The Client's Story
This Wyoming resident was an existing client of Top Hand and a sophisticated real estate investor. In our first transaction together, he had purchased a Social Security Administration (SSA) building in Indiana, using the 1031 exchange after selling a ranch. Now, using available cash, he wanted to build a diversified portfolio of commercial real estate investments.
Rolling Up Our Sleeves
We began surveying the market to identify properties that would individually meet his investment goals, and together would form a portfolio diversified by property type and geography. To locate properties, we reviewed listings around the country and reached out to our network of private developers and commercial brokers for off-market properties. When we found an appealing property, we would conduct an initial assessment and then present it to our client, highlighting its strengths and weaknesses.
After reviewing multiple properties, he became interested in a brand new ground lease property provided to us by an Iowa commercial broker we know. Cheddar’s, a casual dining restaurant chain founded in 1979 and now having more than 150 locations across the country, was in the process of constructing a new, first-class restaurant building in a major Iowa market. The 8,000-square-foot restaurant was due to open soon, and this property was not on the open market yet. We quickly tied it up with a non-binding letter of intent.
Cheddar’s is known for constructing top-notch buildings with quality design, materials and attention to detail. This was a beautiful building built with stone, brick and copper. The location was strong, sited on a major commercial corridor and just off a freeway interchange. Surrounded by national retailers, the large 2-acre parcel offered exceptional visibility, access and a tremendous amount of parking with more than 150 spaces.
We dove into our due diligence, examining the lease documents, property survey, title commitment and the covenants, conditions and restrictions (CCRs) governing the property. We vetted the tenant, examining its ability to fulfill the lease terms. We researched the local market demographics. Throughout it all, we reviewed our findings with our client and his attorney.
As a ground lease, our client would be purchasing only the land. Cheddar’s would own the building upon that land, and pay monthly rent to lease the land. Throughout the lease term, Cheddar’s would be responsible for all costs and management responsibilities associated with the property – this is known as a “triple-net” or “NNN” lease. At the end of the lease – or earlier, in the unlikely event that Cheddar’s defaulted on the lease – ownership of the building would transfer to our client, at no cost to him. This provided significant additional security, as the cost of the new building was expected to total nearly $2 million.
As the final step in our due diligence, we conducted a site visit with our client, exploring the surrounding area, seeing the property itself and dining at the now-open restaurant. Our client was pleased with what he saw, and closed on the purchase of this property.
Our client may expect steady income from this property throughout its 10-year primary term and up to 20 years of renewals – and if, for whatever reason, that doesn’t occur he will receive ownership of the $2 million building at no additional cost. In any case, he will receive ownership of the building upon the lease’s expiration in 30 years. When this occurs, he should expect to invest in updates and/or changes to the building to suit a new tenant – but that new tenant will be paying to lease both the building and land, which may significantly increase our client’s income and investment return.
This Cheddar’s ground lease is a nice complement to the SSA land and building he had purchased previously, and will provide him with an additional $115,000 of annual income. He now owns two commercial properties, differentiated by type and location, and has begun the process of building a strong, diversified portfolio of commercial properties.
We've provided this information for general educational purposes. It is not intended as specific tax or legal advice. Please consult a professional for specific advice regarding your particular situation.
© 2016 Jack Sauther & Diana Sauther