I purchased a small commercial office ($1000/sq ft) in the Trenton, NJ area to run my small business back in August '08. Due to the economy and other reasons, I was forced down to close in early March '09. I am debating if I should sell my property at a loss and move forward. I am hoping you can provide some insight.
I purchased the property at $150,000 and put in $21,000 in improvements. My accountant already reported the $21,000 as a loss in my prior year's tax return. My mortgage is $1,390/mo + taxes ($4,000/yr). Real estate agent charges 7% commissions and the pre-pay penalty for the mortage is 3% of the remaining balance. I put 20% down for the mortgage ($30,000) and the current remaining balance due without penalties is approx. $111,000. All in all, total annual expenses are more than $20,000.
If I were to sell the property at say $140,000, and assuming a tax bracket of 27-30% or so, how much could I potentially pocket after reporting the losses in my 2009 tax return?
Real estate in this area does not appreciate well, so I don't foresee this condo being priced at a value much higher than perhaps $155,000 or so, even in a good economy. According to my calculations since this condo was built back in 1985, the annual appreciation rate has been only 1.5%.
I am hoping you can advise me if it's best to hold and wait and stomach the pain until the commercial real estate market recovers (which most specialists say it will take a long time) or sell it at a loss before the year is over?
Thanks so much in advance!
Alex
ANSWER: In simple terms, if you sell for $140K, less the costs to sell (commissions/costs), and less the loan balance, you might hope to net around $15K (note that you may be able to convince the lender to waive or reduce the prepayment penalty if you present a hardship case to them). Of course, this would actually represent a loss given your higher purchase price. After-tax considerations will help offset the pain, but I usually advise against looking at such elements since tax savings is relatively minor and generally given too much weight when analyzing this sort of thing.
The decision whether to sell or not largely depends on your overall financial situation, the characteristics of the property, etc. Have you considered renting the property to another business? That may be your best option, since your holding costs seem relatively low. Even if you could break even on a rental basis (and receive some of the same tax benefits in doing so), that may be an option to consider.
Otherwise, cutting your losses may make sense, if you're not willing to absorb the negative cash flow, and if you can't make use of the resulting tax "benefits".
---------- FOLLOW-UP ----------
QUESTION: Thanks! I have a follow-up question:
The property has been listed for sale and for rent for 6 months, however, no one has actually seen the property. It's a small office condo made up primarily of physicians in a blue collar part of town.
I can absorb the negative cash flow for the foreseable future, however, given that: 1) properties do not appreciate much in this area, 2) real estate market is slow for either lease or purchase, I need to access some type of "back of envelope" calculation that would facilitate determining a break-even point. Say, I'm spending $20,000 a year on a property that doesn't appreciate much, it may take perhaps 6 more months to sell, at what point does it make sense to stop the payments and just sell at a loss? That's why I brought up the tax advantages of selling at a loss: what's the difference between selling today at $140,000 at a loss and selling in 6 months or more at $150,000 (if I'm lucky). In the first case as you mentioned, I get 15,000 plus the small tax advantage of a loss, in the second case, I'm paying an additional $10,340 just to keep the property open (6 months mortgage plus 1/2 year taxes).
If you could point me in the right direction or suggest an online calculator, that would definitely help!
Thanks again for your feedback!
Alex
Answer Unfortunately, I don't know of an online investment calculator that would be of any help. Simple math alone (which you've already done) is about as accurate as you're going to get. The reason is that there are way too many factors to consider, some of which i pointed out already, and others which are unknown. For instance, it's impossible to predict how long it would take to find a buyer, or a tenant, and at what terms. By the time your projected break-even point arrives -- it may take that amount of time (and then some) to employ a different strategy. Wish i had better direction to offer!
