Think Before You Invest
There are many things to consider before investing in commercial real estate. Realizing that every deal is different and each investor has his/her own perspective, I will share what I have learned from working on 100+ investment deals to help you achieve the best possible outcome with the least pain.
Here are some initial questions to ask yourself:
- Are you looking for a short-term or long-term investment?
- Will you be purchasing the property as an individual or within an entity?
- By organizing an entity to hold your investment, your plan for the future can be formalized while also reducing the exposure of your personal assets to risk.
- How will the investment be funded? Are partners going to put money in, so they have some skin in the game?
- Who will put the deal together/draw up the partnership agreement? Do they have real estate experience?
- Who will manage the property?
- How will it affect your taxes?
- Do you want the asset to be outside of your estate or part of it?
- And most importantly, are you comfortable it is a sound investment?
The answers to these questions will drive the success of your transaction, with immediate and future consequences, especially the tax liability. By default, people tend to struggle with problems after the fact, wishing they would have thought things through at the front end and sought guidance, if needed.
Tried and True Advice for Commercial Real Estate Investing
My advice is pretty simple and straightforward:
- Think about your wants and needs, and then plan your investment strategy accordingly.
- Avoid rushing to make a decision; it is well worth the time to fully investigate a property from a tax standpoint, as well as the overall investment pros and cons.
- Consider if forming an LLC or partnership works for you. It is easier to add investors later without having to create something new.
- Examine all line items of the partnership agreement carefully to eliminate any unexpected tax impact.
- Make sure the agreement provides for your necessary cash flow.
- Get to know your potential partners and be aware of their expectations and needs, which could also impact real estate taxation.
- Retain someone with the proper expertise to put your deal together.
- Hire a trusted person/management company to operate the property once purchased.
- Continue to look at why you are holding the investment and be prepared to exit the investment when it no longer serves your purpose.
- Keep an eye out for possibilities to move up into larger real estate investments.
- When selling real estate, be familiar with the “like kind exchange” procedure, if interested (refer to the tax code, Section 1031). This detailed process allows a certain timeframe to identify and reinvest profits in your next property without incurring taxes—an “accommodator,” or middleman from the banking industry, is required so that you don’t take actual possession of any cash.
Planning Ahead is the Key
The main thing is planning! Real estate investors are usually anxious to get into the market. However, it pays to put time and effort into planning. It is critical to understand what you are getting into, what you expect to get out of it, and whether or not it suits your financial situation. While this may not seem like the most efficient approach, it will save you money and aggravation in the long run.
Finally, keep in mind that a real estate investment may not be as liquid as stock and bonds (i.e. you can’t sell it tomorrow), but there is an opportunity for it to be a better investment, as it physically appreciates in value. Even the cost of constructing a building appreciates with inflation (think about what it would cost to build five years from now).
Weinstein Spira tax consultants are available to help you analyze the impacts of your partnership agreement, making sure it is written in accordance with your expectations and investment strategy and to look at ways to decrease taxation on the real estate investment (to avoid paying tax on depreciation, and other tax savings).