Whether to buy or lease is a question real estate professionals hear from business owners all the time. It’s a difficult decision that’s based on several factors.

You should evaluate your needs, as well as your personal and business goals, with a qualified real estate consultant, says Joseph V. Barna, SIOR, principal at CRESCO Real Estate. Also, understand your motivation drivers — are you interested in the bottom-line cost of occupancy, long-term ownership, image or flexibility?

“You need to step back and look at where you’re at, where you want to go, and how important your personal goals on the ownership side are in order to understand the best manner in which to invest your money,” he says.

Smart Business spoke with Barna about what propels owners to buy or lease.

What drives owners to buy?

One example would be if you are in a specialized industry and you’re going to make a significant investment in the space’s infrastructure. You don’t want to be unable to come to terms on a down-the-road lease renewal or expansion and have to reinvest in another building.

Another scenario is that you don’t anticipate long-term future growth and the facility you identify is in a desirable location that meets your projected needs.

Many times, the deciding factor is whether you can buy a building, ‘right.’ If a building can be acquired in the lower range or below market value and/or combined with market-driven incentives, the opportunity is worth serious consideration.

Sometimes it comes back to pride of ownership. In Northeast Ohio, we are fortunate to have a wealth of successful entrepreneurs who want to own their real estate simply for pride or a desired image, even if they have to pay a premium for it.

Why do business owners decide to lease?

One reason would be that your space requirements could fluctuate, so you don’t want to be locked into a building. Often this can be market driven; your business grows when the market’s healthy and contracts when it’s not. Also, many large national or global companies lease space because they don’t want to be in the real estate business and worry about selling a property when they decide to relocate.

You also should look at the return on investment. In real estate, a typical return for a market transaction would be 8 to 13 percent on the property’s value. However, if you have a dynamic business that’s getting a 25 to 30 percent margin on your products, it may be better to put your cash into increasing manufacturing and market share for the higher ROI. In addition, our financial markets have changed over the past five years. In most cases, traditional real estate financing has higher equity requirements, such as 25 to 35 percent down, which could also be a deal killer.

How can a lease-purchase analysis help?

To determine the actual cost of occupancy, bring in a qualified broker or consultant to run a lease versus purchase analysis. On the lease side, you look at your base lease rate, utilities, pass throughs and any other additional costs. On the sale side, you’re weighing your equity requirement, mortgage payment, property upkeep, maintenance, insurance and taxes. The analysis gives you a clear-cut idea of whether you’re better off leasing or buying.

The final decision will not always be the lowest cost alternative, but this analysis will at least let you know where you stand based on the cost of occupancy. Then you can consider other factors, like proximity to your customer base as well as employees, flexibility and personal objectives.

How far out should you start considering whether to lease or buy?

The perfect situation is at least one-and-a-half to two years ahead of when you need to make a decision. You need to understand the current market trends, all of the logical lease and sale alternates and the price of new construction, while projecting where your business will be in five or 10 years combined with personal objectives. You can go into the market and identify the perfect alternative, but it could take a year to consummate a transaction — and even more time if you’re building new, retrofitting or applying for government incentives. If you let that fuse get too short, it limits your alternatives.

Joseph V. Barna, SIOR, is a principal at CRESCO Real Estate. Reach him at (216) 525-1464 or jbarna@crescorealestate.com.

Get analysis of trends in the industrial and office real estate markets by downloading our quarterly Market Beats report.

Insights Real Estate is brought to you by CRESCO

Published in Cleveland

Business owners and corporate executives tend to overinvest in their businesses, often ending up with a large portion of their wealth at risk to the fortunes of one company. However difficult, these owners need to diversify their financial assets to better survive periods of stress. The rules of prudent investing tell us that any more than 10 percent of one’s wealth invested in any one company is too much.

“Diversifying is not natural to individuals so closely connected to one business, but it can be a serious risk to their underlying wealth and the financial health of their entire family,” says Nina M. Baranchuk, CFA, Senior Vice President and Chief Investment Officer at First Commonwealth Advisors.

