erty before the higher rate takes effect. Or, they might be that
much more compelled to do a 1031 exchange when they do
sell their asset in order to avoid paying the new tax rate.
While a decision to sell—as part of a 1031 exchange or
not—depends on other motivating factors, tax implications
are clearly one important driver. “We’ll see this play out in
2009,” says Stan Johnson Co.’s Hedrick. If the capital gains
tax rate does go up, he adds, “the tax implications will be
greater, and that will drive 1031 exchanges.”
Walter doesn’t expect President Obama to make any drastic changes to current capital gains tax. “An increase in capital gains may spur more exchange activity, though it’s not
necessarily a positive” overall, he says.
Politics and taxes aside, certain trends in net-leased property
sales became apparent in 2008, and it’s likely they will continue
through at least the first half of this year. Hedrick, for one,
observes that smaller deals are moving more readily.
“At the beginning of 2008, the average deal size was $5
million and below,” he says. “As the year progressed we’ve
seen it move to $3 million and under. That’s a function of
the capital markets.” When financing does become more
readily available, he notes, the market will likely see the average deal size go up.
There’s also been a significant flight to quality that shows no
signs of letting up. The single biggest issue for buyers today, says
Walter, is tenant credit. “People are evaluating credits, wanting
to make sure they’re making the right decision,” he says.
Properties are “either fully leased or fully vacant.”
Along that vein, there’s a preference for longer remaining
lease terms and strong, primary geographic market locations
as well, brokers say. For its syndication deals, Grubb & Ellis has
been increasingly focusing on conservative product, says
Hanson. Examples from the latter half of 2008 include TIC
deals for a 109,000-square-foot sorting and distribution center
“At the beginning of 2008, the
average deal size was $5 million
and below. As the year
progressed, we’ve seen it move to
$3 million and under.”
STAN JOHNSON CO.
in Costa Mesa, CA fully leased to Federal Express Corp. and a
151,000-square-foot office building in Houston’s Westchase
submarket that is triple-net leased to Jacobs Engineering
In addition, this year Grubb & Ellis Realty Investors plans
to launch a Delaware Statutory Trust program that will focus
on “single assets or portfolios of assets that are single-tenant,
triple-net, investment-grade credit only” and with a minimum of 12 to 15 years remaining on primary lease terms,
Hanson reports. “Utilizing DSTs with that type of investment
optimizes debt and, in essence, the stability of the investment,” he says.
The DST structure, another form of co-ownership of properties that can be used in conjunction with 1031 exchanges, is
expected to gain more popularity for a number of reasons.
For instance, it can be easier to get financing compared to
the TIC structure, it often has lower closing costs than TICs
and it can accommodate more investors and lower investment minimums than TIC deals do.
And while a handful of investment sponsors have used the
DST structure for a number of years, even more are entering
the market, specifically with an eye on using the structure
with single-tenant properties. Irvine, CA-based Thompson
National Properties LLC announced a DST program that will
focus on single-tenant assets as well as multifamily communities, and will often combine multiple properties in single
“If credit loosens up, the amount
of TIC equity raised could be $1
billion or more.”
OMNI BROKERAGE INC.
offerings. And American Realty Capital Exchange LLC, an
affiliate of New York City-headquartered American Realty
Capital Trust Inc., has been formed to sponsor multiple-property portfolios comprised of single-tenant assets with
the DST structure.
Meanwhile, as a result of the flight to quality in the net
lease market, certain assets will inevitably be hard sells in
2009, say brokers. With plenty of stronger options for buyers
to choose from, below-investment-grade credits will be difficult to dispose of, says Hedrick, as will shorter term leases.
These transactions are being pushed to the sidelines because
“you can get better deals,” he says.
Faris Lee’s Walter forecasts that in the retail sector, saying
independent-operator restaurants, sit-down dining establishments and, even for decent credits, properties in tertiary
markets will not move easily.
On the bright side, for those with capital to invest, “It’s going
to be the best buying opportunity in a generation. It’s not about
the exchange, but about buying intrinsic value,” says Haddigan.
And perhaps it is that very notion of a return to a focus on
intrinsic value and fundamentals—rather than cheap and
easy debt or even the prospect of having to send a larger
check to the IRS—that will ultimately bring back some volume to the real estate markets targeted by the 1031-exchange
Relative to the heightened transaction volume of recent
years, 2009’s deal flow may seem paltry. But considered
another way, it could signal a return to normalcy. “It’s going
to be an interesting year,” Hedrick concludes. “Things will go
back to historical averages, not historical lows. Exactly when
that occurs remains to be seen. But once the capital markets
loosen up and the ability to finance properties increases,
you’ll start to see the normalization begin.”
“The 1031 market is still there,” adds Walter, even if it will
be choppy and opportunistic in the months to come. “Volume
is clearly down. I see us leveling, but we’re doing a lot more
Contributing editor Michelle Napoli is editor of Incisive Media’s TIC Monthly
newsletter. For more information, go to www.REMnewsletters.com.
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