Posts

New In-Person & Virtual Events

/in /by

Image from 123rf.com

Celebrate Real Estate Investing with In-Person & Virtual Events

We have exciting news regarding our national In-Person and online Virtual events. Our one-day conferences will host incredible educators from around the country who are ready to share their years of knowledge and expertise.

Image from 123rf.com

Plus, we will have wonderful resources from companies at our events. Guests will have access to private capital, plus business and commercial funding as well. Now is the time to grow your real estate business to new levels.

At some of our events our early-bird guests will even enjoy a catered breakfast and gourmet coffee, plus plenty of networking opportunities.

Now is the moment to grasp this opportunity — the chance to network with sophisticated investors and learn directly from them.

RSVP FOR IN-PERSON EVENTS:

Image from 123rf.com

Feb. 26th – San Jose, CA

https://www.eventbrite.com/e/218101506477

March 26th – Marina del Rey, CA

https://www.eventbrite.com/e/262110358137

April 16th – Boca Raton, FL

https://www.eventbrite.com/e/230614573397

RSVP FOR A VIRTUAL ZOOM EVENT:

Feb. 19th – Virtual – Online

https://www.eventbrite.com/e/262067971357

Image from 123rf.com

Be sure to pencil these events now. Join us in-person to gain specialized insight and investing knowledge. The information shared could catapult your portfolio to new levels. Broker/agents will also receive valuable information on the latest technology available to close more transactions.

For questions or more information, please contact Realty411:

805.693.1497 or email: [email protected]

Have You Considered Adding Brownfield Development to Your Real Estate Portfolio?

/in , /by

Image from Pixabay

By Patricia Gage, Principal,
RE Solutions

It’s understood that having a real estate component within your investment strategy is a tried-and-true way to diversify your risk and increase your investment returns. And while most people and companies find real estate opportunities with more common approaches, there is a less conventional way to turn a profit in real estate: brownfield development.

According to the Environmental Protection Agency, “a brownfield is a property, the expansion, redevelopment, or reuse of which may be complicated by the presence or potential presence of a hazardous substance, pollutant, or contaminant.” It is estimated that there are more than 450,000 brownfields in the U.S. Some l brownfields are obvious, like a former oil refinery. Others may be a surprise, for example, an urban infill site that housed a dry cleaner in the 1950’s may now be the ice cream shop you’ve loved since you were a kid – who would ever think it could be contaminated?

Image from Pixabay

Assuming the developer of a brownfield property has acquired a Phase One environmental assessment (and a Phase Two environmental assessment if recommended by the Phase One) and is ready to move forward with the project, potential project investors should consider the following financial questions:

  1. What is the cost of the land? In general, there should be a discount for a brownfield parcel. When compared to an equivalent clean site, the price of a brownfield should be discounted by the cost to remediate the site plus some amount to compensate for the risk inherent in the cleanup and the additional profit that should come with cleaning up a contaminated site.
  2. Does the development budget include sufficient contingency for normal construction risk as well as the risk of remediation cost overruns or delays? While a 4-5% contingency is typical for a greenfield site, the development budget on a brownfield should include that standard contingency PLUS 20-25% of the expected remediation cost if the remediation contractor is working under a cost-plus contract, which is typical. The contingency should also be sufficient to cover any delays if remediation takes longer than expected.
  3. Has the developer obtained environmental insurance? A Pollution Legal Liability policy will protect against unknown contaminants and third-party liability claims.
  4. When you make your investment, will the balance of the capital (debt and equity) be in place? If not, recognize that a construction loan on a brownfield property will likely be underwritten more conservatively than a loan on a greenfield property. Some commercial banks won’t consider lending on a brownfield. When a loan is available, the loan-to-value and loan-to-cost ratios may be 5-10% lower than for a clean property.
  5. Is there a financing gap that wouldn’t occur on a similar greenfield property? Because debt and equity may be less available for a brownfield site, the developer will often have the option to cover remediation costs with a public finance mechanism such as tax increment or special district financing. Many municipalities have a Brownfields Revolving Loan Fund to provide developers with low-cost debt to cover remediation costs, which incents developers to clean up toxic sites. Some states also offer tax credits for brownfields cleanup.
  6. Is the project return reasonable given the risk associated with a brownfield site? Developers expect a premium return for taking on the risk of a contaminated property – investors should be rewarded with a portion of that premium.

Image from Pixabay

This is by no means an all-inclusive list of due diligence an investor should consider, or of the risks associated with brownfield redevelopment. We always recommend obtaining appropriate legal and tax advice before investing. That said, the best risk-mitigation strategy lies in underwriting the developer. Invest with those that have significant brownfields experience and a proven track record. Ask about their relationships with the regulatory agencies, lenders, design professionals, contractors, prior investors, insurance providers, and environmental consultants.

Real estate developers often raise money from individual investors in relatively small increments, allowing qualified investors the opportunity to participate directly in the success of a single development project. These investments are not without risk, and your due diligence should be thorough. Along with understanding the project’s market, projected returns, construction risk, and competition, an investor should be fully aware of the site’s prior uses and any contamination that may be present.

