Should You Consider Owning Commercial Space and Leasing it to Your Business?

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Firms looking for office or retail space in New York find that the majority of opportunities are available onlyfor lease and not for purchase. But for entrepreneurs and other private business owners who have the ability to purchase (and finance) the acquisition of real estate to lease to the businesses they own, the hunt for relatively uncommon commercial purchase opportunities may be worth the extra effort and due diligence. The most important location criteria for selecting any office or store must be accessibility to talent and visibility to targeted customers. No matter how attractive a commercial purchase opportunity may appear, any location that potentially hinders a firm’s prospects should generally countermand the benefits and opportunities presented by property ownership. Leasing space also typically provides much more flexibility (and liquidity) if a company is growing, unless a purchased building or condominium provides surplus space into which the business may grow.

There are very clear potential investment, tax and business expense advantages for a company’s principals by owning the real estate that can be leased to the firm owned by these same principals.

  • If the supply of the type of real estate acquired is constrained, there is strong likelihood its value will increases over time. For example, commercially zoned townhouses in New York are not common but desirable and generally no new inventory of this product type is added to the market. If the property does increase in value and is eventually sold as a part of a 1031 tax deferred exchange, the equity can be moved to another property by the seller with no immediate tax liability on the capital gain.
  • If a business owner acquires real estate through a Limited Liability Corporation (LLC) structure and the company (also typically structured as an LLC ) pays rent to the LLC to occupy the space (a lease backarrangement), the company can deduct the rent as a normal business expense and the property owner can offset the rental income with interest payments, operational expenses and depreciation.
  • Since the company owner is also the building landlord, the lease rent can be stabilized. In contrast, if a business rents from a third party landlord, it will likely face base rent increases and tax and operating expense escalations over the course of the lease term. This can be very critical in a tight real estate market prone to rent spikes. This explains why a bar such as The Brass Monkey  has been able to maintain its unpretentious but successful niche as rents in its Meatpacking surroundings have spiked – the bar’s principals also own their building!

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