Smart Business spoke with Baranchuk about how to structure portfolios to diversify or offset these concentrated risks.

Why do corporate executives or business owners need to diversify?

Even regular employees get a company paycheck and buy company stock in the 401(k) or the employee stock purchase plan, so the concentration risks for all employees can be severe. Senior executives often accumulate additional large holdings of company stock and options as part of their compensation.

A business owner’s company may also be a disproportionately large part of his or her portfolio as well. An owner bears the risk of the entity and any economic, competitive or regulatory forces that might impact it. Like putting all your chips on red, there are serious consequences to holding so much ‘concentrated’ wealth if things don’t go well. In addition, these holdings can be illiquid — there is no easy exit under times of stress.

How should business owners construct their passive investment portfolios?

In some cases, it may not be possible to diversify much. If an owner can take cash out of the business, he or she should work with a qualified portfolio adviser to ensure that all of his or her passive investments are built to complement or offset the risk. A qualified adviser can craft a portfolio that helps to mitigate your specific concentration risks and manage your overall exposures.

For example, a local Pittsburgh businessperson might be concentrated in a steel or metal fabrication business. So, he or she would share exposure to the fates of this or other industries as well their end markets in the U.S. or overseas. He or she also may have significant risks to things like geography, interest rates, significant product input costs, etc.

You can easily have issues of exposure based on subtle or indirect connections. Some risks to a firm are really in your supply chain or the financial health of a customer’s industry. Maybe you have one or two dominant clients that represent a large percentage of your revenue stream. Geographical risks loom large for some companies as well.

A portfolio built to offset these risks might exclude many other holdings in the industrial arena and overinvest in industries that often do well when industrials/metals do not — think consumer-purchase staples like food and household products or utilities.

What’s another example of offsetting your risk?

One family we worked with had made its wealth in the real estate business — owning everything from apartment complexes to high-rises. Our analytic work found that two good offsets for these holdings were private equity and financial stocks. Thus invested, whatever happens to interest rates, private equity and financials will react in opposition to the direction of real estate, counteracting one of its most impactful environmental factors.

What should executives consider?

While many executives have limited ability to divest their options or stock, they should certainly not invest their 401(k) in the company stock or buy additional shares. Remember that the executives at Enron and WorldCom went down together, along with their options, pensions, paychecks and other compensation.

In this world of heightened competitive and financial risks, no business is immune from potentially negative outcomes. We urge our clients to make sure they have done everything possible to ensure their family’s financial health by planning for worst-case scenarios.

Nina M. Baranchuk, CFA, is a senior vice president and chief investment officer at First Commonwealth Advisors. Reach her at (412) 690-4596 or nbaranchuk@fcbanking.com.

To learn more, call (855) ASK-4-FCA, or visit ask4fca.com.

Insights Wealth Management is brought to you by First Commonwealth Bank

Published in Pittsburgh

Taxpayers, investors and the stock market anxiously awaited the changes promised in the American Taxpayer Relief Act of 2012 (the Act) only to find that most passed provisions in the Act generally create more questions and concerns for the 2013 tax year and beyond.

To help unravel the changes made to the current tax laws that impact business owners, Smart Business spoke with Cathy Goldsticker and Robin Bell, tax partners at Brown Smith Wallace LLC. They outlined the Act’s relevant changes and the ways business owners can take advantage of many of its provisions and identify areas for tax planning opportunities.

What effect did the extension of many tax provisions have on business tax?

One key business provision is the ‘Section 179’ expensing election for first year tax write-offs of furniture and equipment, which has been retroactively increased to what it had been in 2011. For 2012, there is a $500,000 immediate write-off available on up to a $2 million investment in equipment and furniture. Without this change, it would have been $139,000.

This means, if you bought more than $2 million in qualifying business assets, you would lose the ability to write off the $500,000 in year one. Conversely, if you bought qualifying assets in 2012 that totaled less than $2 million, you can write off $500,000 in 2012 immediately and depreciate the remaining purchase price over the prescribed IRS life.