Everyone can win in a brownfield redevelopment – you as an investor, the developer, and the overall community. Financial benefits are compelling but contributing to the elimination of blight and toxic contamination in a neighborhood is the true reward.

Patricia Gage

Patricia Gage is a principal at RE Solutions, a company specializing in creating value for brownfield development projects. She can be reached at [email protected] or 303.482.2618.

In-Person Events on Both Coasts

/in /by

Join Us On Both Coasts to Learn & Network

CONNECT IN-PERSON IN SILICON VALLEY

Celebrate Real Estate Investing with Realty411 with our FIRST In-Person Event in Silicon Valley.

Our one-day conference will host incredible educators from around the country who will share insight from their years of REI knowledge and expertise.

Don’t miss a fantastic day with wonderful resources from numerous companies joining us.

Our guests will have access to private capital, plus business and commercial funding. Be sure to tell your network about this life-changing event.

Download Our Event Agenda and Learn More.

Also on the East Coast Soon – Join Us for Both Events.
Review Travel Discounts and Specials on: Realty411VIP.com

The Capitalization Approach to Income Property Valuation

/in , /by

Image from Pixabay

By Dan Harkey
Real Estate & Finance Consultant

Definition of capitalization of earnings:

The concept of the capitalization approach is a method of estimating the fair value of an asset such as income-producing real estate by calculating the net present value (NPV) of expected future net profits or net cash flow referred to as Net Operating Income. The capitalization of earnings is determined by taking the property’s projected annual net income and dividing it by the market capitalization rate (Cap Rate).

Understanding the income capitalization approach (Cap Rates) in the property valuation process is critical when investing in income-producing real estate or obtaining a loan. This concept is essential to commercial realtors, lenders, developers, and investors in income-producing real property. The concept is commonly referred to as the income approach.

Net income divided by the capitalization rate will reflect the expected value of the income-producing asset. Re-stated: Net operating Income divided by the capitalization rate= value (NOI/Cap Rate=Value).

Example: Property Income and Expense Statement Format
The calculation to arrive at the Net Operating Income

Stated one more time: Capitalization Rate represents the annual Net Operating Income (NOI) divided by the cap rate to derive the property asset value (NOI/Cap Rate= Value).

Why do we use Capitalization Rates?

The capitalization approach is a “comparative method” of valuing property with similar properties, similar income streams, in similar geographic locations, and similar risks that will yield a comparable rate-of-return. Once the value is established, the comparative method can calculate the loan-to-value to determine if property value falls within the lender’s loan underwriting guidelines.

Cap Rates are only one metric. Since the capitalization approach is calculated as if the property is debt-free the value will be the same whether the property has leveraged debt or is debt-free. It represents a market snapshot at the investment time and does not consider loan debt service or financing costs.

If an investor finances his acquisition, as most people do, further analysis such as cash-on-cash return will be helpful. Sophisticated loan underwriters and investors may also calculate an Internal Rate of Return. These calculations assist in establishing that the property is income-producing and a worthwhile investment.

Image from Pixabay

A licensed commercial appraiser may perform a rent survey to determine market rents for a property type in a geographic area. Market rents may or may not be the same as actual rents (contract rents). There are many instances where the existing rents are above or below-market rents. A tenant with a long-term lease may have locked in lower rents sometimes in the past.

I once underwrote a loan transaction on an industrial building near San Francisco that was about 100 years old. The property has a long-term lease of 18 cents per square foot, while the current market was $1.75 a square foot. Since current market rents were much higher, the valuation metric used was based upon the locked-in lower rental rate.

A property owner may own the property in one title method such as The Archie Bunker Corporation and occupy all or a portion of the building in different title method such as Archie Bunker Limited Liability Company. He may charge above or below-market rents to himself for tax purposes. Actual rents may also be higher than the market. In this case, the appraiser would use market rents rather than actual rents to determine the Cap Rate.

There are other instances where a conventional market Cap Rate analysis is inappropriate. The alternative method is a discounted cash flow analysis such as original ground-up construction. The building cost and the cash flow from a lease-up need to be projected over a reasonable time to the point of stabilized occupancy. This is done by a competent appraiser who can construct a model estimating a future projected cash flow and using net present value discount formulas to estimate the capitalization rate. The result may differ from the market comparison method.

Suppose you have income properties with similar characteristics in a geographically close location sold in arm’s length cash transactions, and the income stream data is available. In that case, there are web-based databases that track comparison capitalization rates (Cap Rates.)

Market rents are the amount of rent that can be expected for a property, compared to similar properties in the same geographic areas. Contract rent or actual current rent is what the same units are being rented for today. Many lenders will request a rental survey from an appraiser as an add-on task to the requested appraisal job.

