Do I have the proper understand of Master Lease Agreements, and Holding Cost When it Comes to Offering my Property for Sale ?

Question

I'm at the point of closing a real estate transaction  with 4 buyers forming an LLC to purchase, some apartments we are converting to sell as Condominiums.  To be fair, I have eight people wanting to move forward, and two with questions that trouble me.  I just wanted to know if anyone of you BPers could tell be where I went wrong in explaining the deal to the two people I'm losing because,  I plan to repeat the deal structure on other properties.  The Transaction went like this.

1. Eight residential units purchased at $300,000 with 20% down ($60,000) on a balance of $240,000.  There is a 25% ownership by four people in a LLC Holding company paying $15,000 each to cover down payment and said Share in the development.

2.  The monthly income from the property is $5,200 at 100% occupancy which my company is paying the  Holding Company to protect them against vacancies while I arrange sales of the units for a projected $480,000 or more if possible.  This is the "Master Lease".

3.  I have a Community Housing Development Organization that present income is between $10,000 to $12,0000 per month without this transaction, we only Net $5000 to $6000 per month.  We are asking 20% of the monthly income to help pay all "Holding Cost", with our organization covering a clear operational deficit to allow owners to net at lease $900 per month each ($3,600 per month) to enhance their ROI

Problem is these two people don't feel my company will be able to make good on this offer, paying expenses, and eventually letting them exit deal with at least  about $60,000 to $90,000 each after sale of the units, which is not counting $900 per month they enjoy while we do all the work in moving low to moderate Renters from Rent to Home ownership, which is the Mission of the Non Profit Community Housing Organization.

Alex Hamilton · Answer

Thanks Mr Gulley:

Your comments where very helpful, and they will be used at my next Board Meeting.  The $10,000 to $12,000 revenue base increases on the higher end with memberships of landlords, Grants, other donations and actual sells of assets the non profit holds that, may be sold to cover  deficits in revenue.  Yes, we have an increasing surplus each month, the $10,000 per month is a minimum or high vacancy situation, which we seldom experience.

Bill Gulley · Answer

Had to read this 3 times, not sure if I get it, but....

Holding costs are all expenses of ownership of the property, for the owners. PITI, vacancy, maintenance and management. The owners have holding costs.

There are no "holding costs" to the tenant of a master lease, that tenant has operational costs.

Accounting for a NP is not like a for profit, the NP doesn't have "Owner's Equity" but a "Surplus" the NP doesn't have "income" but "revenues" from operations and the income statement for a NP is a Statement of Operations.

Assuming you are a 501C3 organization.

You're saying you currently have a monthly surplus of 5 to 6K a month. I also assume there are salaries and that the actual surplus is much lower.

Appears you are asking for 20% of $5,200 a month as a management fee or $1040.

With a surplus of $5,000 a month, you need more projects to expense that surplus. The ultimate goal of a NP is to have no surplus at the end of the year except that which is necessary to cover upcoming expenses in the following period and a small surplus reserve appropriate to the size of its operations. Unlike the profit companies goal of increasing owner's equity.

Many investors don't understand the "purpose" of a NP, they assume you must make money, you do, but only to the extent to cover operational costs, no more really. (Yes, salaries are in the NP expenses).

Those two "investors" may see 1. too much "profit" for management and 2. think your monthly surplus will be consumed by operational expenses assumed by attempting to do a conversion of apartments to a single family dwelling. I agree on both counts.

That is, without seeing the expenses of the project laid out and no, it can't begin to be paid by sales as you will have (probably) thousands, tens of thousands for the legal conversion of the property.

I assume you have no other surplus other than from cash flow.

So, you need to educate investors as to your mission as being a break even transaction, not a money making deal. However, the owners may and can profit by reduced vacancy due to your client demand more than your ability to pay. You reduce their vacancy, they can allow you to cover operational expenses from the difference in what you pay them and what your clients are paying you. You don't ask for them to "kick in" a fee as they would a PM.

But, if you are tax exempt, you can take donations, that can be valuable to an investor writing off lower than market rents instead of dealing with higher vacancies.

Well, there is NP 101, sorta, cash flow from operations should be viewed differently than a for profit entity as well as its operational surplus that must be invested and reinvested to serve its mission.

Hope that helps, but I don't know what you're doing really. BTW, the owners will be selling, not a master tenant. :)

Alex Hamilton · Answer

What is your understanding of what a "Master Lease" and what is included in "Holding Cost" ?..Let me know if it differs from my understanding in the deal I structured.