Credit Tenant Property: Like Corporate Bonds

Attributes of credit tenant lease property make this asset effective as a long-term investment and in the implementation of tax managed investment strategies. Providing secure, management-free cash flow with exceptional liquidity and high leveragability, credit tenant property presents unique advantages, performing like corporate bonds while preserving the benefits that real property offers.

Unique, Advantageous Financing Because of the guarantee of an investment grade corporate tenant, credit tenant lease financing may significantly exceed that of traditional real estate. Non-recourse financing may be arranged with a 1.0 debt coverage ratio, allowing for financing in the 85-94% loan-to-value range.

Secure Return Income from an investment grade corporate tenant over the length of a multi-year lease offers returns with reliability comparable to those of corporate bonds. Credit tenant leases are usually contracted for 10-20 years. Longer terms eliminate concern about tenant turnover normally associated with real estate ownership.

Zero Management With credit tenant property, management responsibility and operating expenses, including roof and structure, are usually assigned entirely to the tenant.

Near-Zero Volatility Because the key value determinant of credit tenant property is the long-term corporate guarantee, this asset does not experience the cycles that affect other real estate markets. Long-term, highly leverage financing removes interest rate risk and minimizes pricing volatility. Circumstances which affect traditional real estate, such as changes to surrounding property, local politics and market swings, have little impact on credit tenant property values.

Credit-Based Analysis Because credit tenant property rental income relies on the long-term lease obligation of a corporation, it may be efficiently analyzed on the basis of the tenant’s credit, rather on the physical and geographical attributes of the property itself. Tenants have typically been rated by Standard & Poor’s, and the owner’s investment returns correlate directly with the strength of the rating. Investment portfolios are efficiently adjusted for credit duration and diversification to reflect the investor’s risk appetite.

Returns Exceeding Equivalent Credit Bonds Yields typically exceed those of equivalent credit corporate bonds. Additionally, credit tenant property likely offers capital appreciation.

Liquidity The long-term corporate guarantee of rental income and expense coverage, combined with the credit tenant-based financing, enable this asset to be traded with liquidity exceptional for real property.

For owners of properties in foreclosure, the greatest problem they face is often not the loss of the property, but the tax generated. The discharge of debt on foreclosed property above and beyond the owner’s basis in the property is considered capital gain since a foreclosure is deemed by the IRS to be a sale.

In the transfer of an asset back to the lender where no cash proceeds are generated for the owner, the added pain of capital gains tax can deal a crippling blow. The owner without cash flow enough to cover a mortgage must now come up with cash to pay the IRS.

Distressed TIC investors face special challenges. They bought in seeking passive real estate ownership, often after exchanging out of more actively managed property. Some investors sought safe diversification into real estate from traditional equity investment.

Yet the fallen market leaves many investors with little to no equity. Once reliable tenants are destabilized by the economic downturn. Those who sought safe, passive investments in TICs find no secondary market for TIC interests and no clean exit options.

Owners of TIC interests are finding their assets underwater. Those who traded into TIC interests in order to defer capital gains tax from prior dispositions, reencounter their tax problem as the return of their underlying replacement properties to the lender triggers the recognition of a capital gain and will incur a resulting tax.

The Advisory Group at Net Lease Capital has developed the best solutions available to distressed TIC owners. Integrated transactions including structured exchange, high leverage (available in certain arenas) and tailored debt can be used to extricate the TIC owner for an equity investment of as little as 8% without tax consequence (versus paying capital gains tax of around 15-40% on the gain), saving as much as 66% of the tax burden otherwise faced.

The taxpayer ends with a quality passive investment in a bond like property occupied by an investment grade corporate tenant on a long-term, absolute triple net lease – rather than paying twice the cash or more to the IRS. Additional structures are available to further enhance the outcomes for taxpayers faced with losing property.

Example:

Investor Alternatives

Integrated transactions from the Advisory Group incorporate highly leveraged net lease property and structured debt to help the tax payer manage passive income and defer capital gains indefinitely, or with proper estate planning, eliminate its recognition entirely.