An Exit Strategy That Defers Tax Liability and Increases Cash Flow
by Anne Baber, Investment Real Estate Broker

And this too, dear, shall pass¦.(Dollie Riviere, my Grandmother)

The National Economy
The US economy ended last year on firmer footing with modestly stronger growth;
however, output fell short of what analysts expected. The gross domestic product rose at
a 2.8% annual rate in the fourth quarter, but failed to reach the 3% rate that was projected
by many analysts. The number is a sobering reminder that this is the worst post-recession
recovery in the history of this nation.
On a positive note, the data from the jobs market continues to demonstrate that the
employment situation is slowly improving. It is becoming apparent that companies are
slowing down in their workforce reductions, with some exceptions (American Air Lines
set to lay off 13,000 employees). The jobs situation is becoming a bit more hopeful and
is heading in the right direction, i.e., the unemployment rate fell to 8.3% in January, 2012
from 9.1% in January, 2011. However, job growth, while improving, is far from robust
and the housing market remains depressed. Combine all of that with political grid lock in
Washington and you have a frustratingly slow recovery. The recession may be
technically over, but by most accounts the road to recovery will be painfully slow and
there will be more hurdles and challenges to work through. And this too dear shall
pass¦.

The California Economy
The California unemployment rate (the third highest rate in the nation) has dropped from
12.5% in December, 2010 to 11.1% in December, 2011. The UCLA Anderson forecast
for California calls for the recent surge in employment to abate while slow growth
persists on average through 2012. The unemployment rate is expected to hover around
11.6% through 2012. The rest of the United States, the state’s international trading
partners and consumer purchases will combine to generate faster growth in 2013. And
this, too, dear shall pass¦.

The National Apartment Market
One bright spot in our economy is that the nation’s apartment rentals are once again
expected to be the best-performing commercial sector. For the second year in a row,
absorption of existing units is far outpacing completions of new units. As a result,
vacancies continue to drop and rental rates continue to rise. Vacancy rates peaked in early
2010 at 8% and have since dropped to a healthy 5.4% in 2011. The vacancy rates for
2012 and 2013 are projected to be 4.6% and 4.5%, respectively. The median rental rate
of $1,066 per unit is expected to increase 3.5% in 2012 and 3.8 % in 2013.
The outlook for the multi-family market seems quite positive, as tenant demand appears
likely to continue driven by the unbundling of households that doubled up, continued
weakness in the for-sale housing market, and the huge Echo Boomer generation just
entering their peak renter-household-formation years of their 20s and 30s. Also, overall
new construction activity remains very restrained.

The Los Angeles County Multi-Family Market
Locally, the multi-family market continues to improve and is headed in the right
direction. The bottom of the market was during the middle of 2009, as clearly illustrated
in the Trend Report below. Since that time, the number of transactions has trended
higher and the dollar volume of those transactions has steadily increased (note the second
half of 2011). Since the first half of 2010, the cap rates have trended downward and the
Gross Rent Multipliers (GRM) initially increased dramatically and then leveled off (see
chart below).

The multi-family market recovery is “top-down”, i.e., there is a market divergence
between the quality of assets. The market has firmed up for class “A” and “B+” larger
assets in better markets. The cap rates are decreasing and real prices (cost per unit) have
increased. However, class “C” and smaller assets cap rates are still flat to deteriorating,
especially in tertiary markets. As anticipated, the demand for Class “B” assets has
increased and will continue to do so for the near future.

Co-Owned Investments Post-Recession
Co-Owned properties include Tenant-in-Common (TIC’s) and Delaware Statutory Trusts
(DST’s). While no sector of the Real Estate industry is recession proof, the Co-Owned
properties (under SEC regulations) appears to have weathered the storm better than
expected. This is due in part to the historically low loan to value ratio (LTV) of 50%-
60%, the transparent/comprehensive due diligence performed by both Sponsors and
Lenders prior to purchase, experienced professional management, and the institutional
quality of the properties. However, some asset types are fairing better than others – i.e.,
multi-family and single tenant properties.
As mentioned previously, the multi-family sector has been far more resilient and in far
better shape in terms of fundamentals than any other asset type – particularly office and
retail and even industrial. The financing options are more favorable for multi-family
properties than most other sectors in commercial real estate. That is because the industry
is buoyed by Fannie Mae and Freddie Mac, which provide liquidity to the housing
market. The apartment sector has always been viewed by lenders as having less risk than
commercial retail or office properties.
While there are fewer Co-Owned offerings on market than in past years, they are perhaps
more attractive with respect to their financials; higher CAP rates and cash flow (average
6.5% to 7%). Also, because of the current lending environment, the properties are
scrutinized closer than in previous years and the underwriting requirements have
tightened. In addition, the LTV ratios are lower than previous years at a ratio of 50%-
55%.

