Several articles in this month’s “UNITS,” the NAA’s (National Apartment Association) Magazine, discuss the coming “Wave” of foreclosures in Commercial Multi-Family properties. Remember, the definition of Commercial Multi-Family properties is a residential property of five units or greater. I mentioned this in my post almost two years ago. But the UNITS guys don’t mess around, they’re talking mostly about properties in the 200+ unit range. These are some big foreclosures, and you have to be a REIT or a very large private player to pick one of these up. The good news for small real estate investors, is that the under 100 unit properties will be facing the exact same thing, so keep your powder dry, because your day will come. And it may be sooner than you think.
Lot’s of talking heads are talking about a bottom in real estate prices, but that’s because they don’t know what they are talking about, or they want to feel good or they interviewed some “expert” that said things are going to get better. There are so many properties entering the foreclosure pipeline, and so many brand spanking new houses that no one has ever lived in just sitting, that there has to be continued downward pressure on prices. One real estate office manager with a large national chain that I recently spoke to said her firm is predicting a 1% per month decline in prices. That’s a 12% annual rate, in case you’re slow on the uptake. If you have been thinking about selling your house, do it now and price it right, because a year from now it will be worth less, I promise.
So are single family home prices tied to Commercial Multi-Family property prices? Yes and no. I would say there is not a one-to-one connection, but commercial property ran up when single family residential did, so commercial must also come down with residential. In part it is driven by bank stupidity. The banks made crazy loans on the way up, driving prices higher and higher. They are now backing away from otherwise sane loans, causing deals to die and properties to be listed at lower and lower prices. A residential mortgage guy I know is bemoaning several files not closing because the bank backed away from solid deals. In a sense, the banks are digging their own graves with this behavior, and several have already jumped into these graves (Washington Mutual & Country Wide to name two).
Think about it, you hold all these real estate loans, some good, some bad, but all are based on the value of the underlying real estate. If that value goes down, the loans get riskier. If the value goes down enough, the owner’s most logical step may be to walk away. For example, if it is cheaper to rent a comparable property to the home you own and live in, and if you have no equity, it makes sense to walk away if you can’t get out. Sure your credit is going to get screwed, but only for seven years. And is it worth say an extra $1,500 a month just to save your credit? Maybe yes, maybe no.
And how about Commercial Multi-Family Properties? If an own is facing increasing vacancies, downward trending rents, and increasing expenses, as I did in the last 2+ years, he may not be able to hold on. If his equity is gone, what is his incentive to keep putting money into the building. If the loans are non-recourse, he doesn’t even risk his personal credit rating and assets. Buh-bye. I hate to admit, but I thought about it few times while my own deal was on life support. Fortunately I was able to close and those bad ideas became just a bad dream.
Meanwhile, as the banks keep pushing down prices by backing away from or refusing to make loans in the first place, they cause more loans to go bad, as owners have less equity and therefore less incentive to hold on. Hold on!
Friday, May 29, 2009
Thursday, May 28, 2009
On Life Support
When a real estate deal is in trouble, or dying, the commercial brokers I use to buy & sell my buildings refer to it as, “On Life Support.” That was the status of my deal (see previous blog post) for probably two months before closing. Why? The buyer wanted to buy, the seller wanted to sell. They had agreed on price and terms, albeit grudgingly. Well it’s a long story, but the short answer is, the bank went bankrupt.
The buyer was selling another building, and making money on it. So he would have to pay capital gains. In order to avoid that, he structured the sale and subsequent purchase of my buildings as an IRC 1031 exchange. Properly executed, the proceeds of the sale are rolled into the purchase of the new property, and the IRS gets cheated out of their tax money. I believe this technique is widely know in real estate investment circles.
Because I had prepayment penalties on the loans underlying my buildings, and because I wasn’t getting a great price, part of the terms were that the buyer would assume my loans. The loans were assumable, and the interest was pretty good. The problem was that the buildings were selling for less than they had been appraised at when I refinanced. The bank insisted on cramming down the loans so that the LTV, Loan-To-Value ratio didn’t exceed 75%. The buyer was okay with that. It meant he had to come up with more cash, but cash wasn’t a problem for him due to his sale. The bank still insisted on a prepayment penalty on the crammed down portion of the loan. I’m not sure if the mortgage contract allows that or not, but they won. The pre-payment penalty was split three ways between the buyer, the seller (me) and the broker, making it palatable for all.
