Archives August 2017

Puzzling Pieces?

Many first time investors shy away from Commercial Investing due to the misconception that they need hundreds of thousands dollars to purchase a commercial property. Now having hundreds of thousands of extra dollars is a great position to be in however it is not necessarily the benchmark starting position for first time investors.

Historically, one of the most difficult obstacles that prevented people from purchasing commercial property is the large amount of initial capital investment or down payment— this is no longer the case.

We offer syndications to enhance an individual investor’s buying power. An investor can become part of a syndication and receive monthly cash flow and annual return respective to the amount of money invested into the property. A syndication is a vehicle that assists investors to experience the high level of returns associated with commercial properties. By utilizing a TIC agreement (Tenant In Common), multiple investors can benefit from the leverage of each others invested funds to purchase a commercial property. Syndications create larger buying power that was otherwise unavailable to an individual investor. Let’s take a look at the Smith siblings to see how they utilized the power of a syndication;

The Smiths
John, Jane, Joseph, Julie, and Jack are brothers and sisters. They each have $50,000 in capital to invest. John is rolling funds out of IRA and 401K accounts. Jane is pulling money from her residence through a HELOC. Joseph sold an investment property and will complete a 1031 exchange to reinvest his capital gains. Julie has pulled money out of a high risk mutual fund and Jack had a very big piggy bank, he always knew how to save. The Smith family decided to come together, pool their funds and put $250,000 down on a $1,000,000 eight unit property in sunny San Diego.

The Property
Money Tree Gardens is an 8 unit building selling for $1,000,000 with an annual positive cash flow of $15,000. There is 1 unit vacant at the property and each unit is $75 to $100 under market rent. The current owner has been the property manager and spends a good deal of money on upkeep and contracted services, services that are available at a lower cost. Money Tree Gardens has future potential to bring in $20,000 if vacancy was reduced, rents were maximized and less money was spent on expenses.

The Market
The market surrounding Money Tree Gardens commands higher rents than what Money Tree Gardens is currently bringing in. Nearby schools, shops and restaurants within walking distance make this area desirable to live in. Several redevelopment projects are in progress which will make this property attractive to future buyers.

The Math
This is a step by step breakdown of how the Smith family will acquire and benefit from their syndication.

$50,000 Per Smith * 5 Smiths = $250,000 Initial Investment (Down Payment)

$1,000,000 Property – $250,000 Initial Investment = $750,000 Loan Amount

$50,000 Per Smith ÷ $250,000 Initial Investment = 20% Interest owned per Smith

Current Yearly Cash Flow of $15,000—Monthly Cash Flow of $1,250

Annual Cash Flow $15,000 * 20% of Interest owned Per Smith = $3,000 per Smith/per year

Monthly Cash Flow $1,250 * 20% of Interest owned Per Smith = $250 per Smith/per month

The Sale
After 2 years of holding the property, the Smiths decide to sell their investment property. Through effective property management, the Smiths have been advised that they can sell the property at $1,300,000. Upon the sale of the property, they each experience the following return.

$1,300,000 – $750,000 (Loan Amount) = $550,000 Sales proceeds (before tax)

$550,000 * 20% Per Smith = $110,000 gained on invested funds Per Smith

The Work
With this type of investment, the Smith family didn’t need to do any work at all. The Smiths were provided with exceptional services to locate an opportune property, management of the property and sales representation. The Smiths were then able to roll the gains into another property and experience twice as much monthly and yearly return.

If you have any questions regarding syndications, feel free to give me a call today.

 

“Earning You Many Fond Returns…”


The Good, The Bad and The Loss

Vacancy and Credit Loss is the amount of revenue that remains uncollected due to un-rented units and current tenants that are not paying their full rental amount. In general, vacancy and credit loss is a combined annual figure which is expressed as a dollar amount and as a percentage of the Gross Scheduled Income. Historical data from each specific property should be used to calculate the future vacancy and credit loss amount.

Vacancy on its own is a curable problem from which many properties suffer. Vacancy also creates much more of a loss than what appears on the surface. Having un-rented units greatly reduces the net operating income of the property and has an exponential effect on the overall value of the property. Credit Loss differs from vacancy in that there is a tenant in the unit however they are not paying their total rental amount or they are not paying rent their rent at all. (This dollar amount is endearing referred to as “The Delinquency” by property managers) This problem is again curable and also severely impacts the net operating income.

Other uncollected funds can also be captured under the category of vacancy and credit loss. In some instances an on-site property manager, maintenance employee or owner may be living in a unit. In the accounting, the property can charge rent to that unit and then credit the charge, resulting in no money paid and an increase in credit loss. Another instance can be a rent credit to a resident. An example of this situation is if a resident has been overly inconvenienced due a lengthy maintenance repair (not on my watch, of course!). A landlord may decide to monetarily quell this uneasy tenant. This type of credit can be captured under vacancy and credit loss. When analyzing a property as an investment, it is extremely important to know what exactly is in the vacancy and credit loss category. Any oversight may result in missing real revenue or double counting a negative. Knowing the details of this number will also assist in judging if and how the amount can be reduced.

As I mentioned earlier, the full impact of this loss is far greater than the mere miss of cash flow for the month. Would you like an example? I thought you would…

We are running Willow Grove Apartments; it has 12 two bedroom units that rent for $1,100 per month.

$1,100 x 12 units x 12 months = $158,400 annual gross potential income.

In this example, over the past year, unit number 4 was vacant for three months and unit 7 was vacant for two months.

$1,100 x 5 months of vacancy = $5,500 loss of revenue (vacancy and credit loss category)

At face value, $5,500 doesn’t seem that painful, especially because it was spread out over 12 months. So you ask “Where are these grave implications of vacancy and credit loss?” The true loss is only revealed when you calculate the value of the building by the market CAP rate. We will say that Willow Grove Apartments is in a 5% CAP rate area.

Gross Scheduled Rent $158,400
-Vacancy and Credit Loss $ 5,500 (3.47%)
Effective Rental Income $152,900
-Operating Expenses $ 53,515 (estimated)

Net Operating Income $ 99,385

The value of this property in a 5% CAP rate area is $1,987,700

$99,385 NOI / 5% CAP = $1,987,700.

But what if this property was 100% occupied during last year?

Gross Scheduled Rent $158,400
-Vacancy and Credit Loss $ 0
Effective Rental Income $158,400
-Operating Expenses $ 53,515 (estimated)

Net Operating Income $ 104,885

The value of this property in a 5% CAP rate area is $2,097,700

$104,885 NOI / 5% CAP = $2,097,700.

The Difference?

$2,097,700
-$1,987,700
$ 110,000

When it comes to managing an income generating property, it’s not just about raising the rents. Curing vacancy and credit loss is vital step in increasing the net operating income and the overall value of your property. If you would like more information about property management, please contact me today.

“Earning You Many Fond Returns…”