The change ultimately results in added choices for business owners because, for some businesses, writing off $500,000 in 2012 is not such a good idea. For an S Corp. or a partnership, for example, it may be better to take the write-off over several years because the rates for higher-income individuals, which will be a marginal rate of 39.6 percent instead of 35 percent, makes waiting generally the better option. However, if you have a high income this year, but next year, you anticipate it will be lower, it might make more sense to take it in 2012.

On the other side, since the tax rates of C Corps. remain at 35 percent and it’s unclear whether rates will change, it would probably behoove that type of company to take the immediate expensing.

Additionally, the 50 percent bonus depreciation for the purchase of new business assets was retroactively reinstated to the beginning of 2012. But faster depreciation might not be the best choice if you expect a bigger benefit from a future deduction, similar to the Section 179 consideration. Also, the research and development credit was made retroactively available for 2012.

Were any permanent tax law changes made?

The one permanent tax law change that receives attention year after year relates to the alternative minimum tax and is referred to as ‘the AMT patch.’ It’s mostly applicable to middle-income and lower earners and has become permanent at $78,750 (married amount), with annual inflation adjustments. AMT affects business owners because many operate as S Corps. and partnerships, which means the tax is paid by the owner(s), not the business.

Another permanent tax law change is the estate and gift tax exclusion that’s now $5.12 million. It was widely believed that after 2012, the exclusion would decrease significantly by reverting back to the pre-2001 tax law amount. When it was believed it would expire, many undertook gifting and other estate planning measures before the end of 2012. Freezing it at the higher level enables many more people to take advantage of this provision.

What are the tax benefits for C Corps. that elect to become S Corps.?

There was a reduction in the S Corp. recognition period for built-in gains tax. If you’re currently a C Corp., you can make an election to be treated as an S Corp. for income tax purposes. When you make the election, you may have a double tax (built in gain tax) on certain asset dispositions during a 10-year period. Historically, the rule has been that from the day of conversion for 10 years, certain assets sold had additional income tax due on the difference between your basis in them at that time and their fair-market value. The 10-year period became five years for 2011 and that will continue for 2012 and 2013 under the Act. This provision is making it easier to avoid double taxation on certain assets or selling your business, but it’s also accelerating some collection by the IRS because in the first year there may be revenue to collect on certain transactions.

There are many reasons to change from a C Corp. to an S Corp., but the driver of avoiding double taxation could be part of a sound tax strategy. The Tax Act has raised the individual tax bracket up to 39.6 percent for higher-income taxpayers, so it’s possible a C Corp. structure, which utilizes a 35 percent maximum tax rate, is better.

Another permanent tax law change is the estate and gift tax exclusion that’s now $5.12 million. It was widely believed that after 2012, the exclusion would decrease significantly by reverting back to the pre-2001 tax law amount. When it was believed it would expire, many undertook gifting and other estate planning measures before the end of 2012. Freezing it at the higher level enables many more people to take advantage of this provision.

How were individual tax laws affected?

Although tax rates for lower-income taxpayers remain the same, higher income ($450,000 or higher) will now have a marginal tax rate of 39.6 percent (married taxpayers). Also, the capital gains and dividends tax rate is now 20 percent for higher-income taxpayers instead of 15 percent. These are just the basic income tax rates stemming from the 2012 Tax Act, but there is also a 3.8 percent Medicare tax coming with the implementation of health care reform on much of the same income. Another Tax Act provision reduces the tax benefits of personal exemptions and itemized deductions. Individual taxpayers are going to lose some itemized deductions and some or all of their personal exemption deductions as their income grows (phase-outs). This was the case when the Bush tax laws were in effect a few years back and didn’t get changed, modified or removed with the 2012 Tax Act. For the 2010 and 2011 tax years, these itemized deductions and personal exemption phase-outs disappeared. Because Congress didn’t do anything permanent to change the law, the phase-outs are in effect again, so the tax benefits for these two items are reduced.

