Brokered

Learning From History: It's not the Apocalypse

2008-10-28T13:08:00.005-04:00

Grubb & Ellis research is at it again with hands-down, the best research report you'll see about the current state of the Manhattan office market.

By drawing on our own market research—which dates back to the 1960s—Grubb and Ellis is able to view the current market troubles in the context of similar past economic events.

The views expressed are consistent with the 2008 projections that we shared with our clients and the media at the end of 2007.

To read the full report: click here!

20% Chance that CBRE May go Bankrupt

2008-10-27T17:58:00.003-04:00

According to Morningstar, with a very high debt load, prospects of global real estate services firm - CB Richard Ellis are "precarious." The most telling quote of the article is this:

"We assign a 20% probability that the firm could go bankrupt and equityholders' value would be wiped out. (Even if the firm avoids bankruptcy--which we believe is very likely--it needs to service more than $2.6 billion in debt through a cyclical downturn, and we forecast refinancing requirements of $1 billion in 2011 and $1.2 billion in 2013.)"

No question, the market is tough for all real estate firms in this market. However, it appears that CBRE through its acquistions and expansion may have bitten off more than it can chew.

For the full report, click here.

Market Update: Leasing Activity Down 20% From this Time Last Year

2008-10-13T08:00:00.001-04:00

Grubb & Ellis New York has released its Third Quarter 2008 office market trends.

Here are the highlights:

The financial crisis and economic downturn has directly effected the NYC office market

Available sublease space increased to 8.9 million square feet with the addition of 1.5 million square feet this quarter
Class A direct asking rents declined for the second consecutive quarter, down 1% since the first quarter.

Leasing activity is down 20% from this time last year, with 19.9 million square feet leased through the first three quarters of 2008.

Click on the picture for the full report:

The Market is Starting to Get Better for Small Tenants

2008-10-10T14:20:00.006-04:00

Sixth months ago I mentioned that despite the softening of the NYC commercial real estate market, it was still a landlord's market for small tenants. In my post, I predicted that it would be a little over a year before the market really softens for small space, and a year and a half before small tenants start making deals significantly below existing market prices.

However, as anyone can see, the financial crisis that our world, our country, and particularly our city is in, is of greater proportions than anyone predicted. So, instead of being at step 9 in the "decline cycle" as I expected, it seems that we are onto step 10 ("Small companies start feeling the impact of the slow economy and delay or cancel growth plans, some companies go out of business") and we are moving through the steps at a quicker rate than anticipated.

This said, I do not expect small companies to get big discounts on space until early 2009, and even then, I would not expect discounts as large as those that big users are getting. There are several reasons for this.

1) The real estate market lags the economy (hence early next year, not now)

2) The supply of small spaces is still very low

3) The demand for small spaces has not declined significantly - this is due at least in part, to the many bankers who have been laid off by the big firms and are going off on their own starting new shops

4) An empty small space has much less impact on a landlord's cash flow statement than a large space does. Landlords can afford to be more stubborn with their small spaces and explore their options.

So, what does this mean for you if you are a small company considering a move or looking for space? Now, is the time to start your search! If you figure out what you want now, you'll be in a great position to take advantage of the market in a few months!

Market Predictions for the Next 24 Months

2008-10-10T13:37:00.013-04:00

As I may have mentioned in the past, the research group at Grubb & Ellis has been incredibly insightful in predicting this downturn. In fact, present market conditions on track with what the G&E research group predicted back in November of 2007. No other research group, came close to predicting this downturn. That said, let's face it, this financial crisis and the resulting real estate downturn is unlike anything anyone predicted.

So, with that in mind, I'd like to share with you Grubb & Ellis New York's predictions for the next 2 years. Happy reading!

I'm Gonna Meet Mark Cuban - Are you?

2008-09-03T21:08:00.003-04:00

Yes, I know I haven't posted in months, and I promise to get back into it soon. One of the reasons I have not posted lately, is because I've been working hard planning the first major speaker event for the Jewish Entrepreneurs Organization.

The event is: From Bartender to Billionaire: A Conversation with Mark Cuban

Mark Cuban is kicking off our Inspiration Series™ with a bang. He'll tell his personal story of how he achieved his dreams and the trials and tribulations he faced along the way.

A networking session with cocktails and hors d'oeuvres will follow.

September 18th, 2008 - 6:30 pm

Stephen Wise Free Synagogue

30 West 68th St., New York, NY

There's 1 DAY LEFT TO PURCHASE EARLY BIRD TICKETS

To buy tickets visit www.jewishentrepreneurs.org!

Is Your Company Growing? - Now is the Time to Sublease

2008-07-25T11:39:00.004-04:00

As I've mentioned in earlier posts, in-light of the credit crisis virtually all of the major financial institutions in NYC are putting sublease space on the market. The difference between now, and the end of last quarter, is . . . big surprise - the market is even worse. Asking rents have finally started to go down, leasing activity is down 30% from last quarter in Midtown, and the number of large blocks of space has continued to increase. There are now 60 blocks of space available over 100,000 SF up from 53 last quarter.

