Medical Office Owner/User Buyer Manifesto
After conducting an informal survey of medical users in my market, I wrote this short article to explain the benefits of owning the real estate a medical user occupies for its practice. The physicians I spoke with told me the following factors played a part in their decision to purchase versus lease their medical office space:
Hedge on Inflation – When you buy a property with a fixed-interest mortgage, your monthly payment is based on the value of the dollar at the time of purchase. As you make payments over the years, you're paying with cheaper dollars as inflation rises. What does that mean? In a nutshell, as inflation rises so do rents of similar properties and well located medical property values rise. While rents for your competitors rise, your mortgage stays the same in a predictable payment for as long as 25 years. While others are wasting money on rent, you are staying safe from rent increases, obstinate Landlords and paying off a tangible asset. WIN. WIN. WIN.
Scarcity of Supply – It is extremely hard for a healthcare practice to develop from the ground up these days. Increasingly difficult regulatory environment with constantly changing development requirements, staffing shortages and neighborhood politics play a part but the most prohibitive factors are the skyrocketing costs of land and the attention and energy it takes away from a profitable practice for its owner to be spending valuable time, sometimes years, managing architects, engineers and contractors. Most on-campus real estate is controlled by the hospital and hospitals tend to negotiate favorable land use agreements with municipalities during early stages of the zoning/planning process sometimes carving out territory near the hospital that has restrictions on future medical office development. They do this to corner the market and force physicians into leasing space from them.?This method of the Hospital controlling competition further limits supply of medical office. Limited supply supports long term value of physician owned real estate.
High Demand – Medical office buildings continue to be in high demand given the macro trend of aging populations nationwide which require more real estate be dedicated to medical use. This specialized type of real estate is needed in most metros and newer product is harder to come by.
Comparing Investments- The stock market is notoriously volatile, gains can be erased in one bad day of trading after months or years of perceived growth. Overheated asset classes like single family homes, multifamily and industrial are at nose bleed valuations with no upside for a new buyer. Since the Office asset class as a whole never entered bubble territory it continues to offer upside. Property values and rental income both tend to keep up with inflation over time, and?the investment vehicles that invest in real estate tend to outperform the market during inflationary periods.
Flexibility – A popular option is to complete a “Sale-Leaseback” scenario where the practice owner wants to utilize the cash they invested in an asset for other purposes but they still need the asset itself to operate their business. Sale-leasebacks can be attractive as alternative methods of raising capital and the physician can time the market and sell at a high point capturing the equity earlier instead of waiting until retirement. The main benefit of a Sale-Leaseback is that the physician gets to cash out the value of the property at the peak, then use that capital as they see fit while still enjoying the security of a long term lease.
SBA Financing – The US government is so confident that medical practitioners will remain in one location and be profitable that they are willing to back the physician with some of the best loans in the marketplace; loans where you can get 100% financing. These loans are typically long term with a low down payment, traditionally 10% down including equipment and fixtures.
Bonus Space Cashflow – Physicians can buy more space than they need and lease the remainder space to a complimentary business. For instance, I sold a plastic surgeon his building – about 10,000 SF. He uses 8,000 SF and leases 2,000 to a cosmetic dentist. That 2,000 SF at $2.50 PSF monthly gives him roughly $5,000 extra every month. Assume a loan of $2 million, at 5% interest for 25 years his payment is $11,600. That $5,000 cashflow offsets his mortgage on the building bringing his payment to $6,600 per month. Not bad.
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Build personal wealth – Instead of paying off someone else’s mortgage through long term lease payments, sometimes decades of lease payments, why not just pay off your own building while operating your practice? Built in retirement plan. No Landlord necessary.
Image – Physicians will spend more resources and effort improving a space that they own versus a rented space and it shows. Buildings owned typically have higher end finishes than what a landlord would have been willing to provide. The pride of ownership is visible on the exterior grounds as well, owners tend to have more control over how a property is maintained. The appearance of the practice’s building indicates what level of care the patient will receive at a very conscious level since it’s the first thing they see when pulling into the parking lot.
Tax benefits - When you purchase your business real estate you get the long term appreciation and the tax benefits like non-cash depreciation deductions (39 YR life for commercial real estate). The physician can deduct mortgage interest and enjoy the ability to defer gain on property value appreciation. Now this is where it gets really exciting: Cost Segregation - Since 2017, federal regulation has made the benefits even more attractive for property owners, allowing both businesses and individuals to deduct a certain percentage of costs the very first year they’re in service. This includes used as well as new property, and through 2022, the percentage is at 100 percent. Let’s consider a physician who purchases a building for the practice worth $2 million this year. Right away the physician does a cost segregation study, finds out that many of the assets have a shorter depreciation schedule, and the physician ends up with 25% in advance depreciation. Because of the first bonus depreciation, the physician gets to write off $500,000 of the purchase price. That means that a taxpayer with a 35% marginal tax rate would end up saving $175,000 in taxes that first year. With these unbelievable savings and the resulting increased cash flow, it may be a good time to purchase property.
About the Author: Bridget Richards focuses on matchmaking people and properties that are well-suited for each other. She specializes in creating stand-alone brands for each project; whether it is a new ground up development or a re-positioning effort for existing assets.
Bridget Richards is a dual-licensed Broker in the State of Nevada - Broker for both BRAND Real Estate and Perry Guest Companies Nevada. She has sold/leased over $750,000,000 in transaction volume. Those closed transactions were comprised of investment and owner-user sales as well as sales of condo-style commercial properties in the Office and Light Industrial categories.