As published in Scotsman Guide's Commercial Edition, September 2009.
In today's economy, commercial mortgage brokers stand an increased chance of working with clients who need help keeping their businesses afloat. For some clients, a sale-leaseback transaction can provide a much-needed answer.
In a typical sale-leaseback transaction, property-owners sell the real estate used in their business to an unrelated third-party investor. They then lease back the property from the investor for a long period -- usually 15 to 25 years -- with or without options for renewal. The lease type often is triple net.
If structured correctly, a sale-leaseback transaction can benefit the seller (aka, lessee) and the buyer (aka, lessor). Both parties must consider the business and tax advantages, disadvantages and potential risks involved with these transactions.
Mortgage brokers can add value to their client relationships by advising clients on the ins and outs of sale-leaseback transactions and helping clients find providers for these transactions when appropriate.
The seller's point of view
Each seller will have different incentives or objectives for pursuing a sale-leaseback transaction. These may include:
To improve the bottom line: Selling and leasing back their property allows sellers to focus on their core business mission rather than on managing real estate. They also may increase their company's value by reinvesting sale proceeds into an interest-earning asset or by using the proceeds to increase productivity; to finance dividends, stock repurchases or debt payments; or for mergers and acquisitions.
To improve the balance sheet: These transactions can allow sellers to eliminate the asset's book value and its liability on the company's balance sheet and to replace it with cash received from the sale. This can improve the company's return-on-assets, return-on-equity, debt-to-equity and asset-to-liability ratios and allow the seller to retain certain control over the property.
To enjoy the tax-deduction benefit of rent expenses: With property-ownership, only depreciation of buildings and improvements -- as well as interest expenses -- typically are deductible. When the tax benefits of renting outweigh the tax advantages of depreciation and interest-payment deduction, as well as the potential benefit of a property's residual value, mortgage financing can become unattractive.
To offset expiring net operating losses: Sellers may wish to offset expiring net operating losses.
To avoid a takeover: A prime motivator in certain takeovers may be the unrealized value of a company's real estate holdings. This is because many companies often don't have a firm idea about their real estate assets' true values.
To mitigate the risk of declining value: Sale-leaseback transactions can be an attractive exit strategy for property-owners who may not otherwise be able to sell the property readily. There is a disconnect between basic economics and real estate prices in today's economy. Unless the economy moves into a recovery mode, declining rents and increasing vacancies will continue to affect real estate values, especially for properties acquired at low capitalization rates.
Also, a real estate transaction's tax impact can vary substantially depending upon the choice of financing strategy. Sale-leasebacks often provide lower after-tax costs and greater savings than alternative forms of financing.
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