So, what does this mean to your growing company? It means, sublandlords are getting increasing desperate, and landlords don't have the (pardon my French) "balls" to recapture low priced sublease space.

A word of caution for those of you in 2,000 SF thinking of expanding to 4,000 SF. There are still very few small spaces available, making competition for these spaces high, and keeping prices up. I would venture that the likelihood of landlord recapture has gone down, but deals are still few and far between. That said, there is still hope for you to get a good deal . . . move downtown!

The Recapture Clause and Other Sublease Stuff

2008-05-28T16:19:00.007-04:00

Many people ask me why, with rents so much higher today then they were a few years ago, aren't more people subleasing their space? It would seem that the opportunity to get free cash would be one that few would pass up. The truth is, subleasing isn't quite as great as it seems. There are 3 reasons for this, 1) the landlord makes it that way, 2) there's additional risk, 3) it costs money to sublease. Today I'll address the first reason.

1) In every lease I've seen, a tenant has the right to sublease and the landlord cannot "unreasonably withhold" his/her consent. However, there are many qualifications attached to this statement. Here are some common ones that may not surprise you:

The sublessee has to have good credit

The sublessee's use of the space must comply with the use permitted in the lease

The sublessee must not be a current occupant of the building or any other building the landlord owns (try to get rid of this one if you can)

The sublessee must not be someone already negotiating to lease space in the building

The current tenant must reimburse the landlord for any costs incurred in subleasing the space

The space cannot be advertised for less than advertised space in the building (try to get rid of this one too)

The sublease must not allow anything that is not allowed in the overlease

Here are some other common qualifications that probably will surprise you:

Landlord's right to recapture - In the event that the tenant delivers a signed sublease to the landlord, the landlord has the right to cancel the tenant's lease and either lease the space directly to the proposed subtenant, or lease it to someone else. Generally the landlord has a time period during which they may decide if they want to allow the sublease, deny the sublease, or recapture - 30-45 days is typical. As a tenant, you'll want to avoid the landlord's right to recapture, and if you can't get rid of it, try to reduce the review time. Let me explain why:
1) In a good market, the market rent will be significantly higher than the rent in the lease, and likely higher than what a tenant will sublease there space for. This makes potential subtenants weary of entering into a sublease transaction. The potential subtenants could spend thousands in attorneys fees and months negotiating a sublease only to then wait an additional 45 days for a landlord to decide if he/she is going to recapture, and then have the landlord recapture! If the landlord recaptures, they may be stuck with doing a direct deal at a much higher rent than they planned, or they may have to walk away from the deal.
2) Broker's are weary of showing a tenant space where the landlord has the right of recapture. They may put in a lot of work only to have the deal fall through, and they don't get paid for all of that work.
3) The recapture process makes the whole sublease process take longer which means more time without rent for the sublessor.

All of this said, having the landlord recapture your space isn't such a bad thing . . . it gets you off the hook for the lease and assuming you're not in the business of being a landlord this should make you happy.

Sublease profit - The lease may stipulate that in the event the sublease is for a higher rent than the rent in the lease, the landlord may get all or some of the profit. This clause is critical, and it is important that you understand it. You should try to negotiate to be able to keep at least half of the profit on a sublease. Also, make sure that any profit that goes to the landlord is paid after attorney's fees, brokerage fees, improvements made to rent the space, cash allowance paid to the sublessee, and free rent offered. Finally, often times the landlord will insist that he/she receives ALL money received for the purchase of Tenant's fixtures, leasehold improvements, furniture, furnishings or other personal property over the transaction costs. This may seem completely unreasonable, but there is good reason why landlords include this clause. Sometimes tenants avoid paying profits on a sublease to the landlord by receiving large payments for furniture and fixtures. The best way to avoid handle this clause, is to say that the landlord will get his/her share of the profit made on the furniture/fixtures above the "fair market value" of said furniture/fixtures.

In my next post I'll cover risks and additional costs.

Loss Factor v. Load Factor v. Add-On Factor - More on the "Rubber Ruler"

2008-05-27T09:24:00.005-04:00

In Loss Factor Demystified and Loss Factor Demystified - Part 2 I explained what a Loss Factor is the difference between Rentable Area and Usable Area. Since that time I've had several people ask me about other terms they've heard thrown around - Load Factor, and Add-On Factor.

First off, Load Factor and Add-On Factor are the same thing. While loss factor tells you what percentage of the Rentable Area you can't use, Load Factor and Add-On Factor tell you how much larger the Rentable Area is than the Usable Area. For instance, let's say you are considering the rental of an office. The landlord tells you that the Rentable Area of the space is 10,000 SF, and the Usable Area of the space is 7,500 SF. What is your Loss Factor, and your Load Factor/Add-On Factor?

