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Commercial Real Estate Investment Newsletter Cravey Real Estate Services, Inc. 5541 Bear Lane, Suite 240 Corpus Christi, TX 78405 361-289-5168 Office 361-289-5442 Fax [email protected] A Full Service Commercial Real Estate Company www.craveyrealestate.com Check us out on: Twitter Facebook Linkedin Commercial Real Estate Investment Newsletter Convert And Upgrade For A New Potential March 2018 One of the ways to increase income taken care of by routine repairs and and value is to upgrade an older prop- replacement of parts. Anytime the This publication is not erty. In every community, anyone who acquisition of a run-down building a solicitation but is an information service from looks can usually find a number of is being considered, the investor this office. commercial buildings, apartments or must be certain that the deteriora- offices that need to be modernized. tion has not become so bad that Some are for sale because the present the building will have to be demol- owner may not recognize the increased ished. In This Issue return that they could get or do not Functional obsolescence happens want to make a further investment. when the property loses its useful- • Convert And Upgrade The property might be purchased at ness as a result of changes in styles For A New Potential a bargain price that is based on the or in the needs of tenants. As an • The Land Under A current cash return. example, an older apartment prop- Don’t overlook properties that are erty could have an electrical system Business–The Most still productive, but may have a much that is inadequate to handle modern Valuable Asset greater potential after a conversion. appliances such as air conditioning, • Considerations In Factories have been converted to shop- microwave ovens, computers, tele- ping centers all over the country. Old vision or other recently developed Ground Leasing Movie theaters have been converted equipment. This type of obso- • Restructuring to multi-screen facilities. Garages lescence can be cured usually by Troubled Property have been converted to condominium installing updated equipment. parking buildings. Seeing potential Economic obsolescence is a change • Commercial Real profits in older buildings takes imagi- in value that is caused by circum- Estate Representation nation. stances that are not directly related When you set out to upgrade an older to the property. Often this is a building, you will encounter either change in the neighborhood, such deterioration or obsolescence. Physical as a change in the use from resi- When ideas in tax and other legal areas in this publication deterioration, starts immediately dential to commercial or industrial. seem to fit your situation, after the building is completed and When this has happened, modern- it is recommended that you continues throughout its entire life, ization of the building may not be discuss them with your unless it is handled along the way with worthwhile. If the building is struc- professional advisor before taking action. proper maintenance and repair. This turally sound, it could be a good type of deterioration usually can be prospect for conversion. ß (continued) Ways To Upgrade older apartment buildings in good neighborhoods There are several ways used to upgrade a building. often look better for a long-term commitment than new construction. When a property is modernized, When a building is quite old, structural changes may rents can be raised substantially and, if the work can be needed for safety reasons. Before you purchase be done without disturbing the existing tenants, the the building, a professional engineer should make an investor will not have the expense of carrying the inspection. This can determine whether the building property as he/she would in new construction. He/ is structurally sound and what changes, if any, will she would also hope that most of the existing tenants have to be made. would stay and pay the increased rents, so the costs The building can be partially redesigned with archi- related to acquiring new tenants, as would be needed tectural changes during the modernization. If a with a new construction, would be avoided. building has very distinctive architectural features Finally, the overall costs may be less. Although the rather than a plain exterior, some investors feel that price of the property may be high in relation to the the property has a greater investment potential. current rents, the final cost after modernization may Functional changes and mechanical replacements be far less than the cost of new construction. With can reduce costs in an old building and increase effi- this lower cost, the investor may be able to charge ciency. Wiring will usually need to be replaced to lower rents than new buildings nearby, putting her/ provide safety for modern electrical and computer him into a very competitive position. equipment. Old heating systems will usually be inef- Convert To A New Use ficient and cause high maintenance costs, and should be replaced. An example of a mechanical replacement Unproductive properties can present opportunities would be a change from an old, slow elevator to a for big profits. When a building is bringing in little modern one. or no income because obsolescence or because of changes in the neighborhood that have made the loca- Aesthetic improvements are the sprucing up of the tion unsuitable for the original use of the building, property and can usually be done at a relatively little converting to a new use can make a new profitable cost. When an investor is looking for a quick resale, income stream. As an example, a movie theater in this type of improvement may be done rather than an area converted to industrial might be changed some of the others. Cleaning up the property, inside to a factory or warehouse. Some neighborhoods and outside, installing new lighting and repainting the have changed from warehousing and factory areas building can be enough sometimes to make a quick, to residential. A factory building that is no longer small profit. being used could be converted to a residential condo- Why Do The Upgrade? minium project or a shopping mall. o When an investor is looking for the proper property, The Land Under A Business–The Most Valuable Asset Anyone who owns a home that was located in a hot The Lessor’s Benefits housing market a few years ago knows that the land When land values soar, strategies must change. An can be worth more than the actual home. Now many example could be the developer of upscale homes companies are figuring out the same about their own who wants to keep the ownership of the valuable land real estate holdings. as an investment. The use of the land lease can widen Many entrepreneurs spend their adult lives building the market by reducing the purchase price of the a business up so that it can be sold at their retirement house. In certain parts of the country, the value of the or passed down to their heirs. Now many of them are land equals the value of the house. Leasing the land finding that the land under the business is worth far can cut the purchase price nearly in half. With this more than the business itself. type of land lease, there is usually a provision for a Major retail firms are in this category. A lot of com- rent increase halfway through the lease term in accor- panies will be more attractive for their hard assets dance with the results of a reappraisal of the land. than their actual sales, particularly during a reces- The Lessee’s Benefits sion. The land lease results in the following benefits for a ß (continued) builder or developer: lease to a leasehold mortgage, the developer should 1. She/he can acquire a valuable parcel of land with get a reduction in rent because the unsubordination very little cash investment. will cause his or her financing to be more expensive. Subordination could be the most important item in 2. This leasehold that is acquired is an asset that can the terms of the lease. Even a short subordinated lease increase in value, and then could be used as security might be better than a longer unsubordinated lease, for a loan, or could be sold for a profit. even though the longer lease is more salable. 3. The rental payments are fully deductible by the The landowner may or may not allow the interest as lessee. If he/she had purchased the land instead of owner-lessor to be subordinated to the interest of a leasing it, only the interest portion of the payments leasehold mortgagee. When there is a subordination to would be deductible. the mortgage, the lender, in effect, gets a fee mortgage 4. With a subordinated land lease, the lessee-devel- on the land rather than a leasehold mortgage. oper gets the equivalent of a 100% loan on the land. When the lease is unsubordinated, the landowner- Land Rent and the Term of the Lease lessor has first rights over the lender in case the Usually, a developer-lessee will attempt to get the lessee-mortgagor should default. With these terms, the longest possible term in the lease because the shorter- lessee could find that he/she cannot get a loan, or can term land lease would have a smaller market for get one only at a higher rate of interest. Without the resale. A long-term land lease is generally a net lease subordination, the mortgage is, in effect, a second lien under which the lessee pays the carrying costs, in- since the lessor’s claim on the rents takes precedence cluding real estate taxes. over payments on the mortgage.
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