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Buying or leasing ... When is the right time?

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Daniel Adams

Buying or leasing a commercial building is a complex and significant decision tied to business and personal needs, goals, and risk tolerance. An owner/user is going to pay a mortgage (either her own or her landlord’s) either way, while an investor needs to evaluate the financial performance of real estate versus other investments.

For owner/user buildings, variables favorable to ownership include:

• Long-term stability in costs versus being exposed to rent increases;

• Property value appreciation which can serve as a second source of wealth accumulation;

• Ability to rent portions of the building as business needs change;

• Ability to deduct building depreciation, more favorable tax treatment of long-term capital gains when you sell, etc.; and

• Ability to customize the building to best fit your business needs;

Variables more favorable to leasing include:

• Subjective factors including potential obsolescence, regulatory changes, and focus on running the business without being a property manager;

• Preserving capital, deducting lease payments, and improving predictability of short-term cash flow; and

• Flexibility with property, including the ability to expand or contract as dictated by business cycles.

Buyers need to understand that the commercial real estate market cycles through expansion, contraction, recession, and recovery. Determining which part of the cycle is your entry point is crucial for short-term performance, which almost all businesses must manage through no matter how attractive the long-term outlook.

Most agree we are locally in a late recovery phase, where the supply is flat or low with increased demand, declining vacancies and cap rates, and rising rents. This is generally a great buying opportunity if 1) you can find the right property and 2) you can weather a repeat of the cycle.

Often, in a rising value market, equity gains can largely offset aggregate loan payments, but you also need to consider that, while gains are based upon projections, payments are certain. While over the long term, owning very often proves to be the most attractive option. However, businesses don’t live in just the long term….things need to work over the short-term as well.

Consult with your CPA to determine, among other things, the tax impact of depreciation and interest expenses versus lease payment deductions. Do the numbers make sense?

Work with a commercial real estate broker who can help you find the right property to buy or lease that fits with your business and personal goals in an uncertain market. Be confident that you are entering at a favorable point in the cycle, or that you can hold the property long enough if the cycle works against you. Does the property make sense?

And speak with your Wells Fargo business banker about the many financing options that can help your business grow. Whether the need is commercial real estate financing (including a market-leading 25-year fully amortizing SBA loan), equipment financing, or working capital, we are here to satisfy all your financial needs and help you succeed financially.

Written by Daniel Adams, business banking area manager for Wells Fargo Bank.

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