There is an essential difference between market rents and current actual(contract) rents in the Cap Rate valuation process. Compare two different buildings, both identical, but the first property is well-kept and rented at a market rate, and a second building that has deferred maintenance. The property with deferred maintenance is rented for under-market rates by under 30%. In both cases, a lender and the appraiser will use market rents to determine the (NOI). The assumption about the second building is that a new owner will upgrade the building and adjust the rents upward to a market rate. The value of the second building would be adjusted downward or discounted to offset the cost to cure (cost to upgrade the building).

The only time that a lender, or appraiser, would use the lower rents is when those rates were locked into a long-term lease or a rent-controlled property. I underwrote the following example: A prospective loan for an industrial building in Richmond, California. The property was leased fee, leased out to a third party for 99 years, with 50 years remaining. The locked-in rent was only 18 cents per square foot triple net. The property owner and broker argued belligerently that current value should be based upon today’s rents.

An inconvenient fact in this example is that the property owner is locked into an 18 cent per square foot monthly income stream for the next 50 years. Capitalized rents will be based upon 18 cents per square foot lease rate. The capitalized value with an 18 cents per square foot will have a dramatically lower NOI compared to a similar building next door that rents at $1.75 per square foot lease rate monthly.

Image from Pixabay

A historic rents comparison databases are available to determine market rents to calculate a correct capitalized valuation. Historic market Cap rates may vary, even in the exact geographic location, depending upon the building improvements, effective age, class of construction, off-street parking, furnished or unfurnished, condition, compliance with zoning, easements or lack of needed easements, and amenities. Examples include Class-A vs. Class-C office, industrial, apartments, older dated, economically obsolete and under parked compared to a new modern building with adequate parking and currently popular amenities.

Advantages and disadvantages of the Capitalization approach to value:

Advantages:

  1. This method converts an income stream into an estimate of the value of the income-producing real estate.
  2. The method is a common standard in the appraisal, lending, and development business.
  3. While the income capitalization approach is common in evaluating commercial income-generating properties, it can theoretically be applied to any income stream, including businesses.
  4. Commercial appraisers are a reliable source for determining market cap rates.
  5. Commercial realtors provide an excellent source of cap rates with websites such as Costar and Crexi
  6. There are online databases such as the CBRE/US-Cap-Rate-Survey-Special-Report-2020 to obtain reliable data.

https://www.cbre.us/research-and-reports/US-Cap-Rate-Survey-Special-Report-2020

Disadvantages:

  1. The method is used for “comparison only with similar properties in a close geographic area.” The method does not consider liens on the property and debt service. A cap rate calculation is done as though the property is debt-free. Cap rates cannot be used to calculate overall net cash flow or cash-on-cash yield when a loan attached to the property (Income, less operating expenses, less debt service).
  2. The results of a cap rate calculation are specific only to a similar area with similar properties in certain segments of the market. You could no use Newport Beach, California cap rates to compare with a similar building with similar usage in Riverside, California. Also, the demand for properties and cap rates for different segments of the real estate market change. Current examples are residential income properties and Industrial are and will continue to be in demand. I read one estimate that industrial in the U.S. will require an extra billion square feet of warehouse by 2025. Office and lodging/resort related properties, not so will. Patterns change!
  3. The method contemplates stable economic market conditions. If a market experiences a significant downturn, collapses, or is subject to extreme political uncertainty, the calculations using market cap rates may be rendered irrelevant.
  4. Relying on a cap rate with an unstable market condition is difficult. Using market rents may become suspect because higher rates of foreclosures, tenants’ default much more frequently, vacancy rates go up, and replacement tenants will ask for higher rent concessions, thereby bringing the market rents down. Additionally, owner operating expenses may become constrained.
  5. Calculating forecasting future income streams involves a high degree of professional judgment, and therefore subject to variation.
  6. Professional judgment is subject to subjective vs. objective interpretations about expectations of future benefits.
  7. The method may result in miscalculations when estimating the cost of capital outlay for upgrades to bring the property up to current standards. All subsets of the job have a cost, time and frustration allocation, including municipal approvals, reconstructing the building, modern materials, safety, zoning, environmental, and social equity requirements.
  8. Property amenities, parking, easements, recorded encumbrances, and compliance with building and zoning regulations require a complex analysis.
  9. The lease-up period is only an estimate and may not be correct.
  10. Alleged appraiser and lender biases for racially segregated neighborhoods have been known to exist.

Tenancies: A landlord and tenant may enter into four types of rental or lease agreements. The type depends upon the agreed-upon terms and conditions of the tenancy. All rental amounts and terms of a lease will be reflected in the capitalization evaluation.

Types include:

Image from Pixabay

1) Fixed-term tenancy is a tenancy with a rental agreement that ends on a specific date. Fixed terms have a start date and an ending date. According to the written lease document, time terms may be short or long such as ten years with multiple extensions.

A landlord can’t raise rents or change lease terms because the terms are codified in a written agreement. A key advantage for a landlord is to receive today’s market rents.A key for a tenant is to lock in a long-term lease where the rents are or become below market over time.