Somewhere in there the bank, Washington Mutual, went under and got bought out by JPMorganChase, which has swallowed so many banks in the last few years, it’s hard to fathom. It’ll be business as usual they insisted, but it wasn’t. Processing ground to a halt, I had verbal approval for the deal, one key signature and was waiting for the second key signature. I waited two months. The deal was supposed to close before Christmas 2008. Sometime in the beginning of February, the team working on the deal got laid off. The clock was ticking, and I had granted several extensions to the buyer, what else was I going to do? He wanted to close, and was ready, willing and able. In fact, he was willing to come to the table with all cash just to make things happen. A good buyer and honorable too! But I needed for the loans to be assumed, or half my profits would disappear in prepayment penalties.
My lawyer wrote a “Nasty-gram” to JPMorganChase threatening to sue them if they caused the deal to fail. They then resumed processing the loan assumption, and we closed on the very last day we could close and the buyer could still get his tax break. It was a great effort by the broker, and the lawyers for both the buyer and the seller.
I got lucky I guess. The buildings are most likely worth less now than what I got for them. They were in need of some upgrading and renovation, and I was getting a little tired after eight years. I also knew things were going to get worse for rental housing before they got better. The previous two years were tough, and mentally I wasn’t prepared to hang on. Also I had been (and still am) contemplating relocating to the Pacific Northwest, and would need to sell in order to do so. The buildings are no longer a barrier to my relocating. Also, after a little rest, I intend to start over, either as property manager working for a company, or independent again, but in nicer neighborhoods.
I’m not sure what the moral of the story is, or if there even is one. Life sucks, maybe? Or perseverance? Nothing ventured nothing gained? Never give up? It’s frustrating to me when things are out of my control and I’m trying to make something happen. Use good professionals, and hope for the best.
The buyer was selling another building, and making money on it. So he would have to pay capital gains. In order to avoid that, he structured the sale and subsequent purchase of my buildings as an IRC 1031 exchange. Properly executed, the proceeds of the sale are rolled into the purchase of the new property, and the IRS gets cheated out of their tax money. I believe this technique is widely know in real estate investment circles.
Because I had prepayment penalties on the loans underlying my buildings, and because I wasn’t getting a great price, part of the terms were that the buyer would assume my loans. The loans were assumable, and the interest was pretty good. The problem was that the buildings were selling for less than they had been appraised at when I refinanced. The bank insisted on cramming down the loans so that the LTV, Loan-To-Value ratio didn’t exceed 75%. The buyer was okay with that. It meant he had to come up with more cash, but cash wasn’t a problem for him due to his sale. The bank still insisted on a prepayment penalty on the crammed down portion of the loan. I’m not sure if the mortgage contract allows that or not, but they won. The pre-payment penalty was split three ways between the buyer, the seller (me) and the broker, making it palatable for all.
Somewhere in there the bank, Washington Mutual, went under and got bought out by JPMorganChase, which has swallowed so many banks in the last few years, it’s hard to fathom. It’ll be business as usual they insisted, but it wasn’t. Processing ground to a halt, I had verbal approval for the deal, one key signature and was waiting for the second key signature. I waited two months. The deal was supposed to close before Christmas 2008. Sometime in the beginning of February, the team working on the deal got laid off. The clock was ticking, and I had granted several extensions to the buyer, what else was I going to do? He wanted to close, and was ready, willing and able. In fact, he was willing to come to the table with all cash just to make things happen. A good buyer and honorable too! But I needed for the loans to be assumed, or half my profits would disappear in prepayment penalties.
My lawyer wrote a “Nasty-gram” to JPMorganChase threatening to sue them if they caused the deal to fail. They then resumed processing the loan assumption, and we closed on the very last day we could close and the buyer could still get his tax break. It was a great effort by the broker, and the lawyers for both the buyer and the seller.
