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  • Pay debt or buy building?

    I'm two years into solo private practice and I'm paying $3700/mo with 8 years left on the lease.  The building owner has asked to if I wanted to buy the office space with an asking price of $495k.  I have $155k in cash in the practice account that is conveniently what I owe on my privately loaned, refinanced student loan debt at 3.81%.  What would you do? Take the risk and buy the practice building with more debt or play it safe and payoff student loans?

  • #2
    No right answer here. Personally, I'm on a bit of anti-debt binge lately so I'd probably pay off the student loans. But I've also done well on owning a practice building, although my financial commitment to it is far less than yours will be.
    Helping those who wear the white coat get a fair shake on Wall Street since 2011

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    • #3




      I’m two years into solo private practice and I’m paying $3700/mo with 8 years left on the lease.  The building owner has asked to if I wanted to buy the office space with an asking price of $495k.  I have $155k in cash in the practice account that is conveniently what I owe on my privately loaned, refinanced student loan debt at 3.81%.  What would you do? Take the risk and buy the practice building with more debt or play it safe and payoff student loans?


      Some questions and food for thought:

      1. Do you have an appraisal of the building and is this a fair price?

      2. What rate can you get? Will the owner self-finance and give you a better deal? (fwiw, an installment sale such as this would almost certainly benefit him on taxes if he were willing to do so.)

      3. The interest on the debt would be fully deductible while the student loan interest would not.

      4. At 5% over 10 years, your payments would be a tad under what you are paying now and you would own the building and have no more lease payments.

      5. Of course, you would take over responsibility for insurance, property taxes, and maintenance (all deductible, of course).

      6. No guarantee what the lease amount will go up to in 8 years.

      7. Are you sure this is where you want to stay permanently?

      8. How long did it take you to build your nest egg of $155k? You should be able to continue saving and/or increase your student loan payments to pay off sooner than you are currently doing.


      There are other issues at play here, such as the size of the business and whether you are growing or have leveled off. Are you running an efficient practice? Do you have spending "issues"? Is your marriage in good shape? And so forth. If the price is right and you are comfortable with the answers above, I would probably lean toward purchasing the building. This all depends upon your plan and how well you execute.
      Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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      • #4
        JFox, sometimes I find myself wondering how much time you actually spend working! ?

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        • #5




          JFox, sometimes I find myself wondering how much time you actually spend working!
          Click to expand...


          Good point - don't blame you, I've actually wondered if forum readers think this is all I do. Since you asked :-)...I'm at my desk 7 days a week (half days on weekends) and always have at least 2 projects going at once (4 right now) on 4 monitors. The WCI forum is always open and i check in periodically, pop off an answer, and get back to my main project (which at this very moment happens to be meeting notes for a forum client). I'm not a total workaholic, but since my kids are grown and live 3 hours away (with my 5 grandbabies), financial planning has also taken over as one of my hobbies. And since my husband really is a workaholic, I have plenty of time to do what I enjoy!

          That said, if I'm called to Nashville to babysit, everything else gets rearranged.
          Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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          • #6







            I’m two years into solo private practice and I’m paying $3700/mo with 8 years left on the lease.  The building owner has asked to if I wanted to buy the office space with an asking price of $495k.  I have $155k in cash in the practice account that is conveniently what I owe on my privately loaned, refinanced student loan debt at 3.81%.  What would you do? Take the risk and buy the practice building with more debt or play it safe and payoff student loans?


            Some questions and food for thought:

            1. Do you have an appraisal of the building and is this a fair price?

            2. What rate can you get? Will the owner self-finance and give you a better deal? (fwiw, an installment sale such as this would almost certainly benefit him on taxes if he were willing to do so.)

            3. The interest on the debt would be fully deductible while the student loan interest would not.

            4. At 5% over 10 years, your payments would be a tad under what you are paying now and you would own the building and have no more lease payments.

            5. Of course, you would take over responsibility for insurance, property taxes, and maintenance (all deductible, of course).

            6. No guarantee what the lease amount will go up to in 8 years.

            7. Are you sure this is where you want to stay permanently?

            8. How long did it take you to build your nest egg of $155k? You should be able to continue saving and/or increase your student loan payments to pay off sooner than you are currently doing.


            There are other issues at play here, such as the size of the business and whether you are growing or have leveled off. Are you running an efficient practice? Do you have spending “issues”? Is your marriage in good shape? And so forth. If the price is right and you are comfortable with the answers above, I would probably lean toward purchasing the building. This all depends upon your plan and how well you execute.
            Click to expand...


            His lease payment is 100% tax deductible, but with mortgage payments he only gets interest and property tax deductions and 39 years depreciation,principal payments will be taxed?