A tenant’s company’s profits are enhanced if they pay substantial under market rents. On the other hand, if a tenant’s company is making a good profit with rents substantially below market and a lease is coming due soon, the increased or negotiated upward lease rate may wipe out some or all the profits.

2) Periodic tenancy is a tenancy that has a set ending date. The term automatically renews into successive periods until the tenant gives the landlord notification that he wants to end the tenancy. Month-to-month tenancies are the most common.

The strength of the tenancies from national credit with long-term leases and corporate guarantees down to mom & pops month-to-month tenancies will result in a substantially different Capitalization Rate. National credit tenants with corporate guarantees have a considerably lower cap rate. Mom & pop tenancies will reflect a higher cap rate because they inherently have more risk.

The lower the market Cap Rate, the lower the perceived risks of property ownership. The higher the market Cap Rate, the higher the perceived risks. An exception would be where the national credit tenant locks in a lease rate that does not increase as the market dictates or anticipates increases. Eventually, over time, this tenant will reflect below-market rents.

A mom-and-pop tenant could be converted to a market rent more quickly because the term is usually shorter.

Market rents are obtained by surveying local brokers and appraisal data- bases of local market rents.

3) Tenancy-at-sufferance (or holdover tenancy). This form of tenancy is created when a tenant wrongfully holds over past the end of the duration of period of the tenancy.

I bring up this type of tenancy because of because of COVID. The government allowed tenants to skip out and default on paying rents without consequence. The tenants either defaulted on the rent or overstayed the term.In either event, the tenant becomes delinquent, and the owner attempts to evict them. The tenant or affiliates may become illegal trespassers.

There are many examples of a landlord attempting to get rid of an illegal tenant only to be jerked around through the court system, with multiple appeals requested by the tenant. They are usually granted.Then comes multiple bankruptcies, not only of each tenant, one by one, but unknown people who supposedly moved in without notice to the landlord.Then comes the transients and fictious folks who show declare that they are a tenant and request that the process start all over because of their fraudulently claimed tenancy. The courts, particularly in states like California just turn their backs on this behavior.

The focus for the property owner becomes using legal avenues to evict the tenants and regain occupancy of the property. This process has great cost and frustration.

4) Tenancy-at-Will. This form of tenancy reflects an informal agreement between the tenant and landlord. The landlord gives permission, but the period of occupancy is unspecified. The term will continue until one of the parties give notice.

Rehabilitated property or New Construction:

Image from Pixabay

Establishing market rents becomes essential in underwriting a rehabbed or new building. When there is an extended time delay for a lease-up period, such as with the new construction of an income-producing property, future cash flows need to be estimated to the point of income stabilization. Then the future stabilized income will be discounted, using an estimate of a market capitalization rate and a discount rate formula.

Work with a competent commercial appraiser to assist and calculate the correct market Cap Rate. Do not try to do this yourself without the help of an appraiser who knows the type of real estate and local market.

Below is an example: The market Cap Rate for a commercial property with triple net leases (NNN) has been determined to be 6.5%. Triple Net or (NNN) refers to a leased or rented property where the tenant pays all expenses related to the operation such as taxes, insurance, maintenance, and occasional capital improvements. The 10,000 square foot multi-tenant property under consideration generates monthly rents of $1.50 per foot. On a (NNN) example for a Cap Rate analysis, one would apply a 10% vacancy collection and loss factor and 5% for non-chargeable expenses that tenants usually do not pay including reserves. The NOI would be $153,900.

The NOI and Market Cap Rate are known so you can calculate the value:

10,000 SF rentable X $1.50 = $15,000 Per mo. X 12 Mos. = $180,000 = potential gross income.
$180,000–$18,000 for 10% vacancy = $162,000–$8,100 for 5% non-chargeable expenses to the tenants = NOI = $153,900
$153,900 NOI /.065 Cap Rate = value = $2,367,692

From an investment standpoint, market Cap Rates can show a prevailing rate of return at a time before debt service. The cap rate procedure will assist a lender and investor to measure both returns on invested capital and profitability based on cash flow. An informed lender or investor should understand that there may be dramatic variations in a property’s value when unsupported or unrealistic Cap Rates are applied.

Cap Rates as well as demand for income-producing properties will move up or down depending on market conditions. The term Cap Rate compression reflects a movement of the rate down because investors perceive real estate as a lower-risk, higher reward asset class relative to other investment options. Cap Rate decompression may result from demand for real estate purchases where cap rates increase, reflecting lower valuations. This may be a byproduct of higher interest rates or government intervention such as rent control.

Loan-To-Value Ratio (LTV):

Cash-on-Cash Return:

Cash on cash return is a quick analysis to determine the yield of an initial investment. The cash-on-cash return is developed by dividing the total cash invested (the down payment plus initial cost) or the net equity into the annual pre-tax net cash flow.

Image from Pixabay

Assume the borrower purchased the property, which costs $1,200,000 and provides an NOI of $100,000, with a $400,000 down payment representing the equity investment in the project. The cash-on-cash return for this property would be:

$100,000/$400,000 = 25% = cash-on-cash yield.

