Self-storage has been and should continue to be a wonderful cash-flow investment. After all, that’s exactly what the business was founded upon: a pure investment real estate that provides steady income.
Economic expansion over the past 10 years produced a doubling in the size of the self-storage industry due to strong consumer spending, attractive interest rate, and generous, available financing. What resulted was not just cash flow but property-value appreciation, something that was not necessarily an initial goal, but a nice surprise.
The business is comprised largely of individual owners who took a chance on a new venture in hopes of reaching their financial goals. But few thought about how they’ll exit the business—and on what terms. Just as starting a successful business requires planning, hard work and a little luck, so does leaving it. Here are some common methods self-storage owners can use when the day comes.
Estate Planning
Estate planning should involve your attorney and accountant and can range from simple to complex depending on the size of your balance sheet. In any case, wills, trusts, life insurance and family partnerships should be a part of your plan to distribute assets, reduce your tax liabilities and provide for a succession plan.
The succession plan should cover a multitude of life occurrences, such as what happens upon your death, disability, divorce, retirement or partnership split. This should include how the property is passed to your heirs, how it will be valued, and how it will be managed.
Buy/Sell Agreements
All partnership arrangements should contain buy/sell agreements. At the outset of a partnership, these agreements are crucial to a successful investment experience with others. They should address partners’ rights, capital contributions, distributions of profit and losses, management, transfers of interest, withdrawal of partners, valuation, and dissolution.
The key is to understand how the business is valued and have this done annually. This way you always know what your investment is worth and can manage this asset like you would your other investments, annually re-evaluating your goals, progress and time horizon.
Tax Planning
Knowing the value of your facility annually will help you minimize your tax liabilities. Along with an understanding of the political landscape and your best guess on the direction and timing of future tax legislation, you can plan strategically to pass on your investment to others or sell the whole asset.
Given the economic recession, the shallow recovery expected, and the budget deficits at all levels of government, you can be sure that anything and everything that can possibly be taxed will be under consideration.
The long-term capital-gains tax rate of 15 percent is at its historically lowest level. When you combine this with capitalization rates on self-storage of between 8 percent and 10 percent, self-storage has still maintained good historic valuation. If you can receive several years of cash flow today in the form of long-term gains, which are taxed at 15 percent vs. the same cash flow at higher ordinary income-tax rates, then selling may be your best option.
Sale/Disposition
If you’ve done your estate and tax planning and come to the conclusion that it’s time to sell your facility, then it’s time to prepare for the sale. For a moment, pretend you’re the buyer. When you drive onto the property, is the landscaping maintained? Is the pavement in need of repair? Do the roofs leak? Do any of the buildings or doors need paint?
During your ownership of the property, did you take out all the cash, or did you reinvest some proceeds so it shows well and a buyer can come in and run things without having to put time and money into deferred maintenance? Like the old Purolater commercial goes, “You can pay me now or pay me later.” In this case, a few dollars to shine up the place should garner you a higher sales price.
In addition, have your financials in order. Orderly statements by month, preferably in an accounting system such as QuickBooks, plus operational reports from your self-storage software will improve your chances of a smooth sale. Most buyers want to see 12 to 24 months of income statements so they can see the cash flow and look for trends. Having this critical information at the ready gives you tremendous credibility as an engaged owner.
Prepare all the due-diligence items buyers may want to review immediately after you sign a sales contract. This includes two years of financial statements, rent rolls, delinquency reports, occupancy reports, property-tax bills and utility bills. Other items include site plans, approvals and permits, insurance policies, title reports, environmental reports, a sample lease, service contracts, and loan documents if the buyer is assuming the loan. Marketing the facility with an attractively structured assumable loan or seller financing never hurts, especially today.
The typical length of time to sell a facility is roughly six months. This time frame can be extended if the property is in an inferior location to competition, deferred-maintenance items are extensive, or buyers cannot obtain financing. The primary reason is over pricing of the facility.
To prevent over pricing, work with an experienced broker who specializes in self-storage. A broker can provide you with a valuation of what the property will bring in the market. The facility should be priced at what is commonly called, “the high end of reasonable.” Overall values are not at the market peak today. However, they’re closer to their highs than historic averages, let alone market bottoms.
The biggest threat to completing a sale is pricing the facility to yield investment returns for buyers that make no sense. You can usually get a buyer to look at the property once, but getting him to revisit can be a challenge. Buyers tend to believe a seller is not “real.” Once a seller understands the returns a buyer is receiving, he’ll have confidence that the price he should ask makes sense for both parties.
We are in unusual times and, as is typical with real estate, the value of your facility depends on many unique items specific to your property such as location, competition, condition, financing and pricing. Hopefully, you planned early for the day you’ll leave your business. If not, plan now. Assemble your team of advisors. Know what your facility is worth. Have realistic expectations. Understand how this asset fits into your bigger plan and timeline, and monitor your plan regularly.
John E. Barry is the vice president of brokerage for Investment Real Estate LLC, which provides brokerage, management and construction services as well as feasibility studies for self-storage owners in the northeast and mid-Atlantic States. To reach him, call 717.779.0804; visit www.irellc.com.
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