Hold Or Trade? 13 SFR for NNN Commercial
Real Estate Broker · Naples, FL · Member since 2013 · 9k+ posts · 6k+ votes
Hold Or Trade? 13 SFR for NNN Commercial
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Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes
4yJohn it's a complex question based on an individuals circumstances.
First people need to separate ACTIVE yield versus PASSIVE yield when owning a property directly. Not talking about investing in a syndication but where you own the property 100% yourself.
Often I see investors compare active versus passive properties as similar and want to just accept a few percent less yield with passive and with supply and demand it doesn't work that way. Investors often focus on returns but more important is where the investor is in their investing and also age in years life cycle. That can have implications along with current cash flow and net worth if they want to be in wealth growth phase, stabilization, or preservation.
Commercial market and where it is headed is based on tons of factors. Is that state growing or declining? Warm belt or cold belt state? Rural, small suburban, strong suburban, urban core area? Population in 5 mile radius? No income tax state? High or low income and how is crime?
Literally could add dozens and dozens more to this analysis. You get into cap rate values by state, price range, asset type within NNN, remaining primary lease terms, lease guarantee strength, etc.
A bunch of industrial is not absolute NNN like other types. There are some but you have to be careful as the smaller tenant can have outdated warehouses with functionality and structure. If they go out the national tenants would not want the space so could sit for awhile. The national industrial NNN is usually massive in price like 8 million low end and up to 50 million high end like an Amazon. Cap rates are really low too as lots of investors are chasing that sector.
200,000/ 3,500,000 assuming this portfolio is paid off with no mortgages then about 5.7% annual return for active investing which isn't that great. If you wanted to retire and go all in I would stick to national credit grade investment grade BBB- or better tenants with minimum 10 plus years remaining on the primary lease term. You can typically get fixed debt with 30 to 35% down with a 30 year amortization and interest rate fixed at about 3.5 to 3.65 for 10 years. What cap rate for investment grade depends on the state you are buying in and the price range. A ton of buyers for 3 million and below properties putting 1 million down and loan for the rest. They owned apartments, houses, etc. and do not want to deal with it anymore. If an investor has millions with an exchange they can have more leverage to buy a higher priced property with less buyers at higher cap rate ( instead of 5.0 to 5.3 maybe 5.5 to 5.9 cap) and better dirt value location being on strong suburban to urban core location instead of small suburban middle to fringes.
Another factor to consider is depreciation. There are tax engineering companies that can do advanced cost segs for interior electrical and plumbing. With the Trump bonus depreciation through 2022 currently some savings can be up to 35% year one for a Davita Dialysis for example. Pharmacy usually up to 30%. Gas stations and car washes can be even higher for tax depreciation. This can be a big benefit for someone with real estate professional status that typically does not have a cap writing down personal income from property depreciation.
I am not a tax expert not give legal or tax advice. I let clients talk to the companies doing the tax cost segs for answers and their tax accountant. The tax accountants when they do cost seg can be limited on what they depreciate. To do plumbing and electrical that is done by engineers. Tax accountants can outsource that part of it but generally have a markup for themselves. Often if you go to the cost seg company you end up paying the same or less and some of the companies include audit defense for free in their overall price charged versus the accountant subbing it out to them to do the engineer part if there is an audit the accountant will charge usually per hour additional money to defend.
There is nothing to say you have to sell all those houses you could sell some and then buy say a 3 million type property NNN. In FL cap rates are more compressed due to no income tax state just like Texas. I see quality property at 6 million NNN for 5.2 cap rate in FL with investment grade tenant that has 2% per year rental increases.
With inflation coming active yield investments for sure likely have more rent growth to offset inflation. The question becomes at that point in a persons life do they care about that and do they want to work for that yield? Often clients in their 50's to 60's in age the answer is NO. They have already made money and have enough to be comfortable. If they are getting 5 to 6% cash on cash going in for NNN passive and with mortgage paydown hitting 10% annually they are happy. Some buy the NNN to own themselves as the base for security and income and then take a few hundred k here and there and invest in syndicates. That way they blend the portfolio overall return higher over time but still stay passive. These days I value time at 46 years old a lot more than money. I like money of course but value time to create those memories with others that might have a smaller window on this planet to live life.
10 Replies
- Investor · Las Vegas, NV · Member since 2013 · 8k+ posts · 10k+ votes4y
Would you be financially ok if the commercial tenant went bankrupt or just didn’t renew their lease and it took a year or more without rent to find a new tenant and maybe the new tenant asked for a lot of improvement concessions? It seems like you’re putting all your eggs in one giant basket.