Loss Factor: (Rentable Area minus Usable Area) divided by Rentable Area: (10,000-7,500) = 2,500/10,000 = 25%

Load Factor/Add-On Factor: (Rentable Area minus Usable Area) divided by the Usable Area: (10,000-7,500) = 2,500/7,500 = 33%

Follow Up on 1031 Exchanges

2008-05-14T16:03:00.002-04:00

A few weeks ago I posted Part 1 of a Series on "Why TICs are good" which explained what a 1031 exchange is. As a follow up to that discussion, I recently came across this very interesting article which offers some tips on the nuances of a 1031 exchange. I won't repeat the article here, but a couple interesting things to know are:

1) Foreign properties are not considered "like-kind" for the purpose of a 1031, regardless of what they are, and

2) "Personal property may be exchanged under [section]1031. However, to qualify it must not only be exchanged for other personal property but must be exchanged for personal property of the same "like class" property or within the same product class as set forth in the NAICS manual.

Happy Reading!

Downtown Manhattan - The Best Value for Small Tenants

2008-05-13T12:21:00.006-04:00

Now, more than ever, the Downtown office market of Manhattan provides tremendous value for small tenants. Let me explain why . . .

Post 9/11 the New York City office market took a tremendous hit. Companies fled Manhattan for the suburbs, and Downtown Manhattan was hit the hardest. Faced with high vacancy rates, Downtown office building owners had to make a tough decision. Grin and bear it, sell, or reposition. Since Class A space came way down in price, Class B and C space looked increasingly unattractive to tenants. Most Class A landlords stayed put or sold, but the Class B & C landlords mostly repositioned their buildings or sold their buildings to new owners that repositioned them. Virtually every Class C building, and many Class B buildings were converted to residential rentals and condos. This left the Downtown market with a high proportion of quality space, and much less office space - period. As a frame of reference, immediately preceding the events of September 11, 2001, the downtown market had 82.4 million sf of office space as compared to the current number of 74.8 million.

Despite the sharp decline in the quantity of office space downtown, the results of September 11 created an increasing large gap between Midtown rents and Downtown rents. Pre 9/11, rents downtown were approximately $15 less per sf than they were in Midtown (25% less). Today, they are approximately $30 less per sf then they are in Midtown (35% less). As this gap has grown, Downtown has become more and more of a value option for Midtown tenants.

So, if this is the case, why is Downtown more of a value play for small tenants than large tenants? Glad you asked . . . with the current state of the economy and the failures in the financial services industry, a lot of sublease space has become available both Midtown and Downtown. As I mentioned in a previous post, there are over 50 block of space over 100k sf available. These spaces are trading at a discount of approximately $20 below direct space. The result - large tenants that were considering a move downtown may choose to sublease space in Midtown. Unfortunately, for small tenants this is not an option. There are still very few small sublease spaces available in midtown, and those that are around are not trading at much of a discount. So, if a small tenant wants quality in Manhattan, and needs ample access to public transportation, there is no better option than the Downtown market.

The "Good Guy Guarantee" and Why It's Not so Bad

2008-05-12T11:35:00.004-04:00

Any smart landlord will do whatever he/she can to insure that they won't be left "high and dry" by a tenant that doesn't pay their rent. The most common means of protection is through the use of a Security Deposit or Letter of Credit. The amount of this Security Deposit or Letter of Credit is inversely correlated with the credit worthiness of a tenant. To keep it simple, the worse the credit, the more security needed. Of course, certain companies with lots of money and a good track record may still be considered risky. Perhaps the best example are hedge funds. Virtually all of the billions that many hedge funds have is "tied up." The money they invest is tied up in investments, and the management fees are generally funneled directly to the partners. So, even those most hedge funds can afford expensive space in the best areas, they'll have to put up a lot of security to get it.

Now, to the heart of this post. In addition to, or in lieu of a security deposit, many landlords will insist on a "Good uy Guarantee." I have found that there is a lot of misinformation out there on exactly what a "Good Guy Guarantee" is, so I'd like to set the record straight.

A "Good Guy Guarantee" is very simple. It says, that in the event that the tenant has to break the lease, the tenant will notify the landlord, vacate the space and return the keys. If, and only if the tenant does not abide by this guarantee, a principal of the tenant's organization will be held personally responsible. In this respect, the "Good Guy Guarantee" is a form of a limited personal guarantee. When the principal of a firm hears the words "personal guarantee," this often scares them off. The truth is, that once you realize what this guarantee is all about, it's not something to be afraid of. Truth be told, a "good guy" would not allow their company to stay in a space and not pay the rent.

I generally advise my tenants to sign a "Good Guy" (after using it as a bargaining chip of-course)and here's why. The Landlord's goal is simply to protect his or herself whenever possible. Using a "Good Guy" is a great way to prove to the landlord that you're worth the risk while reducing the amount of security that your company will have to provide. However, it's important to remember that corporate executives come and go, so your company should retain the right to substitute the guarantor at any time.