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            • #7


              His lease payment is 100% tax deductible, but with mortgage payments he only gets interest and property tax deductions and 39 years depreciation,principal payments will be taxed?
              Click to expand...


              Yes, but I wasn't putting tax deductions as a priority, just pointing out the contrast between interest on a student loan and on a business loan. Of course, the lease payment is deductible, but he is building no equity by paying the lease. If he plans to occupy the building for the next 30 years, wouldn't it be better to have no payments after the 1st 10, along with ownership of an appreciating asset that can throw off rental income to himself and get a stepped-up pass-through basis at death? Of course, we are assuming he is buying the property at a fair price.

              You have to spend money to get a deduction. I'd rather, all things being equal, he spend less and keep more in his pocket. Or her pocket.

              Not sure what you mean about principle payments will be taxed...
              Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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              • #8
                Principle payments need to be paid with after tax funds , assuming 40% effective tax rate , you can convert $1,670 overhead(lease payment) to just 1,000 mortgage principal payment.

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                • #9
                  You can't really evaluate the situation from a financial standpoint until you know what expenses the owner has had to pay over the years.  I would ask for his profit/loss statements for the last 3 years.  Typically, there is no better tenant and landlord than yourself.  For the right price, owning your own building can be one of the best investments you can make.  JFox points out many good questions, especially with regards to how long you plan to stay in the building--you don't want to get yourself into a situation where the building tail is wagging the practice dog. Owner financing can save you a bunch of money in financing fees and require much less down. Also, don't forget about your eventual exit from the building-- the price you pay will highly determine whether it is a good long-term investment or not.  Is it part of a condo unit--if so are there a bunch of vacancies, who are the other tenants, how well kept is the building/grounds, etc?  How desirable is the location for if/when you decide to sell/move-out?  Will it be a tough sell/lease at it's current rates/sales price?  How does your current lease rate compare to current market rates for similar buildings/locations? If you're currently overpaying on  your lease, then the building is likely over-priced or possibly vice-versa.  I don't think you need to be too concerned about the debt if everything else makes sense--there is a big difference between having debt on a reliable revenue producing asset (owner occupied building) and debt from student loans/credit card debt/mortgage/car lease/etc.  Our group has purchased all 5 of our office buildings over the last 5 years and each building will very likely produce a reliable 14-16% annualized return without increasing rental rates--though there are some tax advantages to paying yourself higher rents to reduce your practice income if you are the only practice owner/building owner (avoiding payroll taxes). Also, don't forget about the benefit of accelerated depreciation, step-up at death, or potentially lower tax rate arbitrage with depreciation recapture if you do decide to sell down the road, etc.

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                  • #10
                    Thanks everyone for weighing in.  Here are answers to the questions Johanna asked above.

                    1. The appraisal came in at $450k

                    2. Interest rate is 3.3% fixed over 10 years

                    7. I'm not sure this is wear I want to be forever, but for the next 5 years certainly as I am positioned next to our oral surgeon referral.

                    8. It took 20 months to build the 155k.

                     

                    We have grown 5% over last year, we are working on efficiencies though certainly not perfect, and marriage is great!

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                    • #11
                      Was a solo doc myself for a few years (before bringing on colleagues), after a military career, so I am familiar with the situation, and have purchased 2 buildings over the last 10 years.  Assuming you are stable (not desiring to move, not needing a lot more -or less- space, etc), it behooves you to buy if you are going to be in a location long-term.  Consider it as you would buying a home- rent if your life/work situations are not settled, while consider buying if they are.

                      When you rent/lease, you are often stuck with signing a personal guarantee on the lease for the full term, penalties for early termination, may have limitations on sub-leasing, are beholden to the landlord for maintenance occurring at possibly inconvenient times for you and/or your patients, and may discover that your property management fees / association fees are inflated significantly over actual costs (all of these happened to me).  Also, your tenant improvements go to improving someone else's property value (e.g. extensive high speed internet cabling, and substantial interior upgrades).  When you sign a lease, you are committing to that monthly payment just like any other debt- only at the end of the term you have "nothing" to show for it.  And -as a colleague of mine found out- your building could get sold at the end of your lease term to make way for a parking lot, forcing you to move unexpectedly.

                      Buying your space gives you control of many of these, and moreover builds up equity in the commercial property, AND you get a tax write off on the depreciation and any expenses, toward the passive income.  Plus, the tenant improvements you make go toward improving your own property. Once the building is paid off, your "rent" is now ALL passive income to you, indefinitely.  Set up a separate LLC to buy the property, so it is distinct from your medical practice (for liability reasons among others), then have the LLC lease the building to your practice.