Using the 1031 Exchange and Co-Owned Properties as a Retirement Vehicle
The good news is that while the market has turned downward, historically, the multifamily
market values are still relatively high while interest rates remain at a fifty year
low. And yes, there is financing available for multi-family properties. The process takes
longer and the buyers must have good credit and financial strength. If you are looking
towards retirement, it is still an excellent time to sell, take advantage of the 1031
Exchange into Co-Owned Investments and position yourself for the next up-leg of the
real estate cycle.
While the real estate market is cyclical, we are not in lockstep nationally and market
fluctuations give us opportunities in various geographical areas that are better poised for
growth. Some areas that have held with respect to multi-family are Texas, the Carolinas,
Colorado and the Mid-Atlantic region to name a few.
Many economist and lenders believe that multi-family is well positioned for an early
recovery ahead of other real estate sectors. A significant portion of U.S. households will
return to multi-family housing as renters due to stricter mortgage loan requirements and
the decreasing availability of consumer mortgage financing. In addition, increasing
demand for rental housing will come from the 5,000,000 Echo Boomers entering the
largest demographic of 18-24 year-olds in the US history. Another factor is that newly
built apartment supply has dropped to an annual rate of less than 1% of existing inventory
between 2005 and 2007 and will probably remain at the same rate for the next several
years. All of these factors imply that select segments of the US multi-family market are
poised to capitalize on surging demand combined with very restrained new construction
ensuring that multi-family properties will be dramatically more valuable in 2015 than
2012!

Advantages of Co-Owned Properties
¢ Flexible size to match your needs
¢ Pre-arranged financing
¢ No management hassles
¢ Potential increased after tax cash flow
¢ Economics of scale
¢ Can be identified and closed in a timely manner
¢ Investment can be diversified into more than one property and/or location

As a Co-Owner, one can reduce management responsibility, defer capital gains taxes,
increase both cash flow and tax deductions, increase appreciation potential, have more
safeguards with triple net, high-credit tenants and maintain direct ownership. The option
of partial ownership gives buyers the opportunity to diversify their real estate holdings by
purchasing interests in multiple properties and various geographical locations. Co-
Ownership can get you more while you do less. Accordingly, this arrangement can solve
several problems for owners looking to make their lives less complicated.
Anne Baber is a real estate broker with the Apartment Owners Association, Commercial
Brokerage Division and has over 20 years experience in apartment house brokerage.
She can be reached at (818) 235-1135 or anne@aoausa.com.

Free Capital Gains Tax Planning
Seminar & Deli Luncheon
Hosted by Anne Baber of AOA Commercial Brokerage
(Principals only please; no real estate agents)

You Will Discover:
¢ How to Use the 1031 as a Retirement Vehicle
¢ A Proven Safety Net Mechanism for 1031 Exchanges
¢ The Intricacies of How IRS Code Section 1031 Works
¢ The Advantages of Co-Owned Properties (TIC & DST) Investments
¢ An Easy Way to Get More Income While Doing Less Management

CALL TODAY AND RESERVE YOUR SEAT ( Seating is Limited)!

¢ Long Beach: Tuesday, March 27th
¢ Pasadena: Tuesday, April 3rd
¢ Torrance: Tuesday, April 10th
¢ Culver City: Thursday, April 19th
¢ Van Nuys: Thursday, May 3rd
¢ Newport Beach: Tuesday, May 8th

(Principals only please; no real estate agents)
Seminars will be held from 12:00 p.m. to 2:00 p.m.
Registration will begin at 11:30 a.m.
For reservations and further information please call Sarah Rojas at AOA Commercial
Brokerage (818) 235-1127 or email sarah.rojas@aoausa.com.
Anne Baber is a real estate broker with the Apartment Owners Association, Commercial
Brokerage Division and has 20+ years experience in apartment house brokerage. She
can be reached at (818) 235-1135 / anne@aoausa.com.

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