Self Storage: The Better Investment to Residential Real Estate

Real estate investors have focused on residential properties to help grow their investment portfolios. While residential properties rely on a strong rental market to turn a profit, the type of property you own or where it is located can create great risks subject to the volatility of the market. Below are some of the reasons that self storage make a better investment to traditional residential investments. 

Consistent Overhead Costs

Self storage facilities have low and constant overhead costs. There are minimal management costs, electric, air conditioning and maintenance required. Unlike residential units, there are minimal cleaning and repair costs associated with the moving process. There is no need to keep a repairman on staff or provide amenities that quickly drive up overhead costs. Once the startup costs are incurred, there are lower overhead costs for upkeep.

Many Sources of Income Means Lower Risk

Because storage facilities rent hundreds of units, at a lower rate than residential units, it is more likely to have a few unoccupied units. The average cost of a self storage unit depends on the size of the unit but a 10'x15' climate controlled unit can cost anywhere between $115-$150. Compare that to the monthly cost of a residential unit in your neighborhood and you can understand how a tenant would be less likely to gather their belongings to move down the street to a different facility over a small rent increase.

Recourse for Unpaid Rents

In the residential market, the biggest fear is unpaid rents. Unpaid rents, for many investors, can translate into unpaid mortgages. A few unpaid months of rent and you could be facing foreclosure. In many cases, there is no way outside of costly court proceedings for owners to get the money they are due.

In self storage, if a rent goes unpaid, the owner has the right to sell the contents of the storage unit to pay off the debts. Self Storage Industry Statistics estimates that the average price of a storage unit auction is $425 with about 155,000 auctioned annually. This translates to about $65 million recovered annually. 

High Demand, Large Profits

In a 2017 report posted by The SpareFoot Storage Beat, it is estimated that more than 9% of the US households rent storage units. Looking at the overall revenue, this means that the industry brings in $38 billion per year in the US with self storage unit construction reaching more than $3 billion this year. Forbes estimates the typical profit margin for self storage owners is around 11%. 

Recession Proof

Self storage is something that people use regardless of the economy. Many self storage facilities are full of items that were purchased when the economy was on the upswing like new sporting equipment. When the economy takes a downturn and people need to downsize their living accommodations, they look to self storage as a less expensive alternative to storing items than the expensive square footage of living space. 

For some renters, self storage is a long term option for delaying difficult decisions. They may be looking  to store items from an elderly relative's home who has entered long term care or as a place to store household goods during a divorce. Regardless of the economy, these items will stay in storage until the life events that place them there are settled. 

As you start to examine all the options for your long term real estate investment, don't overlook self storage facilities. They provide a great opportunity for high returns at a lower risk than residential real estate investments. 

1.) Property Management is less labor intensive. Operational costs are reduced due to less maintenance issues (ie less plumbing, toilets, etc.)

2.) Operators can evict tenants quickly due to non-payment. Some states have lengthy processes to evict tenants in apartments. However, with self storage, lien laws gives the ability to sell contents of the storage unit after 90 days of non-payment and re-coop lost revenues. 

3.) Recession & Inflation Proof - In good times, consumers buy more "stuff". In bad times, consumers downgrade their living environment, but don't necessarily sell their belongings. Also, in self-storage, there is no rent control that exists in larger metropolitan cities around the country. Renters don't take the time to move their stuff to a new facility down the street over a $10/month rent increase. 

4.) The US is a country of consumers. The "Amazon effect" has simplified the purchasing of goods.

5.) Transient Population - This "Millennial Effect" where the younger generations enjoys being mobile, but still have possessions to store in the meantime. This holds true across other demographics as well. 

6.) The conversion process from an empty warehouse space to a self-storage facility is simpler than if you were to convert to apartments. There is far less framing, drywall, plumbing, appliances, tile, etc. 

7.) Warehouse Supply - Empty warehouse space is everywhere across the U.S. Think of how many Sears Stores and Kmart's have gone out of business in the last decade. These serve as potentials for a self-storage conversion.

8.) Self-Storage Occupancy is above 90% nationwide.

