Seek professional counsel or guidance!

Haha. "Buy this property because you'll probably lose the money anyway."

It twas funny accounting and pseudo investing which got us into this mess. Have we not learned from the failures on Wall St and Main St?

turbo6bar · 09-17-2009, 03:47 PM

Quelle Surprise! Regulators Starting to Worry Re Bank Commercial Real Estate Exposures

The indifference and ignorance present during the last RE boom is apparently still showing among US regulators. Regulators are only now preparing for the upcoming Commercial RE storm. I always thought subprime problems were contained. Bernanke said it was so.

Quote:

Commercial property prices are now 26.9 per cent lower than one year ago and 33.9 per cent below the level seen two years ago, according to an index compiled by Moody’s Investor Service. Values on commercial property prices are now 35.5 per cent below the peak seen in October 2007.

EarlyPorsche · 09-17-2009, 04:35 PM

Quote:

Originally Posted by turbo6bar

Haha. "Buy this property because you'll probably lose the money anyway."

It twas funny accounting and pseudo investing which got us into this mess. Have we not learned from the failures on Wall St and Main St?

Sorry, I should have clarified that I do not recommend the practice of planning to lose on a purchase BUT you could either give that money away or get a slightly bigger property for that price. Its really not something that can be analyzed on its face as the OP would like to do. It is more of a case by case analysis than almost any other investment. I know people who had to make purchases for higher than market but still make an amazing income compared to what would have happened. Commercial real estate is not for the speculative or amateur businessman. At the minimum it would help if the buyer has retail experience from actually owning a store or something of the sort.

EarlyPorsche · 09-17-2009, 04:38 PM

Quote:

Originally Posted by turbo6bar

Quelle Surprise! Regulators Starting to Worry Re Bank Commercial Real Estate Exposures

The indifference and ignorance present during the last RE boom is apparently still showing among US regulators. Regulators are only now preparing for the upcoming Commercial RE storm. I always thought subprime problems were contained. Bernanke said it was so.

I mean I should say that I am not endorsing this theory but had a buyer purchased a property for $1,000,000 it would be worth $750,000 or so, according to your post. Had he not 1031'd into that investment he would have been left with about that or less anyway. See what I am saying?

berettafan · 09-17-2009, 05:36 PM

He eventually has to sell that property and pay the tax.

1031 is defer not eliminate.

EarlyPorsche · 09-18-2009, 01:25 PM

Quote:

Originally Posted by berettafan

He eventually has to sell that property and pay the tax.

1031 is defer not eliminate.

Very true. Its just more complex that we are making it. There is a question of how much income it is producing, how long of a lease it is under, whether the property will become a part of an estate or not. There is much more to it than looking at a poor cap rate next to a high priced property and thinking "gee this guy is gonna sink." The commercial real estate analysis is not even similar to residential. The leasing market is then completely different.

berettafan · 09-18-2009, 03:45 PM

has nothing to do with poor advertised cap rates. i'm not even sure where you're seeing that? what it has to do with is cap rates that were based on pie in the sky estimates. in fact the most insideous part of these 'investments' was the hard sell which wasn't on paper. the suggestion that the x% return + value of deferring the tax + estimated increase in value of the property, when all combined, would be a home run.

many people pushing these investments KNEW better but didn't care. like securities investment firms the income is made on the churning. has nothing to do with good old fashioned value analysis. various professionals (be they attys, accountants, realtors) were given FAT commissions to bring these sheep to the slaughter.

the 'facilitators' of these deals are no more r/e gurus than i am a pro football player. you'd think they were born and raised being fans of (insert project name here) based on how highly they speak of it but the truth of the matter is they likely never even visited it or if they did it was a brief walk through.

The investment marketers started playing all kinds of games to get to the magic cap rate. occupancy figures, rents, etc. were manipulated with no concern for reality.

read my initial post. it is kinda complex but very much understandable.