I got lucky I guess. The buildings are most likely worth less now than what I got for them. They were in need of some upgrading and renovation, and I was getting a little tired after eight years. I also knew things were going to get worse for rental housing before they got better. The previous two years were tough, and mentally I wasn’t prepared to hang on. Also I had been (and still am) contemplating relocating to the Pacific Northwest, and would need to sell in order to do so. The buildings are no longer a barrier to my relocating. Also, after a little rest, I intend to start over, either as property manager working for a company, or independent again, but in nicer neighborhoods.
I’m not sure what the moral of the story is, or if there even is one. Life sucks, maybe? Or perseverance? Nothing ventured nothing gained? Never give up? It’s frustrating to me when things are out of my control and I’m trying to make something happen. Use good professionals, and hope for the best.
I Am An Ex-Landlord!
Well it’s been official for just about three months now. I managed to close the sale of my buildings as of the end of February, 2009. Is this a good thing? Yes and no. I feel a certain sense of lost identity, having been a landlord for 10 years. People used to call me “Carlton Sheets,” “Donald Trump” and “Slumlord.” It was a badge of honor. They used to screech with laughter, when after calling me a slumlord, I would correct them, informing them that I was “A professional property manager, focusing on the affordable housing sector.” There were times for sure that I felt like I was a slumlord. There were times that I hated my buildings, and when I visited, I just wanted to get away from them. It was amazing that so much of my net worth and identity was tied up in these properties.
There was a time when I was highly leveraged, and it freaked me out. I was making money hand over fist for about a six month period when I owned a total of four buildings with 48 units. But then the leverage got to me. So did the rough buildings. They have a saying on Wall Street, “If you can’t sleep, sell down to the sleeping point.” So I sold my buildings in Newark. I slept much better afterwards.
I feel like I got out just in time. I wish of course that I had sold when the market was higher. I knew when that was. I recently read on-line a comment from a laid off economist, “Just because you know a freight train is coming, doesn’t mean you can get out of it’s way.” I feel like that. Even though I had the sense that the market was near a top, I didn’t know what I would do if I sold. I thought I was a “Long Term Investor.” I thought the buildings would not only pay for my kids’ college education, I thought it would be the only way to do so. I still do.
My home is probably under water by $100,000. Not that I’m upside down on my mortgage, just that it’s worth that much less than I paid for it. I knew this was happening. So why didn’t I sell? I need a place for my family to live. Of course I could have sold and rented, but rental units are scarce and expensive in my town. I did talk about just renting when we bought this house, but ultimately I didn’t want to simultaneously be a landlord and a tenant. Financially it was the right move, but lifestyle-wise it was not. Also, even though I called a top in the real estate market, I didn’t call a freight train. As always, a crystal ball would have been helpful.
There was a time when I was highly leveraged, and it freaked me out. I was making money hand over fist for about a six month period when I owned a total of four buildings with 48 units. But then the leverage got to me. So did the rough buildings. They have a saying on Wall Street, “If you can’t sleep, sell down to the sleeping point.” So I sold my buildings in Newark. I slept much better afterwards.
I feel like I got out just in time. I wish of course that I had sold when the market was higher. I knew when that was. I recently read on-line a comment from a laid off economist, “Just because you know a freight train is coming, doesn’t mean you can get out of it’s way.” I feel like that. Even though I had the sense that the market was near a top, I didn’t know what I would do if I sold. I thought I was a “Long Term Investor.” I thought the buildings would not only pay for my kids’ college education, I thought it would be the only way to do so. I still do.
My home is probably under water by $100,000. Not that I’m upside down on my mortgage, just that it’s worth that much less than I paid for it. I knew this was happening. So why didn’t I sell? I need a place for my family to live. Of course I could have sold and rented, but rental units are scarce and expensive in my town. I did talk about just renting when we bought this house, but ultimately I didn’t want to simultaneously be a landlord and a tenant. Financially it was the right move, but lifestyle-wise it was not. Also, even though I called a top in the real estate market, I didn’t call a freight train. As always, a crystal ball would have been helpful.
Subscribe to:
Posts (Atom)