How to get a NJ Real Estate Salesperson's License - If you're a NY Real Estate Salesperson

2008-05-06T18:19:00.005-04:00

First things first - a little known tidbit about NY commercial real estate brokers. In NY (and I believe many other places as well), if you sell or lease commercial real estate you call yourself a broker. Not an agent, not a salesperson, not a realtor . . . a broker. If you're not a "broker" you may find this odd. Why? Because most of us aren't brokers!

Truth is, there are 2 legal designations -"Real Estate Salesperson" and "Real Estate Broker" (OK, there's also "Associate Broker," but I'm trying to keep this simple). Anyway, "Real Estate Salespeople" can do all the same things as brokers, except having a broker's license allows you to own a real estate brokerage firm. Since real estate salespeople aren't limited in what we can do, and since most of us work for a firm anyway, most of us don't have broker's licenses. Whatever the case, we all call ourselves brokers!

Now that I've clarified this, I'll get on to the point at hand. I'm a licensed NY Real Estate Salesperson. I've decided that I would like to get my NJ real estate license. I thought this would be a relatively simple process. As it turns out, it's a big pain in the ass. I'll walk you through it, in case you care.

In NJ, you must meet 3 main requirements to become a licensed real estate salesperson.

1) 70 hours of accredited real estate training
2) Pass the state exam
3) Be sponsored by a license real estate brokerage firm

In NY, however, you only need 45 hours of real estate training (at least until that changes to 75 in a couple months). As a result, NY has virtually no reciprocity with other states for real estate licenses (most states require 70+ hours). So, in order to get my NJ license, I had 3 options 1) take a 75 hour course in NJ, 2) show proof of 75 hours of education from an accredited masters degree, or 3) take the NY broker course (for 45 hours) and combine those hours with the hours I spent getting a NY real estate license to fulfill the requirement. This is easier said than done. Here's how it plays out.

1) Take 45 hour NY broker course (a few hundred bucks)
2) Send a letter to the NY Department of state to apply for Certification of Licensure - $20
3) Wait to receive Certification of Licensure
4) Send in certificate of completion of NY broker course and Certification of licensure to NJ Real Estate Commission (send in certified check for $25 + certified check fee)
5) Wait to receive waiver of education requirement for NJ Salesperson's license
6) Sign up for NJ Salesperson test ($60)
7) Study for NJ Salesperson test (Buy book - $45)
8) Schlep to NJ for Salesperson test
9) Submit proof that you passed test, met education requirement and have a sponsoring broker to get license

As you can see, they don't make it easier on you. Oh well, at least I'm up to step 7!

Relocation Clause - Follow Up

2008-05-06T09:22:00.003-04:00

David Stejkowski in his blog referenced my post on the relocation clause, and made a couple of very salient points.

1) A relocation clause could even say that the landlord can move you to another building! - I wouldn't go for that.

2) A key negotiation point is to limit how many times the tenant can be relocated. I think that once is enough, but you should at least limit it to once every X number of years.

How to Water Down a Relocation Clause

2008-05-02T10:25:00.005-04:00

Landlords like big tenants. Quite simply, they're easier to deal with, and cause less administrative headaches. They sign longer leases, they do their own work, they understand real estate, and they pay a lot of rent. Sure, big tenants have their negatives as well, but on the whole, landlords prefer them.

To that end, if a landlord has the option to move a small tenant to make room for a big tenant, they might just do it and if your lease has a relocation clause, they can! So what exactly is a relocation clause? Well, it's pretty straightforward, and generally it says, that with XX days notice, the landlord can move you to another space in the building of a similar size, and charge you the same amount per sf that you are paying now, for the new space.

Given the significant cost of business downtime, if a relocation clause is exercised, it can cost a small tenant an incredible sum of money. With this in mind, when I submit an offer on behalf of a client, I always ask if the landlord's lease has a relocation clause.

So, what if the lease I am about to sign has a relocation clause, what do I do?

In this situation, you have 2 options. The first, of course, is to demand that the clause is removed from the lease. This is often possible, but for some landlords, the relocation clause is very important. In these cases, your best option is to water down the clause. Here's how you do it.

1) These clauses generally say that the landlord may move you anywhere in the building he/she chooses. You should change the clause to say that the landlord may only move you to a location on the same floor or higher. You may also wish to request that the floor is facing the same direction and gets better or equal light and views, and has at least as many windows.

2) Few spaces in a building are exactly the same size. The landlord will want to move you to a space of "similar" size, but how do you define similar. Furthermore, the landlord will want to charge you more for your new larger space! You should demand that the space your are moved to is equal or larger than the space you currently occupy. Additionally, your "proportionate share" of the building should not go up for tax and escalation purposes, and you should pay no more than you are currently paying for rent and electricity.

3) Moving expenses - The landlord should pay for all moving expenses.

4) Downtime expenses - The landlord should pay for all expenses related to business downtime.

5) Build-out - The landlord should build out your new space to a degree of quality that is as good or better than your current space.

6) Notice date - Demand that you receive plenty of notice of the landlord's intent to relocate you.

7) Other concessions - Free rent, additional tenant installation $, etc.