Maybe try an apartment building with multiple payers. Although in any kind of downturn/recession it seems apartment renters are the first to stop paying at least you have a bunch of them.
- Investor · Greenville, SC · Member since 2012 · 269 posts · 187 votes4y
Hard to answer, depends on a few factors. What kind of industrial? Warehouses are booming right now in a lot of major markets with intense demand and rent appreciation. There's a lot of new construction coming up, but it won't be too detrimental to existing I don't think.
As was said previously, what would happen if you have a vacancy for 6 months (or longer) while you place a tenant? You've got to be well capitalized in the commercial world to cover holding costs (and TI allowances). More money to make but also more risk than your standard residential.
Sounds like you've probably got a decent amount of capital given your portfolio, but I'd look long and hard at fully switching over and putting all your eggs into one or two baskets. It could absolutely work out, it's just a different risk profile.
- Real Estate Broker · Naples, FL · Member since 2013 · 9k+ posts · 6k+ votes4y
Can @Joel Owens give some feedback?
- Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes4y
John it's a complex question based on an individuals circumstances.
First people need to separate ACTIVE yield versus PASSIVE yield when owning a property directly. Not talking about investing in a syndication but where you own the property 100% yourself.
Often I see investors compare active versus passive properties as similar and want to just accept a few percent less yield with passive and with supply and demand it doesn't work that way. Investors often focus on returns but more important is where the investor is in their investing and also age in years life cycle. That can have implications along with current cash flow and net worth if they want to be in wealth growth phase, stabilization, or preservation.
Commercial market and where it is headed is based on tons of factors. Is that state growing or declining? Warm belt or cold belt state? Rural, small suburban, strong suburban, urban core area? Population in 5 mile radius? No income tax state? High or low income and how is crime?
Literally could add dozens and dozens more to this analysis. You get into cap rate values by state, price range, asset type within NNN, remaining primary lease terms, lease guarantee strength, etc.
A bunch of industrial is not absolute NNN like other types. There are some but you have to be careful as the smaller tenant can have outdated warehouses with functionality and structure. If they go out the national tenants would not want the space so could sit for awhile. The national industrial NNN is usually massive in price like 8 million low end and up to 50 million high end like an Amazon. Cap rates are really low too as lots of investors are chasing that sector.
200,000/ 3,500,000 assuming this portfolio is paid off with no mortgages then about 5.7% annual return for active investing which isn't that great. If you wanted to retire and go all in I would stick to national credit grade investment grade BBB- or better tenants with minimum 10 plus years remaining on the primary lease term. You can typically get fixed debt with 30 to 35% down with a 30 year amortization and interest rate fixed at about 3.5 to 3.65 for 10 years. What cap rate for investment grade depends on the state you are buying in and the price range. A ton of buyers for 3 million and below properties putting 1 million down and loan for the rest. They owned apartments, houses, etc. and do not want to deal with it anymore. If an investor has millions with an exchange they can have more leverage to buy a higher priced property with less buyers at higher cap rate ( instead of 5.0 to 5.3 maybe 5.5 to 5.9 cap) and better dirt value location being on strong suburban to urban core location instead of small suburban middle to fringes.
Another factor to consider is depreciation. There are tax engineering companies that can do advanced cost segs for interior electrical and plumbing. With the Trump bonus depreciation through 2022 currently some savings can be up to 35% year one for a Davita Dialysis for example. Pharmacy usually up to 30%. Gas stations and car washes can be even higher for tax depreciation. This can be a big benefit for someone with real estate professional status that typically does not have a cap writing down personal income from property depreciation.
I am not a tax expert not give legal or tax advice. I let clients talk to the companies doing the tax cost segs for answers and their tax accountant. The tax accountants when they do cost seg can be limited on what they depreciate. To do plumbing and electrical that is done by engineers. Tax accountants can outsource that part of it but generally have a markup for themselves. Often if you go to the cost seg company you end up paying the same or less and some of the companies include audit defense for free in their overall price charged versus the accountant subbing it out to them to do the engineer part if there is an audit the accountant will charge usually per hour additional money to defend.
There is nothing to say you have to sell all those houses you could sell some and then buy say a 3 million type property NNN. In FL cap rates are more compressed due to no income tax state just like Texas. I see quality property at 6 million NNN for 5.2 cap rate in FL with investment grade tenant that has 2% per year rental increases.