                      One additional benefit of owning, seldom discussed, is the cash-flow flexibility and resiliency it provides. Examples: at the end of the fiscal year, many practices "empty out" the checking account by paying bonuses, to minimize corporate taxes, but this leaves a period at the beginning of the next fiscal year when things are "tight."  As a building owner you may consider "advance paying" rent to your LLC to reduce assets within your medical practice before the fiscal year end, and/or extend a grace period to defer paying rent to your LLC at the beginning of your new fiscal year to accommodate a period of reduced balance or cash flow.  Having a cushion where you can "defer rent" if needed gives you substantial financial resilience, and much much more so once the building is paid off!

                      To finance your building: A standard commercial loan from a bank will look for 20% loan-to-value as a down payment, but it will allow you to pay off in 5, 7, 10, or more years, and shorter durations will have much lower interest rates if you can and want to "pay it off faster." Those will likely have the lowest origination fees as well.   If you don't want to tie up that much cash (or cash flow), then an SBA 504 loan is probably the way to go:  It only requires 10% down payment and has very favorable rates as well as an amortization over 20 years, BUT you cannot pay off any faster than 10 years, and there are somewhat higher origination fees. Contact your local Small Business Administration to inquire as to details.   In either case, the interest/fees you pay are a business write off.  And the depreciation on your building is a write off against the passive income you get from the lease.  And if you have children, your LLC (the one that owns the building) may find it advantageous to hire them to do some landscaping or other appropriate miscellaneous jobs, so that some of your LLC's passive income can be moved out of your high tax bracket.

                      It is actually easier as a solo doc to do this (buy a commercial property), because you are not sharing the decision making with another party.  One main downside is that you are "not diversifying" this portion of your investible assets (the amount you will put into the building), since it's returns are still dependent on the success of your practice.  (The opportunity cost is that you did not take this money and buy a Vanguard fund or unrelated rental property /etc where investment returns are not associated with the success or failure of your practice.)  In the end, however, owning your own commercial property as a solo provider or small practice can be both very advantageous in having control over that necessary asset (and its expenses), as well as work to your benefit as an investment property.

                       

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                      • #12




                        Thanks everyone for weighing in.  Here are answers to the questions Johanna asked above.

                        1. The appraisal came in at $450k

                        2. Interest rate is 3.3% fixed over 10 years

                        7. I’m not sure this is wear I want to be forever, but for the next 5 years certainly as I am positioned next to our oral surgeon referral.

                        8. It took 20 months to build the 155k.

                        We have grown 5% over last year, we are working on efficiencies though certainly not perfect, and marriage is great!
                        Click to expand...


                        5 years is my lowest threshold for "long term" but being next to your referral source tells me that you are in a good position for a much longer period. Nice interest rate for commercial and fixed but you still might want to discuss owner financing with the lessor. His CPA should be all in on that one.

                        Given the above and assuming there are no other negative indicators, I'd say buy.
                        Working to protect good doctors from bad advisors. Fox & Co CPAs, Fox & Co Wealth Mgmt. 270-247-6087

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                        • #13
                          Thank you guys for the well thought out answers.  I will keep you posted on the outcome.

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                          • #14
                            After renting for 6 years I bought a building that was about to go to auction. The previous practice went out of business and a speculator bought it but it lay empty for 2 years and he was losing money. I offered him a chance to get some of his money back by buying at $360K and adding $40K for renovations. After 10 years in this building ( time flies fast   ) I have recouped 75 % of the costs. In another 5 years I would have gotten back all the taxes as well all I would have spent in rent for those 15 years. So even if I do retire I would just be having minimal maintenance costs and property taxes.

                            If you plan to stay there for 10+ years, buy it.

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                            • #15
                              A key question I may have missed above is what kind of lease do you currently have?  I.e., is it a triple net lease where you are already paying all the expenses associated with the property and the $3700/month is strictly the cost of capital?  If so, this would be a reasonably good deal for you, assuming a long-term presence.  If the landlord is paying out half of that $3700/month in RE taxes, maintenance, reserves for replacements, condo dues, etc, it's probably a lousy deal (about 4.5% return on the total investment, not good for this type of investment, improved only by goosing it with leverage).

                              The stability of the owning the building is nice, but it can also hamstring you if you need to move or expand, if your referring docs move, if there are changes in the neighborhood, traffic patterns, parking situation, etc.  A lot can happen in 10 years.  If you paid no more over that ten year than leasing, even if you walk away with nothing, you are fine.  You are making a significant bet on the future either way you decide.  The better the return on the investment, a greater range of outcomes will have purchase the optimal choice.

                              Beware of the appraised value in this sort of situation.  It can be largely based on the facts of your lease.  If you are paying significantly above market lease rate, the value of the building is inflated substantially.  It is worthwhile to do your own due diligence and evaluate other buildings in the area to ensure you are paying market rates for both lease and purchase.

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