It's worth noting, that the relocation clause is really not as scary as it seems. Truth be told, landlords rarely relocate tenants. It's generally prohibitively expensive and very time consuming (even more so when you include all of the restrictions we did above). Also, there is rarely one small tenant on a large floor. Relocating one often means relocating the others. Nonetheless, it's important that you protect yourself.

East Side Bang for the Buck - Class A Arbitrage!

2008-04-29T17:51:00.011-04:00

A few months ago I prepared a report on the Manhattan East Side Submarket. Before the information gets outdated, I thought I would share it. So, without further ado . . .

The East Side Submarket is defined as:

- 37th St. – 60th St.
- East River – Lexington Ave.

- excludes Lexington Ave. and west side of Third Ave. from 39th to 46th St.

As you can see in the chart below, historically East Side rents and vacancy rates track Midtown Manhattan rents in general.

What's interesting, however, is the gap between Midtown rents on the whole and East Side rents that has been growing since the year 2000. There is now a $10 difference! What is really telling, however, is this next chart, which tracks Midtown Class A & B rents and East Side Class A & B rents.

As you can see above, there is basically no gap between Class B rents on the whole in Midtown and East Side Class B rents. However, the gap between Class A rents in Midtown and Class A rents on the East side is huge - $25!

I have some theories for which can account for some of the discrepancy (new class A inventory on the West Side, impact of the Plaza district, etc.). However, I do not believe that there is a good justification for this incredibly large discrepancy. Sure, the East Side does not have the best transportation in the world, but virtually all of the East Side's Class A buildings are on the West border. The point is, that if you are looking for Class A space in Midtown, there is rent arbitrage opportunity between the East Side and the rest of Midtown, and you should take advantage of it!

Grubb & Ellis Weekly Market Insight Update

2008-04-28T19:46:00.002-04:00

Available Office Sublease Space

Here is Grubb & Ellis' weekly market update courtesy of Bob Bach, Grubb & Ellis' Chief Economist.

Commercial real estate fundamentals lag the economy, but one market indicator in particular provides an early warning sign of impending changes. Office sublease space has increased by 12% from its recent low in the second quarter of 2007, ending the first quarter of 2008 at 81.9 million square feet. During the last downturn in 2001, sublease space more than doubled after three quarters of softening. Thus, the office market is feeling the effects of the weaker economy, but the pace of softening so far has been gradual.

"Buy into Fear and Sell into Greed"

2008-04-27T00:02:00.003-04:00

This scruffy guy with the pony tail is the former Chairman of Grubb & Ellis and NNN Realty Advisors - Tony Thompson. He's pretty eccentric, but very successful. Thursday he was interviewed by GlobeSt.com regarding the founding of his latest company - Thompson National Properties.

One of Tony Thompson's favorite quotes is "Buy into fear and sell into greed." While everyone is nervous about the economy, property values are coming down and financing is tough, these are valuable words to remeber. This is particularly true for those of you with CASH! Cash is king right? The truth is, the people in trouble right now are those who were to highly levered (read: Harry Macklowe). Those with the cash to buy the troubled buildings and development sites are in a position to capitalize on the market.

If you're looking for a deal - I know a building expected to sell for $700 million less than it would have a 9 months ago (read: GM Building). There are other opportunities out there as well - keep your eyes open.

Why TICs are good! - Part 2 - Why a 1031 TIC?

2008-04-25T17:28:00.004-04:00

In my last post I explained what a 1031 is, and showed you the advantages. Now, let's go back to Isabella Investment. Isabella has decided that she'd like to save the 27% in taxes and go with a 1031 exchange. However, the idea of owning another commercial or investment property is really not all that appealing to her. She's selling her office building, because she's sick of the headaches that go with being a landlord. Furthermore, she's nervous about having all of her money tied up in one small building in New York City. She wants to diversify, and she would love to invest in a big office building, one she simply couldn't afford to own by herself. To make things even more complicated for Isabella, according to the 1031 statute, she must identify buildings in which she would like to invest within 45 days in order to defer taxes!

Well, incredibly enough, Isabella is the ideal 1031 TIC investor. But what's a TIC? TIC stands for Tenant in Common, and it is simply a situation where multiple people own one building. It could be you and your uncle George, or in the case of the TICs Grubb & Ellis offers, they are securitized investments regulated by the SEC.

So, how does it work? OK . . . here it goes. Before Isabella sells her office building, she identifies a "qualified intermediary" (basically an escrow agent). When she sells her building, the qualified intermediary holds the money temporarily. Once she sells the building, the clock starts ticking, Isabella has 45 days to identify up to 3 buildings for potential investment, and up to 6 months to close on one or more of these properties. She calls up Grubb & Ellis (or another TIC provider), and is presented with several opportunities. The buildings are located throughout the country, and in different industry sectors. After careful deliberation, Isabella decides she is interested in a golf course in Florida, a medical office building in South Carolina, and a retail shopping center in New Jersey (yes, these are all considered to be "like kind" for tax purposes). It has now been a month since Isabella sold her office building, so she has 5 months to go to close on properties.

