Comment by ofrzeta
3 days ago
It's really baffling that even in the shittiest areas rents or property prices are insane. It seems the capital owners just don't care or don't lose enough money to care. They should be expropriated. Of course that won't happen.
AFAIK Commercial is priced at a multiple of rent. So when an owner still has a loan on a building that was based off of multiple of 3000/mo and decides to rent it out for 1500/mo it effectively cuts the value of that building in half.
Just an accounting issue for someone who owns it out right, but devastating for someone with a loan. I think this is why you’re seeing landlords offering multiple free months of rent nowadays. It allows them to adjust to actual market pricing annualized, while being able to call the “free” months an expense
We had this experience with a local town centre where the high street basically died. Retailers priced out by high rents, which was fine when the economy was good and people were spending, but as soon as it took a dip there was nowhere to go and they had to shut up shop.
And this mechanism was why; almost all the real estate was owned by funds and leveraged. Property values based on a multiplier of rent. They could weather a long spell of zero rental income because that effectively cost them nothing, but if the rent went down then the value went down and they had to come up with the difference.
That seems like a rather inefficient use of resources. How long will a fund typically keep that on the books before they have to offload the asset or declare bankruptcy? At a certain point, that smells like a scam with a real estate business attached to it.
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>AFAIK Commercial is priced at a multiple of rent. So when an owner still has a loan on a building that was based off of multiple of 3000/mo and decides to rent it out for 1500/mo it effectively cuts the value of that building in half.
Well, if the town is dying, the "value of that building" is effectively cut in half, or worse, anyway. Asking a lot for rent is not gonna magically make the building worth more - it will just keep it unrented.
It's not just accounting, it means enough things that they're incentivized to manipulate it upwards. It impacts the loans they can get and the interest they pay, enough that it may be worth it to forego some actual income to keep the fake numbers up.
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Accounting rules allow you to extend and pretend which is common in commercial. Because loans are sucuritized by other assets there can be a lot of different assets that could all suddenly become distressed just by pricing down rent in one building
I hear people say this a lot but it doesn't make any sense. Why would the value be based on some imaginary rent rather than the actual amount of money taken in? It seems stupid for anyone to say that asking, say, $2500 rent with three free months (giving $27k for the year) is better than just asking $2000 with no free months (giving $24k for the year). If this is really what is going in then the system deserves to crash.
It’s just how commercial real estate is valued. It’s very formulaic based on the local multiplier of rents. It even applies down to single-family homes but those have competing buyers (families) - but in pure commercial you are the multiple of rents and basically nothing else (save in the strange case of someone wanting that particular property).
The key is home loans for normal families can’t be called - commercial loans can.
Even in the best of times you will have empty places so they have to ignore unrented places since there is no formula that can tell the state of the economy from just current rent. Real estate is always local so even in the worst economies there is always some place booming
Your suggested alternative generates a need for massive accounting by the banks, tracking each loan's aggregate monthly rental income.
A simpler rule that mostly covers today's problems, and adds very little overhead after the loan is signed, is often considered good enough.
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> devastating for someone with a loan
Sorry, I can't understand why. Could you please expand a bit?
I don't get how decreasing the value of the building makes the loan more difficult to repay.
Loan to Value (LTV) is a percentage that tells you how safe a loan is. You divide the amount of the loan by the value of the building. So if I buy a building for 10 million with a 6 million loan and 4 million of my own money then I have an LTV of 60%.
This means if I go bankrupt then the bank can sell the building and get its money back.
If the value of the building halves because the rent halved then I have a 6 million loan on a 5 million building. My LTV is 120%. The bank cannot get its money back by selling the building.
No bank is going to give me a loan on a property with an LTV of 120% so I’m stuck with my current bank. My current bank then increases my interest rate because I am now a very high risk customer who can’t leave. This is very expensive for me.
One way out of this situation is to get my LTV back to 60% which means I need to reduce the loan to 3 million by finding 3 million to pay off part of the loan.
Another way out is to sell the building for 5 million then pay the bank one million, exiting the deal with a loss of 1 million.
None of these are good for me. I’ll do anything to keep the value of the building high by charging high rents even if no one can actually pay the rents and the building sits empty.
Long term I might be able to exit by getting permission to convert it to flats.
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The backing of the loan is in part based on the value of the asset, so you need to add collateral to accommodate a reduction in the asset value.
Basically you have to pay a lot more if the building value goes down
I’m not sure if the explanation in the second part holds water. Wouldn’t the reduction in property value be the same as the ammortized free rent?
No, because the mortgage companies' valuation is based on rent and does not consider any incentives.
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No. Not if the valuations and downstream effects of valuations are formulaic, which they often are.
It's because commercial property is bought and bundled up into REITs and they would rather have a property go unleaded than to lower rates.
I see this also, but I don’t get it. An empty building still costs a bunch of taxes and upkeep and still rapidly deteriorates without tenants looking after it. Aren’t these people hemorrhaging money? What do they have to show for it? My city actually handled a majority of the rent so a business could revitalize a large-ish property that had been empty for years. Of course it failed as soon as that deal ran out.
As I've said elsewhere, when the economy improves it will be rented again.
If.
And for how much?
The system is a formalised version of "Don't tell the Tsar bad news."
Everyone has to pretend Better Days Will Come™ while the economy saws through the branch it's sitting on.
It works until suddenly it doesn't, and the banks demand a bailout.
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Except we have the entire commerical business districts of small and mid sized cities destroyed from these practices and there is often no bouncing back from that. Oops.
I think for businesses that own multiple properties, they can claim losses on vacant buildings to offset their taxes in other profitable ones.
land value taxes would fix this. is too cheap to sit on derelict property
I don't think it's that simple. If the property is abandonded there's nobody to collect any taxes from.
On which case it’s owned by the state and the state can do whatever it wants. Like rent it out for $10 a year to the local knitting club.
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i don't know if it's the same everywhere, but in my town there's essentially no taxes on vacant commercial buildings. the tax rate is based on the use
and so landlords who own a whole bunch of properties would much rather a unit sit empty for a year than lower the rent to fill it, becauase it costs them basically nothing and lowering the rent on one unit might have a cascading effect that lowers the rents on all their other properties.
When the capital owner has thousands of properties, why spend energy on optimizing a few to make cities more liveable?
Consolidation, as always, is eating the society like cancer.