9.) Self-Storage has the Lowest Default / Foreclosure Rates in Commercial Real Estate. 

10.) Ability to Cash Out / Re-finance is much easier than with an apartment building since Self-Storage is a less volatile product when it comes to vacancies. 

What You Need to Know About Opportunity Zones

Trump's tax reform law of late 2017 is drawing renewed interest from venture capitalists and philanthropists due to the tax shelter it creates. A program hidden in the law aims to tap into an estimated $6.1 trillion in unrealized capital gains to spur economic growth in low-income communities throughout the U.S.

The Opportunity Zones program utilizes tax incentives, similar to a 1031 Exchange, to encourage investors to take advantage of investment opportunities in specific communities.

Keep reading to learn what you need to know about Opportunity Zones.

Who Created Opportunity Zones?

According to the IRS Q & A website, Opportunity Zones were established by Congress in the Tax Cuts and Jobs Act, which passed on December 20, 2017.

Opportunity Zones were inspired by the Investing In Opportunity Act, a bipartisan community development program that was championed by senators Tim Scott (R-NC) and Cory Booker (D-NJ), representatives Ron Kind (D-WI) and Pat Tiberi (R-OH), and nearly 100 congressional cosponsors.

Economic Innovation Group (EIG) first conceptualized Opportunity Zones in 2015 in Unlocking Private Capital to Facilitate Growth in Distressed Areas, a whitepaper written by Jared Bernstein, an integral member of the Obama Administration's economic team, and Kevin Hasset, the chairman of the Council of Economic Advisers and co-author of the book Dow 36,000.

What Is an Opportunity Zone?

An Opportunity Zone is an economically challenged area in an urban or rural community, in which federal tax incentives are offered to investors to reinvest their unrealized capital gains into these areas. 

A location may qualify as an Opportunity Zone once it has been nominated by the state and its nomination has been certified by the Secretary of the U.S. Treasury. The first set of Opportunity Zones were designated on April 9, 2018. The Opportunity Zones cover parts of 18 states. Click here for the map (Adobe Flash plugin required).

What Is a Qualified Opportunity?

When an investor realizes a gain from a sale or exchange of a capital asset, they have 180 days from the date of the sale or exchange to reinvest the gain into a qualified partnership or corporation. 

These funds must be used to significantly improve eligible properties, businesses, and partnership interests located within the zone. 

It is the responsibility of the entity and the taxpayer to self-certify the investment. Later this summer, the IRS will release a form that eligible taxpayers must complete and attach to their federal income tax return for the taxable year. No approval or action by the IRS is required.

How Do Opportunity Zones Benefit Investors?

There are three tax incentives available to investors who reinvest their capital gains into Opportunity Zones.

These benefits are available to all taxpayers who invest in qualified assets, regardless of whether they live in an Opportunity Zone or not.

1. Temporary Deferral of Tax
Taxpayers may elect to defer tax on prior gains if they have been reinvested into a qualified Opportunity Zone within 180 days of the asset sale. The tax may be deferred until the earlier of the date on which the investment is sold or exchanged, or until December 31, 2026.

The election to defer tax on that gain should be made on the federal tax return for the year in which the tax on that gain would be due had it not been deferred. IRS form 8949 must be completed and attached to the tax return as part of the deferral election procedure.

If you wish to defer taxes on a gain acquired during 2017 and have already filed your tax return, you may file an amended return and attach a completed IRS form 8949. 

2. An Increase in Basis 
Up to 15% of the original gain that was reinvested into a qualified Opportunity Fund may be excluded from taxation, depending on the amount of time the investment is held in the fund by the taxpayer.

If the reinvestment is held in the opportunity fund by the taxpayer for at least five years, the basis of the capital gains will increase by 10%. The basis will increase by 5% if the investment is held for at least seven years.

3. A Permanent Exclusion
The interest accrued from capital gains invested into a qualified opportunity fund may be permanently excluded from taxation if the investment has been held in the opportunity fund by the taxpayer for a minimum of ten years before it is sold or exchanged. This exclusion only applies to gains accrued after investment into an opportunity fund.