Isabella decides she would like to invest in the medical office building, and the retail shopping center. There is $30 million in total equity invested in the medical office building, and Isabella invests $1 million. She receives a deed for 1/30 of the property. There is $15 million in total equity invested in the retail shopping center, and Isabella invests $1 million. She receives a deed for 1/15 of the property.

For the next 3-8 years Grubb & Ellis (or a similar company) manages, leases and handles all maintenance on Isabella's investment properties. Meanwhile, Isabella receives checks for her share on the profit from leasing the buildings. In 3-8 years, the properties are sold and Isabella receives her share of the profit on the sale. She then must decide again, to defer or not to defer.

Why TICs are good! - Part 1 - What is a 1031 Exchange?

2008-04-25T13:32:00.009-04:00

As you may know, Grubb & Ellis recently merged with NNN Realty Advisers. As a result of the merger, Grubb & Ellis is now, not only a corporate real estate services firm, but also a leading sponsor of real estate investment programs. Most notably, Grubb is now the number one sponsor in the country of tax-deferred 1031 exchanges via tenant-in-common in partnerships.

What does that mean? Glad you asked!

Let's start off with a primer on 1031 exchanges. 1031 refers to a section of the Internal Revenue code - here's what it says:

"No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment."

Quite simply, the government will let you defer taxation on the gains from a sale of commercial or investment property if one invests in similar property. Here's an example:

Isabella Investment owns an office building in New York City. She purchased the building in 1990 for $300,000. It's now 2008, and she decides to sell the building. In this market, she can get $2 million for the building. That's a capital gain of $1.7 million. This gain is taxable in the following ways:

Federal capital gains tax of 15%

State and (in the case of New York City), city capital gains taxes. These income taxes depend on your tax bracket, but the rule of thumb, is that these add up to an additional 12%.

Depreciation Recapture tax - a tax on whatever amount of money you depreciated (on a straight line basis) for tax purposes. Recapture tax is 25%.
Excess Depreciation Recapture tax - a tax on certain structures and improvements that you've depreciated on an accelerated basis. This is taxed as normal income, and is up to 35%.

Real property transfer taxes. In NY state, this tax is .4% of the full purchase price. Additionally, New York City applies a 2.625% transfer tax.

In all cases, the first 4 taxes on this list may be deferred. Only in special cases may the transfer tax be deferred as well. Let's see how this plays out for Isabella - we will assume that Isabella fully depreciated her office building:

Scenario 1 - Isabella does not do a 1031:

Sales Price: $2 million
Capital Gains: $1.7 million
Federal Capital Gains Tax: $210,000 ($255,000 - $45,000 covered by recapture tax)
State & City Capital Gains Taxes: $204,000
Depreciation Recapture Tax: $75,000
Excess Depreciation Recapture Tax: For the purpose of this example, we'll assume this doesn't apply although it would likely only make her taxes higher!
Transfer Taxes: $60,500
Total Taxes: $549,500
Total Tax %: 27.5%
Equity to Reinvest: $1,450,500

Scenario 2 - Isabella does a 1031 exchange:

Sales Price: $2 million
Capital Gains: $1.7 million
Transfer Taxes: $60,500
Total Taxes: $60,500
Total Tax %: 3%
Equity to Reinvest: $1,939,500

Additional Rent!? Post #3 - Operating Expenses

2008-04-23T11:02:00.005-04:00

The third major component of "Additional Rent" is "operating expense escalations." This is a charge assesed by the landlord on a yearly basis to account for increases in the cost of operating the building. There are several ways that landlords bill for operating expenses. Without further ado, here it goes:

1) Direct Pass through - Generally considered the most favorable option. With a direct pass through, the landlord bills the tenant for it's proportionate share of the increase in operating expenses. Often the landlord will estimate what what this increase will be and later will adjust the charges accordingly.

2) Fixed Escalation - Often, in lieu of determining a tenant's proportionate share of operatin expense increases, a landlord will simply increase the tenant's rent a certain percentage per year. Currently, the going rate for this set increase is about 3% of the gross rent. While this option offers peace of mind to tenants, it often results in higher payments than a direct pass through. It is important to note, that these increases compound year over year and it is imperative that your real estate advisor performs a comprehensive financial analysis so that you may know exactly what you will be paying in the future. As a quick example, a $65 per sf rent escalataed 3% annually for 5 years will cost you over $73 per sf in year 5! Fixed escalations are most common for small tenants.

3) CPI Escalation - CPI stands for Consumer Price Index. The CPI is a measure of the change in prices of a representative basket of goods and services over time. Baseically, CPI is a measure of inflation. In the case of a lease tied to CPI increases, however much the cost of the basket of goods goes up per year is the percentage that the lease goes up. CPI esclations are still used in NYC, but are relatively uncommon.