If the borrower were to purchase the property for all cash, as contemplated in a Cap Rate calculation, then the cash-on-cash return would be:
$100,000/$1,200,000 = 8% (this example the 8% is both the cash-on-cash yield and Cap Rate).

It is clear from this formula that leveraging or financing real estate transactions will yield a higher cash-on-cash return, provided the transaction is financed at a favorable interest rate.

Internal Rate of Return (IRR):

Internal rate of return (IRR) refers to the yield that is earned or expected to be earned for an investment over the period of ownership. IRR for an investment is the yield rate that equates the present value of the outlay of capital and future dollar benefits to the amount of money invested. IRR applies to all dollar benefits, including the outlay of the initial down payment plus cost, the positive monthly and yearly net cash flow, and positive net proceeds from a sale at the termination of the investment. IRR is used to measure the return on any capital investment before or after income taxes. Ideally, the IRR should exceed the cost of capital.

Is there an ideal Cap Rate?

Each investor should determine their risk tolerance to reflect their portfolio’s ideal risk-reward level. A lower Cap Rate means a higher property value. A lower Cap Rate would imply that the underlying property is more valuable, but it may take longer to recapture the investment. If investing for the long-term, one might select properties with lower Cap Rates. If investing for cash flow, look for a property with a higher Cap Rate. Declining Cap Rates may mean that the market for your property type is heating up, and demand is intensifying. For Cap Rates to remain constant on any investment, the rate of asset appreciation and the increase of NOI it produces will occur in tandem and at the same rate.

Below are examples of changes in NOI and Cap Rates that cause asset values to rise or to go down:

As NOI increases and Cap Rates remain the same, asset values will increase.
($300,000 reflects net operating income and .06 reflects a 6% cap rate)
$300,000 /.06 = $5,000,000
$350,000 /.06 = $5,833,000
$400,000 /.06 = $6,666,666
$450,000 /.06 = $7,500,000

As NOI remains the same and cap rates rise asset value will go down:
($500,000 reflects net operating income and .03 reflects a 3% cap rate)
$500,000 /.03 = $16,666,666
$500,000 /.04 = $12,500,000
$500,000 /.05 = $10,000,000
$500,000 /.06 = $8,333,333

Correlation Between Cap Rates and US Treasuries:

The US Ten Year Treasury Note (UST) is deemed to be the risk-free investment against which returns on other types of investments can be measured. USTs yields have been on a broad decline for many years but may soon rise. As interest rates increase those investors who bought USTs at a lower rate will find that their bonds will go down in value. Bonds purchased at the new higher rates will be in high demand.

Image from Pixabay

As interest rates rise, cap rates will go up, and consequently, there will be a reduction in asset values over time. With so many uncertainties in the market and growth projections constantly being revised, the spread between UST and Cap Rates has not remained constant.

When the government intrudes in the market, the results are artificial. This has caused capitalization rates to go down, reflecting higher values. Near-zero interest rates have also caused a dramatic inflationary spike in all goods and services.

Summary:

Property appreciation from excess demand has been one of the most significant reasons for investing in real estate Appreciation is not part of the Cap Rate calculation. For investors, lower interest rates, tax benefits of owning commercial real estate may, in and of themselves, be the driving force to make such an investment. If the property is to be leveraged, there may be write-offs for loan fees, interest expenses, operating expenses, depreciation, and capital expenses.

As interest rates have been forced down to extremely low rates, below inflation, by government mandate! Refinancing at lower rates has resulted in lower debt service payments. Cash flows of income-producing properties have gone up, reflecting a higher net operating income.

The government intentionally creates market distortions that benefit the insiders at the top of the economic spectrum. The results are artificial. This has caused capitalization rates to go down, reflecting higher values. Near-zero interest rates have also caused a dramatic inflationary spike in all goods and services. All asset classes have now been “spiked with 200-proof illusions” that make everything seem fantastic on the surface. But hangovers the day after the party ends are no fun.

A one-to-two hundred basis points increase in lending rates (1% to 2%) would shatter the punch bowl into fragments. It is my opinion that an imediate 2% interest increase would collapse the economy overnight. Main Street and small capitalist entrepreneurs would bear the brunt of the widely spread financial damage.

Interest rates are increasing because the government realizes that inflation will only accelerate if they do not stop or slow it. Increased interest rates will result in newly originated loans having higher payment structures. Higher loan payments indirectly and over time cause cap rates to rise and values to go down.

Values may not go down immediately, but the demand to purchase income- producing properties will subside because ownership makes less economic sense. To add flames to this fire government, including federal and state, is passing legislation that will destroy investor motivation to own.

Over time the four-pronged whammy will become apparent. 1) Rising interest rates, 2) increase in interest rates reflecting larger loan payments, 3) general loss of investor confidence in the overall economy, 3) loss of investor interest in purchasing an income property, 4) overburdening & abusive government intervention into property ownership will come home to haunt the entire real estate market across the United States. 5) All of the above will cause cap rates to go up, and property values go down.

