In a roller coaster economy, many commercial real estate businesses have been focused on short-term success and ensuring their companies can remain profitable. For developers contending with labor shortages and skyrocketing materials prices, managing their short-term projects is likely top of mind.
Focusing on the now is important, but to ensure a business can thrive in the long term, CRE developers should also be taking steps to plan for the future — which includes worst-case scenarios, such as injury or death. Making long-term investment and estate decisions from the get-go can help developers avoid financial and legal pitfalls down the road while allowing projects to continue running smoothly in the face of any issue.
Bisnow sat down with Andrea Lawrence, senior vice president and senior wealth adviser at Bryn Mawr Trust, to discuss how CRE developers can create financial strategies to benefit their wealth for decades to come. According to Lawrence, developers who have a lot on their plates can work closely with a wealth adviser to help make the right decisions.
Bisnow: How can developers position their investments to better serve their CRE projects?
Lawrence: If a CRE developer has excess cash, rather than leave it sitting idle in a bank account, there are opportunities to earn money on that cash, especially with the current federal funds target range now being 4.5%–4.75%. Short-term U.S. Treasuries and many U.S. government-backed money market funds are now yielding over 4%. They are essentially credit risk-free and provide a solid return on investment.
CRE developers should also diversify and invest at least a portion of project proceeds into a nest egg of uncorrelated marketable securities. This would reduce risk and help solve liquidity problems in the event of their untimely death, as marketable securities are easily sold and turned into cash.
One thing to consider is that large banks have certain criteria for CRE lending, and sometimes the developer won’t fit neatly into their parameters and thereby won’t qualify for more money if it is needed. However, local banks and especially local private bankers can provide options.
While developers may not qualify for a CRE loan or additional CRE financing, they may, by virtue of their personal net worth and cash flows, qualify for a line of credit, whether secured by a portfolio of marketable securities or unsecured, if the project has a high probability of success.
Bisnow: What are some of the financial challenges and risks that CRE developers can face if they’re not taking proper measures to protect their estate?
Lawrence: Real estate is not a liquid asset and not easily sold, so it can’t be readily converted into cash when cash is most needed to support a family, pay off loans or pay death taxes.
It’s common for a developer to personally guarantee business loans, and therefore, the lender then becomes a creditor of the developer’s estate. Developers should make sure to review loan terms and determine what the impact of death is going to be, as it is often considered an event of default, requiring that the loan be paid.
Sometimes, due to time, a developer may own a project in their name individually. If a commercial real estate project is held in an individual’s name, then the business creditors can reach the personal assets of the developer. A properly structured limited liability company, even if it’s a sole member LLC, affords greater protection against personal liability.
Bisnow: How can a buy-sell agreement mitigate some of these estate challenges?
Lawrence: If a real estate developer dies or becomes disabled, or otherwise can no longer work, there should be an LLC operating agreement in place that addresses who is going to control or manage the project in that event. If the developer has partners, for example, there should be a buy-sell provision in the operating agreement or a separate buy-sell agreement that states who can succeed to the developer’s interest and on what terms.
Usually, the developer’s partners don’t want to be partners with the developer’s estate. Therefore, the buy-sell agreement allows the other members in the LLC to purchase the developer’s interest. There’s also usually a provision for how to value that interest, which is often funded by life insurance on the member’s life.
This solves two problems. This facilitates the buy-sell because the members can use the life insurance proceeds to purchase the member’s interest from the estate, and the estate then has the liquidity it needs. If the property is in the middle of development, the remaining members can continue on after purchasing the deceased member’s interest.
Bisnow: How can wealth advisers help CRE developers make the best decisions for their business and estate?
Lawrence: Because developers are so busy managing their projects, they may not get to some of these financial tasks. Therefore, a wealth adviser needs to economize the CRE developer’s time, enabling them to freely focus on the feasibility, design and construction of their properties.
To help their client save time, a good wealth adviser will articulate the developer’s goals to their accountant, lawyer, investment adviser and their personal banker, and translate the professionals’ advice into options that the developer can use to make the best decisions. If the developer hasn’t completed tasks, such as drafting a will or applying for an insurance policy, the adviser can identify what needs to be done and project manage those tasks on behalf of the developer.
A good wealth adviser will not initiate transactions without regard to the developer’s material assets and liabilities. A wealth adviser should only recommend planning strategies based on knowledge of what actually exists. Having this holistic approach helps the developer navigate the financial health of their business and estate successfully.
This article originally appeared on Bisnow. This article was produced in collaboration between Studio B and WSFS Bank. Bisnow news staff was not involved in the production of this content.
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