4) Porter's Wage Escalation - Unique to NY, the Porter's Wage escalation increases a tenant's yearly rent per sf based on the hourly average increase for Porters in the Local 32BJ union. For instance, if the porters negotiate an increase of $1 per hour a tenants rent will go up $1 per sf. This is called a "penny for penny" increase. There are many variations on this formula, however, including, "3/4 of a penny for penny," "1.5 pennies per penny," and with or without "fringe benefits." Like CPI, this kind of escalation is still used, albeit rarely. Typically, this type escalation is not favorable to tenants.

Additional Rent!? Post #2 - Taxes

2008-04-21T14:13:00.006-04:00

In a modified gross lease, the tenant is responsible for paying for their proportionate share of the increases in real estate taxes.

Here's how it works; initially any real estate taxes on the space are included in the gross rent, this first year is generally used as the "base year" (although sometimes another year is used). The base year is the year from which all calculations are started and it is specified in the lease.

Now, this is where it gets tricky . . . New York's fiscal year begins on July 1, and this is when tax assessments for buildings take place. It is critical, that you know whether the base year in your lease is based on the Fiscal Year, or the Calendar Year. If it's the calender year, then the taxes are based on half of the fiscal year preceding that calendar year, and half of the fiscal year subsequent to that calendar year.

Anyway, you generally have one year before you have to start paying rent based on real estate tax increases. Once there is an increase in real estate taxes, that increase is divided among the tenants based on their "proportionate share" of the building. This is where things get tricky yet again. It is critical, that the proportionate share you're paying for, really is your proportionate share of the building. As I mentioned in "Loss Factor Demystified," landlords often "grow" the size of the building to compete with prevailing market loss factors or to push the limits on loss factor to increase profits. However, proportionate share of the building should never change - unless the building really does grow. Your remeasured space must be divided by the remeasured total for the building to find out your actual proportionate share. If your remeasured space is divided by the old square footage of the building, you will end up paying for a larger percent of the building than you actually occupy.

One final note on real estate tax escalations. It is generally assumed that real estate taxes will go up. However, landlords often fight tax assessments, and sometimes real estate taxes go down. Make sure that the same way you pay for your proportionate share of tax increases, the landlord pays you for your proportionate share of tax rebates.

Stay tuned for my next post, Additional Rent!? Post #3 - Operating Expenses

Additional Rent!? Post #1 - Electricity

2008-04-20T15:20:00.007-04:00

The picture to the left is the cover of a real estate brochure from the former NY firm, Cross & Brown. Rosanne DeBernardo in my office used to work for Cross & Brown (before they were acquired and amalgamated into what is now CBRE) and she was kind enough to share some momentos of her past. I think this picture is pretty funny, and it really shows us how far we've come.

And now, without further ado . . . by request of John Lench - Grubb & Ellis broker extraordinaire in Tyson's Corner, VA and former NYC real estate broker, today I am touching on "Additional Rent." I imagine that this topic will take multiple posts, because it certainly is not simple, particularly in NYC.

To get started, it's important that one understands the basic principles of an office lease. There are two basic types of office lease, the triple net lease, and the gross lease.

In a triple net lease, the tenant pays for all of the expenses of the building, including maintenance, taxes, operating expenses, etc.

In a gross lease, the tenant pays only for the rent of their space, and the landlord is responsible for everything else.

Now, I have grossly oversimplified this, so if you want more information on the variations of these leases, do a Google search.

In Manhattan, we generally use what is called a "modified gross lease." In actuality, it more closely resembles a net lease, but that's besides the point.

In a "Modified Gross Lease" the tenant is responsible for paying base rent, electricity, and the tenant's proportionate share of any increases in operating expenses and taxes. What's important to note about this type of lease, is that landlords love to use these increases as a way to make more money, so it's critical that you understand how the increases work in order to protect yourself from overpaying. These increases are generally labeled in the lease as "Additional Rent."

Let's start with electricity - There are three ways that electricity is billed.

1) Direct Meter - In this case, you have a meter straight from the local utility, and you pay the utility directly for amount of electricity you use. This is generally the most favorable way to be billed for electricity, but it is becoming less and less common. Direct meters are often found on full floors of small office buildings.

2) Sub-meter - In this case, the landlord buys the electricity in bulk (at a discount) from the local utility. He/she then installs individual electric meters on the circuits going to each tenant. Tenants are billed for their actual use, and the rate at which they are charged is based on a markup of what the landlord pays. The landlord tacks on this markup to account for the cost of the administration of the sub meter and to make an extra buck. The typical markup is somewhere between 10-17%.

3) Rent Inclusion* - This is the third, final and least desirable way to pay for electricity. The landlord charges you a set amount of money per sf per year. This charge has absolutely nothing to do with how much electricity you actually use. Rent inclusion is most commonly applied to small tenants in large buildings. There is an expense for landlords to install a sub-meter for a tenant and in the case of small tenants they generally are not inclined to do so. Also, small tenants have much less leverage in negotiating with a landlord, and this is a great way for them to make additional money. The standard charge per sf for electric is generally between $2.75 and $3.50.