Image from Pixabay

Remember that increased debt service based upon higher interest rates is not considered in the capitalization approach. But, over time, as interest rates go up, borrowers will feel the sting of higher debt service payments. Some property transactions may become less appealing financially. As purchasers and borrowers elect not to purchase, that may compound and create more unsold inventory. Some sellers may get desperate and reduce the price to sell quickly. The lowered price would result in a higher cap rate. Higher interest rates will lower all real estate prices on a macro level.

How dramatic will lower real estate prices be over time? Between 2007 and 2010 we witnessed the downward value contagion spread resulting in substantially lower values and increased Capitalization Rates.

The four-pronged whammy is not a new phenomenon. It has just been forgotten while enjoying the Federal Reserve’s “free-for-all 200-proof infused financial punchbowl.”

Dan Harkey

Dan is President and CEO at California Commercial Advisers, Inc. He consults on subjects of Business Growth & Private Money. Dan often creates articles interrelated to these subjects. He has been active in the real estate and financial services industry since 1972 & possesses a lifetime teaching credential for secondary and adult education. He has taught over 350 educational seminars on subjects related to real estate lending, private money lending & loan underwriting for commercial/industrial properties.

Contact Dan Today
Mobile: 949.533.8315
Email: [email protected]

Learn live and in real-time with Realty411. Be sure to register for our next virtual and in-person events. For all the details, please visit Realty411.com or our Eventbrite landing page, CLICK HERE.

Multiple Properties in One Land Trust

/in /by

Image from Pixabay

By Randy Hughes, Mr. Land Trust

Many investors think, “I’ll put multiple properties into one Land Trust! That should be easy.” They could assume that managing one trust will be a breeze compared to managing multiple Land Trusts. They may also think that there is no downside.

Investors who think like this have not thought their plan through. The reverse can be the case. Managing multiple properties in one Land Trust is a snap (especially when you use my exclusive Trust Tracker, included with my Basic Course). It’s having all your properties in one Land Trust, or one basket as I like to say, that things can get tough, very tough, fast.

Welcome to the New Year

Image from Pixabay

Before I continue, permit me to point out that I started writing about Trust Trusts twenty-two years ago. My students requested it. They wanted to learn more about the scores of benefits of using a trust to hold title to their properties.

When I speak in front of an audience or teach a Land Trusts Made Simple® class, the question of whether to hold multiple properties in one Land Trust is sure to come up. My basic answer is “you can hold multiple properties in one trust, but I do not suggest you do that.” Why not? Read on my fellow real estate investors.

Here’s Why Not

First, there is a basic principle to asset protection that says, “keep all assets separated.” This applies to all types of investments (cash, stocks, bonds, real estate, precious metals, etc.). The theory behind this is that if liability occurs against one of your assets, it will not directly affect all your other assets. For example, if you titled ten single-family rental houses in one LLC and you had an uninsured loss or legal claim against the property/owner, any lien or judgment against the owner/LLC would tie up ALL the properties inside the LLC. Dumb, huh?

Image from Pixabay

However, if you hold the title to each of those ten rental houses in separate Land Trusts and a contingency-fee attorney and their deadbeat client attack one of them, any potential judgment would be rendered against the property itself and there would be no effect on your nine other properties. Therefore, the smart real estate investor puts each property into its own separate Land Trust. I encourage investors to take asset protection a step further by making the Beneficiary of the trusts one or more LLCs.

Hunting Expedition

There’s another benefit to NOT putting multiple properties into one Land Trust. If a subpoena is issued to the Trustee in search of information about the trust and its assets, the subpoena would apply to ALL properties inside the trust (not just the property involved in the litigation)! Double dumb, huh?

Furthermore, any assignments of Beneficial Interest or contingent beneficiary provisions in your trust will apply to all properties held in that trust. This removes one of the best reasons to use a Land Trust. For example, if you wanted to sell one property on an installment contract, you could not do it effectively when holding more than one property in one trust.

It does not cost anything to form a trust. Therefore, it makes sense to always put each property into its own, separate trust.

I encourage you to learn more by going to my FREE online training at www.landtrustwebinar.com/411 and text the word “reasons” to 206-203-2005 for my free booklet, Reasons to Use a Land Trust. You can also reach me the old-fashioned way by calling me at 217-355-1281. (I actually answer my own phone, unlike most other businesses in America today!)

Learn live and in real-time with Realty411. Be sure to register for our next virtual and in-person events. For all the details, please visit Realty411.com or our Eventbrite landing page, CLICK HERE.

Did Biden’s Tax Proposal End Up Affecting 1031 Exchanges?

/in /by

Image from Pixabay

By Clinton Lu, TFS Properties

Earlier this spring, Biden proposed a number of tax law changes in regards to his Build Back Better program. Aimed at freeing up more money for the little guy, the program divided itself into various parts, one of which was the American Rescue Plan. Within this plan, Biden proposed to do away with the benefits received by performing a 1031 exchange, also known as a “like-kind” exchange, but was this portion of his proposal signed into law?

