Commercial Property — Investor Can Benefit from SAFE HARBOR® directed Retirement Funds

In most industries availability of mortgage credit leverage and operating capitol are key components to aiding in the stability and growth of a business. For the commercial property investor an IRA or other qualified retirement plan, when structured by the OUTSIDE® method, can often satisfy those key components.

When applying individual retirement monies to a commercial property investment using the OUTSIDE® method, the title to the real estate must either be in the name of the individual or that of an entity whereby the profit or loss from the commercial property flows through to the individual’s tax return. Structuring in this way allows business operations and tax benefits to the investor which would otherwise be considered prohibited transactions when invested through a Self Directed IRA by the INSIDE method.

Commercial Property Income

Income generated by commercial property rentals is credited directly to the owner of the property. Although the IRA is supporting the purchase of the commercial property, lease revenue is not funneled back into the IRA but is available to the investor to use as he wishes. Taxes, maintenance fees or structural expenses incurred by the commercial property may be paid for by non IRA monies since the investor is not limited to using IRA monies exclusively for property expenses as is required with a self directed IRA real estate program. While lease revenues may be expected to cover operating costs as well as produce income, the flow of invested IRA monies dedicated to supporting the purchase of the commercial property provides a cash flow safety net to cover monthly overhead on the commercial property during times of vacancy.

SAFE HARBOR® Directed IRA

This type of IRA investment is SAFE HARBOR® directed. What this means is that while the IRA is supporting the purchase of the commercial property the IRA itself is placed in an interest earning account where preservation of capital to insure long term support of the real estate purchase is the primary function. So, with the OUTSIDE® structure the investor owns two assets concurrently - the commercial property and the IRA. It is the projected earnings of the IRA combined with the anticipated capital appreciation of the commercial property along with lease revenues and tax advantages for the property that must collectively be considered to arrive at benefit to be gained from a commercial property investment configured within the OUTSIDE® structure. Furthermore, the diversification of the concurrent investments offers the investor a greater potential return while at the same time providing broader investment protection.

Commercial Property — Return on Investment

Let’s first examine the potential capital appreciation of the commercial property investment. Because the OUTSIDE® structure requires the investor to use leverage, the actual cash investment in the commercial property is a small percentage of the total value of the commercial property investment. Therefore the returns are measured based on what is termed the “cash-on cash” return on invested capital or investment. This method of investing leverages up the percentage of your return. For example, using gross figures for simplicity: A $100,000 property is purchased with $20,000 down, the balance is financed by a traditional mortgage. The property is then sold for a $15,000 gain. A return of $15,000 on a $20,000 investment results in a 75% return on investment, (ROI). This simplistic example does not take into consideration time held in the investment. Market conditions can vary widely in different geographic regions and historically commercial property has experienced periods of escalated appreciation, flat conditions and some periods of value adjustment. To arrive at an estimated rate of appreciation, check with your local commercial real estate experts.

Now let’s look at the IRA side of the commercial property investment. To comply with the OUTSIDE® structure the IRA must be SAFE HARBOR® directed. The SAFE HARBOR® account offers several different earnings opportunities, all with the necessary requirement of protection from loss of capital. Fixed indexed account opportunities provide unlimited upside earnings potential, however, for the purpose of comparisons in arriving at a commercial property investment decision a conservative 5% annualized return should be used.

Taxes are an important element to be considered when calculating the viability of an investment. Those investors familiar with Self Directed or Trustee Directed IRA real estate termed by Uranga & Associates, the INSIDE method, understand the approach of a tax deferred investment. In a Self Directed model all expenses related to the investment must be paid for from IRA monies and all income related to the investment must return to the IRA. Income tax at the highest rate within the investor’s income tax bracket is paid when the IRA is eventually distributed. For many investors, in today’s tax environment, approximately 40% of the value of their IRA will eventually go to the IRS. Where a commercial property investment is structured by the OUTSIDE® method in a SAFE HARBOR® directed plan, income tax liability on the IRA is satisfied at the time it is utilized for the commercial property investment by applying all allowable business and real estate tax offsets. This significant difference between the two methods is where the OUTSIDE® method can offer the investor additional savings which will equate to a higher return on investment.

The ability to lease space in your commercial property for your own business is another important factor to consider. Additionally, the SAFE HARBOR® directed OUTSIDE® method has no asset under management fees or legal requirement for independent management of the investment. The investor or investor’s business has full legal rights to undertake the property management and leasing of the IRA supported commercial property thereby reducing the operating costs of employing an independent management and leasing company.