Tips for Analyzing Real Estate Investments

Every day you own your property you are making a real estate investment decision about it. Call it the "hold and do nothing" alternative.

Before thinking about disposing of a real estate investment you should consider how it might perform if you just keep it. The process starts with establishing what you have invested in the property.

Armed with a realistic estimate of what your cash proceeds of a sale would be after taxes, you can quantify the return you might expect if you keep the property instead.

Do the same kinds of projections that you would undertake when you study a property you are thinking of buying.

What will be the income from the property from year to year? What factors will af­fect your projections? If you own apartments, do you think rents will continue to increase because vacancy rates are still low and the value of your property and others like it is below replacement cost?

Or, do you think population is going to slide, apartment demand will decline, and so will rents?

If you own an office building, strip mall or other commercial property, what is your prognosis for the price at which leases will renew? Will there be a turnover of ten­ants? How long will it take to replace them? Can you expect to replace them at rates com­parable to the leases now in place?

If the property is raw land it has had no income, unless it is a parking lot down­town or has some other non-permanent income stream. A projection might include any means that comes to mind for generating an income that offsets holding costs.

The next ingredient after looking at income is operating expense. These are not regular and easily predictable if the owner has deferred a substantial amount of mainte­nance. What might have been maintenance chargeable as an expense may have now be­come a cost that you must capitalize.

Another wild card is utility costs. Can we continue to count on relatively inexpen­sive energy sources to keep heat and electric expenses in line? What is your prognosis for government-controlled water and sewer rates? Do you come to the same projections for future property tax rates?

Management expense merits review, too. Should the owner manage this property? Should there be a resident manager on a salary? Would a professional property manage­ment firm offer efficiencies?

Debt service usually is a regular and continuing expense. This review might sug­gest a conversation with the banker about refinancing or restructuring the debt.

Finally, at what price do you expect to dispose of the property? When? And how? Cash sale? Installment sale? Tax-deferred exchange? Through your estate? By a charitable remainder trust?

Taking into account the tax implications of each disposition, which nets the highest proceeds?

All these numbers leave you with a relatively simple financial calculation that gives the yield on the dollars now invested in the property. To start with, you have after-tax cash you might otherwise free up if you sold it. Over the years, the property produces varying amounts of income, after tax. When you dispose of the property, you get after tax proceeds, either all at once or over a future course of years.

You express that yield as a percentage of your current investment. This is the number you use to compare with your alternatives if you decide to dispose of the property now.