Section 1031 Like-Kind Exchanges

The IRS Code is divided into sections, one of which details the tax break individuals can take advantage of when it comes to the capital gains taxed on real estate. This particular section, allows investors to roll their profits from a real estate sale into the purchase of another property of the same, or like, type. In doing so, investors defer the capital gains tax that they would typically incur, and are able to reinvest all of the money from their sold property (downleg) into different investment property or properties (upleg.)

Possible Effects of Biden’s Tax Proposal

While it might sound like a good idea on paper, increasing taxes on real estate profits has serious consequences. “The White house emphasizes that its tax increases would affect only the top 1% to 2% of individual taxpayers,” but doing away with 1031 Exchanges would seriously impact both big AND small investors alike.

Image from Pixabay

Both big and small investors can benefit from performing a 1031 Exchange and according to the Congressional Joint Committee on Taxation, investors could save over $40 billion in taxes in the next three to four years if it were to remain in place. That’s money that could—and in many cases, will—be reinvested into other real estate properties and further drive the economy.

This cycle within the real estate industry was so important that the Mortgage Bankers Association and the National Association of Realtors appealed the proposal to halt the exchange. As a result, it seems their efforts, as well as the voices of many others, prevailed.

The Final Verdict

Many feared that ending Section 1031 exchange benefits would have a profound effect on the real estate market. However, this particular part of Biden’s tax proposal was not signed into law. Investors can still defer their taxes on capital gains through a 1031 Exchange and preserve their capital while doing so.

Learn live and in real-time with Realty411. Be sure to register for our next virtual and in-person events. For all the details, please visit Realty411.com or our Eventbrite landing page, CLICK HERE.

What We Can Learn From Zillow’s Downfall?

/in /by

Image from Pixabay

By Clinton Lu, TFS Properties

Zillow’s making headlines recently, but not necessarily in a positive way. As you may have heard by now, the well-known online real estate company Zillow had a blunder and their algorithm went a little too far. Now, the company is facing $569 million or more in debt if they can’t offload a few thousand properties.

What began as an algorithm-based way to buy, renovate, and sell a large quantity of homes has become a nightmare scenario for Zillow. But it’s not the computer’s fault. Rather, it’s the unaccounted-for situations that real estate agents see all too often. It is the very act of having a real pair of eyes on a house that lies at the root of the program’s downfall.

The good news is that where Zillow fell short, you can take note and learn a thing or two before entering the real estate market yourself. That’s true for anyone looking to buy and/or sell a home, as well as budding real estate agents.

So what exactly can you learn from Zillow’s downfall?

Real World vs. Ideal Conditions

Image from Pixabay

Real estate agents will be the first to tell you there’s a limit to how much you can ask for your house when selling it. Determining that price range includes identifying the physical aspects of the structure itself including those that can not be identified from a quick glance or through examination of the numbers.

A large part of a home’s market value comes from looking at the values of homes in the same area that have sold recently. These are often referred to as “comps,” or comparable houses. They’re more or less a way to justify the asking price you come up with, because if someone paid a certain price for a comparable house, they should (in theory) pay about the same for your house. However, an investor can not judge the value based purely on comps alone.

In the beginning, Zillow based their home values on these comparisons. The company hired real estate agents to do all the work behind the scenes. Then, it taught the software what to look for, setting parameters to then buy, flip, and sell houses. It sounded all well and good in the ideal world, but when it comes to real estate, hardly any piece of property meets these impossible standards.

Home Values are Not Plug and Play

Image from Pixabay

Whereas a computer might pick out parameters from a data set to determine that house’s value, real estate agents are the ones actually stepping foot in those houses. And what they find isn’t always caught by the algorithms. It takes an in-person inspection to truly determine the state of a home. There are factors such as the mold smell inside a house, or poor plumbing that can only be found through the eyes “and nose” of someone with experience.

In fact, this is where Zillow Offers truly set itself up for failure. It’s no secret the housing market has exploded as of late, but that doesn’t mean the houses going up for sale are perfect specimens. Zillow’s algorithm assumed that the repairs necessary to prepare these houses for market were (a) quick, (b) cheap, or (c) easily identified and addressed.

As time went on, Zillow’s software soon learned how hard it is to flip a large number of houses, especially with the rise in building materials prices and the aftereffects of a global pandemic. The get in, fix up quick, get out approach may work for reality TV stars, but real life isn’t so predictable. It takes expert eyes to gather the information about a home and come up with a well-researched estimate that goes beyond the facts to consider reality.

Real-World Warning Signs to Look For

Image from Pixabay

We’ve been talking a lot about what real estate agents can see that a computer can’t. So what exactly are examples of aspects of a home that don’t show up online?