Where Can I Find Out More About Opportunity Zones?

A current list of approved Opportunity Zones is available at Opportunity Zone Resources. The list is updated in real-time as more Opportunity Zones are approved. A complete list will be published in Spring of 2019 once all Opportunity Zones have been nominated, certified and designated.

More information about Opportunity Zones, including legal advice, will be released by the Treasury Department and the IRS in the coming months. Information will be available at Treasury.gov and IRS.gov as it becomes available.

 

Pace Nation. Pace Market Data, 2017. http://pacenation.us/pace-market-data/

Pace Nation. Pace Annual Impact Report. 2017. http://pacenation.us/wp-content/uploads/2018/08/2017-C-PACE-Annual-Impact-Report-Optimized-1.pdf

Pace Nation. What is Pace? 2017. http://pacenation.us/what-is-pace/

Pace Nation. Pace Basics. 2017. http://pacenation.us/wp-content/uploads/2016/10/PACEBasics_2016_10_7.pdf

We have all seen the various ways to invest in real estate. HGTV has made an entire network devoted to flipping houses, purchasing homes with income potential, or finding an investment property at the beach.  As passive observers, the TV show hosts demonstrate how much income you COULD earn if your home were rented or sold at a certain price. However, these forms of real estate investments come with serious risks and the real estate market can be fickle. What a home is worth today may not have the same value tomorrow due to interest rates, market conditions, or the market collapsing altogether.

Meet Self Storage, a Safer Investment Opportunity

If you are unfamiliar with the self storage market as a form of investment, a great place to start is US News and World Reports article from January 2018.  As one self storage investors states, "Self-storage does even better during a recession because people need a place to store their stuff." Another investor states, "When the economy is good and people buy too much stuff they have to put it in storage." This is one of the many reasons why self storage is a great opportunity.

Self Storage vs. Apartments 

Self storage properties offer investors a unique opportunity without the challenges of other types of property. Owning a multi-unit apartment building usually comes with finding a long term tenant. Many issues can arise during the tenants stay like plumbing, electrical or upkeep of the grounds. This includes expenses incurred during and after a tenant leaves the property. In cases where the tenant refuses to pay or leaves the premises, eviction proceedings can take months. Remember, if the property is unoccupied or rent is not paid, no one is collecting any income.

Self storage facilities have very little maintenance involved. You don’t have the plumbing and electrical for bathrooms and kitchens for each individual unit as you would have in apartments. If a tenant does not pay their rent in the self storage facility, goods can be sold at auction leading to a much easier eviction process. This helps protect the owners and investors by turning the unit over in a more efficient manner than with apartments.

Another important factor to point out is self storage is not as price sensitive as apartments. Increasing the price of a locker 4% will not cause someone to take the time to rent a boxed truck and move their belongings to another facility. Raising the rents in an apartment 4% may cause the tenant to look for another apartment.

What is Driving the Demand for the Self Storage Market?

In July 2018, Benjamin Burkhart, the owner of storagestudy.com, notes that many storage facilities have longer term tenants. The need for storage arose out of circumstance, tenants would rather not revisit. Divorce, a death in the family, convenience all lend their hand in these decisions to continue to make payments rather than make a large investment in a moving truck and labor to move items. While these types of renters do not make up all the customers, when coupled with those who have other life events like moving out of college or packing up an apartment for a stint overseas, it does mean that older facilities are more likely to hold on to their clients, creating a demand for space and a need for more storage facilities. 

Another key factor is the location of the self storage facilities. Areas that are densely populated, with a high portion of renters, or near a recreational resort are likely to see greater occupancy rates. For those located in urban environments, space is at a premium, so renting storage space is a more economically sound alternative. For areas with a high portion of renters, storage rental may be a necessity prior to a  lease ending or beginning. For resort areas, storing equipment, tools, boats and vehicles will be a requirement for some second home owners.

The self storage industry is here to stay. If we continue to amass items that we are reluctant to let go, the industry will keep growing as will the need for more facilities.