With inflation coming active yield investments for sure likely have more rent growth to offset inflation. The question becomes at that point in a persons life do they care about that and do they want to work for that yield? Often clients in their 50's to 60's in age the answer is NO. They have already made money and have enough to be comfortable. If they are getting 5 to 6% cash on cash going in for NNN passive and with mortgage paydown hitting 10% annually they are happy. Some buy the NNN to own themselves as the base for security and income and then take a few hundred k here and there and invest in syndicates. That way they blend the portfolio overall return higher over time but still stay passive. These days I value time at 46 years old a lot more than money. I like money of course but value time to create those memories with others that might have a smaller window on this planet to live life.
- Investor · San Francisco Bay Area · Member since 2020 · 10 posts · 7 votes4yYield has certainly compressed in industrial over the last 18 months, but there are opportunities out there that we are finding. You'll either trade some yield for a longer term lease with a stronger tenant, or build in more reserves for a weaker tenant and shorter term lease. As previously mentioned, you could have 3-6 months of lease up time if you have a vacant asset like this, with possible TI's to pay for. However, if demand continues to outpace development in coming years (which I think it will), you'll be in a great position to negotiate. Anecdotal story: I just walked an industrial property that we are in contract for (single tenant, NNN lease). The tenant is dying for space, and some availability came up in the form of a sublease nearby, and all 130K SF were nabbed up in a few separate chunks in the first week. I'm seeing this kind of demand in all kinds of markets (this particular one was more tertiary).
I'm assuming you have other real estate exposure or maybe real estate is a smaller part of your portfolio. If this is a large part of your portfolio or most of your real estate, I personally think that's a large concentration of risk. If you want to go more passive, you may consider taking the cap gains hit and pushing funds into numerous syndications. Just a thought. If you want to 1031 exchange into active RE positions, you might be able to find a few smaller single tenant NNN leased properties to buy to diversify a bit, maybe in the QSR space.
Drew Wahlgren
MAG Capital Partners - 4yPaul MoorePro MemberCommercial Real Estate Fund Manager · Lynchburg, VA · Member since 2015 · 1k+ posts · 1k+ votes
Hi @John Thedford. Many of us know how to own and operate single-family rentals. Most of us don’t know how to do large commercial projects, and the risk is much greater based on higher stakes. If I were you, I would try to take a crash course on triple net industrial and learn all you can before moving forward. Then I would hire a consultant, an industry expert, to advise you and help you do do diligence. There are dozens of questions you and I might not know to ask that others would.
if you’re just looking for cash flow and tax benefits and wealth accumulation, I would agree with @Drew Wahlgren. It might be better to passively invest in a bunch of syndications. I am in my third decade as a real estate investor and I could do a lot of different things, but that’s how I choose to invest. Good luck! - Real Estate Broker · Naples, FL · Member since 2013 · 9k+ posts · 6k+ votes4y
@Paul Moore I am in no hurry. Look and learn.
- Investor · San Francisco Bay Area · Member since 2020 · 10 posts · 7 votes4y
@John Thedford I forgot to mention this, but if you are looking for help evaluating the risk around the tenant, our in-house credit team is offering due diligence services to those investing into the single-tenant space. The team has institutional experience and would gather data, analyze financials, interview the management team of the tenant company, and then document and memorialize their findings into an institutional grade credit memo. This credit memo can be helpful when selling the property as well.
Just one tool to keep at your disposal if you need it!
- Real Estate Broker · Naples, FL · Member since 2013 · 9k+ posts · 6k+ votes4y
Thanks @Joel Owens yes there are so many different factors to consider. Another thought is that we will see at least a 6% appreciation rate in SW Fl for a couple more years. So if I hold, the appreciation should be over 200K per year. In the meantime, continue looking but not in a hurry. Although I own them, they are pretty much passive as long as I maintain good tenants. BTW I am 66 so not necessarily looking for more income.
- Real Estate Broker · Canton, GA · Member since 2010 · 15k+ posts · 11k+ votes4y
Might be best to hold what you have right now. If it's doing well for you and you are comfortable with it then should be fine. You could have more chance for rent growth on SFR side with inflation currently than fixed rental increases. The downside to that is in a economic downturn residential rents could flatline or decline.
NNN is more security and constant whereas residential can be more cycle timing for returns.
At different levels it varies how people view things.
I have a lot of clients making 7 figures plus annually with job or business or already have super high net worth. They focus more on blending cap rate up passively over time and long term dirt value.
Cash yield can be further down in the discussion.
All I can tell you is I am so busy between buying my own deals, helping buyers buy NNN properties, and looking to syndicate as a sponsor some more retail value add deals. I do not need to do any other type of real estate and this is my lane for sure.
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