Here are just a few warning signs to paint a picture for you:

● Water damage: rust, leaks, mold, etc.
● Warped walls
● Vintage fixtures
● Doors that stick
● Misshapen insulation
● Uncodumented work with no building permit(s)
● Water flow issues
● Cracks in walls, ceiling, foundation
● Damage otherwise (poorly) covered up

As you can see, there’s much more to buying and selling a house than just what shows up in the pictures. If you want to make a house your home, choose wisely. It could end up saving you thousands, both in terms of dollars and hours lost to headaches and frustration.

The Value of a Real Estate Agent

Image from Pixabay

Real estate agents know the home better than almost anyone else. They know what to look for when it comes to pushing past the staging to seek out the cracks. When you hire a real estate agent, you’re setting yourself up for success by choosing experience.

As Zillow found out, it’s real-world experience that separates the computer algorithm from reality. A computer might just see the three bedroom, two bath home as a prime buy for the area in which it’s located. The experienced real estate agent, however, knows that this particular house, so close to a school, may appeal more to young families than anyone else.

Hiring a real estate agent might seem unnecessary for some folks. But when you enter into a relationship with a real person, you’re gaining their experience and their connection to a world you may not know a lot about. Think of them more as a guide and you may begin to see the value of a real estate agent, no matter if you’re looking for a property to buy or wanting to sell the one you’re in.

Take it From Zillow

As Zillow prepares to attempt to unload roughly 7,000 homes in order to pay off its debts, rest assured you don’t have to make the same mistakes. Hire an experienced real estate agent to guide you in your home search and you could save tens of thousands of dollars. After all, you should be enjoying your new home, not drowning in buyer’s remorse.

Learn live and in real-time with Realty411. Be sure to register for our next virtual and in-person events. For all the details, please visit Realty411.com or our Eventbrite landing page, CLICK HERE.

Raleigh Real Estate Developer Sentenced to Decade in Prison for Real Estate Ponzi Scheme and Firearm Possession Charges

/in /by

Image from Pexels

By Realty411 Editorial Staff

This week, a real estate investor in Raleigh, North Carolina, was sentenced to ten years in prison on charges of wire fraud, in violation of Title 18, United States Code, Section 1343, and Possession of a Firearm by a Felon, in violation of Title 18, United States Code, Section 922(g). 

According to a breaking-news press release from the Department of Justice, Joshua Matthew Houchins, 36, (the defendant) was also ordered to serve three years of supervised release and to pay restitution to victims in the total amount of $1,771,382.25.

Court documents and arguments made in court revealed that Houchins, the owner of various Raleigh real-estate development companies, carried out a Ponzi scheme upon numerous other local investors.  Additional charges were added for Houchins, who also possessed a rifle and several rounds of ammunition, after having been already convicted of a felony.

Image from Pexels

Between 2014 and 2018, Houchins owned and operated Rossshire Development LLC, Greenstone Ventures LLC, and Modern South Development LLC, and used these entities to carry out a fraud upon his real estate development investors, according to the superseding indictment.

The court found that Houchins solicited investment monies by telling victims that their money would be “put to work” on a specific property, and further represented that the investments would be secured by deeds of trust filed with the county register of deeds.

Instead, not all of the investor funds were used on the property for which the investor was solicited. According to court documents, Houchins instead regularly used investor funds on other properties, or on personal expenses. 

Without the investors knowing so, the promissory notes were not secured by a deed of trust as they were promised.  To make matters even more convoluted, in some cases, Houchins did not even own the property that was part of the investment, and, as such, could not truthfully grant a deed of trust to the investor. 

The indictment alleges that after Houchins diverted investor money away from the property on which the funds were supposed to be spent, plus he failed to develop and sell the properties, as he represented he would.  Instead, he defaulted on the notes by failing to pay investors their promised returns. 

The investors had no recourse, as they were unable to foreclose upon the investment properties because Houchins failed to secure the promissory notes with a filed deed of trust, which resulting in losses to investors. 

Houchins specifically pled guilty to Count Nine, which alleged one instance of the above-described fraud.  As a part of the plea, Houchins agreed to make restitution to all victims for losses arising from the scheme and related schemes.

G. Norman Acker, III, Acting U.S. Attorney for the Eastern District of North Carolina made the sentencing announcement this week. The Federal Bureau of Investigation and the North Carolina Secretary of State investigated the case.  The Wake County Sheriff’s Office, Apex Police Department, and Sanford Police Department also provided assistance.  Assistant U.S. Attorney William M. Gilmore served as the prosecutor.

Related court documents and information can be found on the website of the U.S. District Court for the Eastern District of North Carolina or on PACER by searching for Case No. 5:20-CR-245-1D(2).

THE SAFETY LESSONS IN THIS STORY:

Always perform extensive background checks on all individuals who solicit funds from you for real estate investments. A simple background search would have raised flags immediately due to the defendant’s previous criminal record. Secondly, always confirm with county records that your investments are indeed secured by a deed of trust (aka “trust deed”) to enable recourse in case of a default or fraud.