“In general, the art of government consists of taking as much money as possible from one party of citizens to give to the other.”
–Voltaire (1764)
Commercial real estate values continue to climb in the first two month of the year. Some of this has to do with good fundamentals and rent growth but much has to do with ultralow interest rates and lower cap rates. Basically to much money chasing too few deals. Quantitative Easing (QE) has raised asset prices by offering low borrowing costs. However, once the Fed is done, we’re going to find out that once the student can’t go for “extra.help” anymore, we’re going to find out how bad a student he really is.
Fueled by these higher stock and real estate values, American’s net worth reached a record high by the end of 2014. Greater net worth’s should lead to greater spending and economic growth. However, this is perhaps the worst recovery ever. Although unemployment is below 6%, the economy is operating short of its full potential. The Fed should be raising rates but a less than strong economy, a worse than our economy in the rest of the world (strong dollar) and falling oil market puts the Fed in a tight box. When we see inflation the Fed will be quick to raise rates and that will trigger a dramatic market response. Or as I learned in school, “rates will go up and then they will come down and then rise again. It is how much and when and what order that we don’t know.”
As I mentioned above, asset prices are rising but that value can and will be wiped out if and when interest rates and cap rates rise. To illustrate:
- $100,000 net income at 5% cap = $2,000,000
- $100,000 net income at 6% cap = $1,666,666
That is a $333,333 (-16.7%) hit with one percentage point change in cap rate.
To protect against this you need to be looking at property that has “replaceable rents” and even better rent that you can see increasing because of growth in tenant’s business. This growth I talk about comes from more people moving into the area than moving out. It also comes from selling products that people use and buy. Better an Apple Store than a horseshoe store! Also businesses that benefit or are shielded from the internet and big box stores (food and personal services).
While on the topic of growth, San Diego has been forecast to grow by about 100,000 people every five years through 2060. That’s 4.1 million, almost 900,000 more than now! Although we may grapple with drought, traffic and high density development, that kind of population growth bodes well for San Diego real estate values.
According to local economist, Josh Williams, “North County was hit harder by the recession but has rebounded faster.” We have moved from a bedroom community to an export economy led by biotechnology environmental tech and active life styles industries (read Golf). “If you look at North County on its own, it would be the 43rd largest state in the country with a population of 1.2 million.”
I recently attended a Mayors address where the North County Mayors have unveiled a cooperative to attract more business to North County under the banner, “San Diego’s Upside Corridor – Innovate 78.”
Even though CDC Commercial doesn’t sell apartments, I found these numbers published by Fred Schaubelt and CoStar to be a fascinating study in the historic real estate appreciation of San Diego County;
- 1970 – $11,428 avg per apartment unit countywide
- 1980 – $30,714
- 1990 – $58,000
- 2000 – $122,135
- 2010 – $139,025 (price after record market corrections)
- 2014 – $186,350
Because of the pickup in sales activity and peoples aversion to pay taxes, we are finding many of our clients turning to IRC 1031 tax deferred exchanges. This tool conforms to my real estate philosophy which is to “defer until you die, refi to live” or as I recently heard, “swap til you drop!”
By using a 1031, an investor is able to defer capital gains that would ordinarily be incurred at the time of sale. As a general rule of thumb, to avoid paying taxes in an exchange, the investor should attempt to:
- Purchase equal or greater in value,
- Re-invest all of the equity in the replacement property,
- Obtain equal or greater debt on the replacement property.
There are many other nuances and timing issues but then that is why we are here to help you. If you think now is the time for you to trade out and up or if you are refinancing and want to put that cash you took out to work, give me a call to discuss opportunities.
Don’t forget to file your property taxes by the 10th or your state taxes by the 15th or your Federal taxes by the 15th or ….. hope you enjoy the poem this month.
AX A POLITICIAN TODAY!
Tax his cow, tax his goat,
Tax his pants, tax his coat,
Tax his crops, tax his work,
Tax his tie, tax his shirt,
Tax his units, tax his land,
Teach him ownership’s not so grand.
Tax his chew, tax his smoke,
Teach him taxes are no joke,
Tax his tractor, tax his mule,
Teach him taxes are a rule,
Tax his oil, tax his gas,
Tax his notes, tax his cash,
Tax him good and let him know
After taxes he has no dough.
Tax his house, tax his couch
Tax him till he yells “ouch!”
If he hollers, tax him more;
tax him ’til he’s good and sore.
Tax his coffin, tax his grave,
Tax the sod in which he lays.
Put these words upon his tomb:
“Taxes drove me to my gloom.”
And after he’s gone he can’t relax;
They’ll still be after inheritance Tax!
As you politicians smile
proposing new taxes all the
while, Beware the day of just
one more tax, Your smiles
replaced when you get the ax!
anonymous