* A note on Rent Inclusion - Many leases make the rent inclusion "subject to survey." Most unrepresented, or poorly represented tenants simply overlook this clause. This means, that at any time, the landlord can send a company into your space to survey the amount of electricity you are actually using. If you are using more electricity per sf than you are paying for, the landlord may increase your electric charge accordingly. This may not sound so bad if you are a standard tenant, but what if the Landlord surveys your electricity use on the hottest day of the year, when your a/c is at full blast, or during tax week if you're an accountant? Contesting this increase is tough and expensive.

So, now you know what to look out for when it comes to electricity. In my next post - tax increases!

How to Get the Dirt on a Building

2008-04-14T17:42:00.012-04:00

I was recently asked by a blog reader to shed some insight on a particular building in Manhattan. While I'm happy to do that (and I may include my findings in a future post), it got me thinking that now would be a good time to tell all of you about some of my favorite sites for researching properties. I've limited the list to sites you can access without a paying a usage fee. So, without further ado, here it goes:

The Oasis Map - http://oasisnyc.com/oasismap.htm - This site provides a wealth of information for free to the public. Just type in an address and you'll get info. on zoning, subway stops, block, lot, parks and other great stuff.

PropertyShark - http://www.propertyshark.com/ - Some of the same info. of Oasis, but also includes recent sales price, an approximation of its value, title history, code violations, permits, photographs, maps, etc. Basic use of PropertyShark is free, but to dig a little deeper you'll need a paid membership.

ACRIS - http://www.nyc.gov/html/dof/html/jump/acris.shtml - Standing for Automated City Register Information System, this is the official NYC online building register. Using this system you can lookup any legal document on record with the city for a given building dating back to 1966. Not only can you get the details for the document, but you can even print out a scanned original.

New York City Map Portal - http://gis.nyc.gov/doitt/mp/address.htm - This site is a good supplement to Oasis and PropertyShark for property mapping.

New York: A City of Neighborhoods - http://www.nyc.gov/html/dcp/html/neighbor/neigh.shtml - A complete electronic neighborhood map with boundaries for all NYC neighborhoods as defined by the city.

NYCProperty - http://nycserv.nyc.gov/nycproperty/nynav/jsp/selectbbl.jsp - Find out the tax assesment for any NYC property.

PlanNYC - http://www.plannyc.com/ - This site is a fantastic one stop shop for everything you want to know about NYC major urban planning projects.

Here are a few more that I use infrequently:

NYC Department of Buildings: Building Information System - http://a810-bisweb.nyc.gov/bisweb/bsqpm01.jsp

NYC Buildings Research Guide - http://www.columbia.edu/cu/lweb/indiv/avery/nycbuild.html

Streat Easy - http://www.streeteasy.com/

NYC Architecture - http://www.nyc-architecture.com/

Forgotten NY - http://www.forgotten-ny.com/ - If you're into NYC history, this site is incredible.

Happy clicking!

Manhattan Commercial Rents Continue to Increase Despite Increase in Available Space

2008-04-09T16:27:00.010-04:00

Last week Grubb & Ellis Research released Manhattan market trends for the month of April. I encourage you to read the full report, but here are the highlights:

1 million SF of sublease space was added to the market
- Total available sublease space surpassed 7 million SF
- Addition of sublease space lead by financial services industry
- Goldman Sachs-600K SF at 77 Water Street
- RBS-140K SF at 7 WTC
- Nomura Holdings-110K SF at 2 WFC
- iStar Financial-107K SF at 1095 AofA

Vacancy went up 40 basis points to 4.9 percent

Leasing velocity down 15% compared to 1Q 07
- Total leasing activity was 7.6 million SF
- 48% of transactions were renewals in 1Q 08

Blocks of available space 100,000 SF & greater
- 14 were added to the market during 1Q08; 26 in last six months
- 53 total blocks currently available
- At a minimum, another 20 blocks of space could be made available between now and 2010

Class A asking rents edged up $1.14 to 90.20 per sf

So, what does this mean to you? Well, these stats certainly indicate a real change in the market. Lots of sublease space is becoming available, which increases supply and as such, will lower prices.

So, now you're thinking, if increase in supply results in lower prices, why have prices gone up?

As I mentioned in a previous post, there are many factors that come into play here:

The big increase in sublet availability is entirely from large blocks of space which have impacted market availability and vacancy rates as a whole.

Virtually no deals are being made on these big blocks yet, and since most of them are new to the market, asking prices are still high.

80% of deals made are 10,000 sf or less. Demand is still very high for these small spaces, and supply is very low.

Leasing activity is way down because tenants (with good reason) are waiting until they get better deals.

Sublessors are slow to respond to a changing economy, Landlords are even slower.

Landlords have begun offering larger concession packages (free rent, work letters, tenant installation $, etc.) in place of discounting the rent.

I expect that we will see rents stabilize very soon and then ultimately come down. Stay tuned for Grubb's 1Q 2008 research report and the May report for more info.