What changes were made to estate and gift taxes?

The tax rate increased from 35 percent to 40 percent on taxable estates or deceased individuals with assets in excess of $5.12 million, indexed for inflation.

If you haven’t given away roughly $5 million from your estate in 2012, you have another chance because the larger exclusion remains in the law.

Another important aspect of the estate and gift tax is the portability feature of the exclusion. Historically, one person was entitled to an exclusion when they died. The Act made permanent a provision that allows one spouse to pass their unused estate exemption to their living spouse, doubling the amount the surviving spouse can gift during their lifetime without incurring a tax.

There are effects on this portability provision should the surviving spouse remarry, so make sure tax advice is obtained.

Which energy credits and provisions were extended?

Many credits for energy-efficient home improvements, appliances, new construction, two- and three-wheeled plug-in electric vehicles and alternative fuel sources were extended. However, while the credits have been preserved, there are still limitations on the applicability and amounts of the credits.

From a general perspective, the energy incentives should be here to stay and more should be in the pipeline. Those who are interested in understanding them should do a careful cost/benefit analysis on your purchase or construction.

That’s not to minimize the environmental impact of these purchases, but sometimes it is very expensive to try to be energy-efficient. And sometimes, the benefit from the credit perspective side does not offset the cost of trying to be green.

Ultimately, if you’re inclined to be green, that’s wonderful, but proceed with caution because the tax benefit may not outweigh the costs.

Cathy Goldsticker, CPA, is a partner, Tax Services at Brown Smith Wallace LLC. Reach her at (314) 983-1274 or cgoldsticker@bswllc.com.

Robin Bell, CPA, is a partner, Tax Services at Brown Smith Wallace LLC. Reach her at (314) 983-1217 or rbell@bswllc.com.

Published in National

When starting a business, owners usually think, not surprisingly, that relationships with their partners will be eternally copacetic. Unfortunately, issues among owners arise and resolution of these issues can be both time-consuming and expensive. A bit of planning at the outset, however, can prevent heartache later.

“Because of unforeseen circumstances which may arise and circumstances which business owners may foresee but choose not to address, I advise clients, at the outset of the formation of their business, that it is crucial for them to enter into a comprehensive agreement with the other owners,” says Craig M. Chernoff, a member at Semanoff Ormsby Greenberg & Torchia, LLC.

“There are many areas to be considered in these agreements and each business is unique,” he says. “It is crucial that business owners consult with their attorneys to sort through these issues and determine the best way to handle them.”

Smart Business spoke with Chernoff about the importance of agreements among business owners.

What is the role of agreements among business owners?

These agreements — primarily shareholder, operating, partnership and similar agreements — address and govern a multitude of situations by setting forth the rights and obligations of business owners across a broad spectrum of areas.

What issues might owners address with these agreements?

These issues can be broken down into four categories as discussed below. How each issue is handled may vary from business to business, and there is no one ‘right’ way or answer. So, consulting with your attorney is vital to ensure that each issue is handled in the best way to suit your business.

  • Dispositions of interests upon certain triggering events: What happens with an owner’s interest when that owner dies, becomes disabled, is terminated, becomes bankrupt or divorces? Typically, owners enter into relationships based on various personal and business factors. When a ‘triggering event’ occurs, owners generally do not want to be forced into a new relationship (for example, they do not want to be in business with their partner’s spouse). Typically, agreements provide the business and the remaining owners an option to purchase the interest of the owner affected by the triggering event. The more difficult question is valuation, and how it is to be paid so as not to cripple the business. Other considerations include obtaining insurance to fund the buyout and purchase price discounts depending on the type of triggering event.

  • Transfers of interests in the business: What happens when a business owner wants to transfer his or her interests in the business? For example, Trey (75 percent) and Mike (25 percent) own Piper Pipe, Inc. Jon offers to buy Trey’s 75 percent interest in Piper for $10,000,000. If there is no agreement, Trey may sell his interest to Jon, and Jon and Mike would be co-owners of Piper. Because business owners want to control who they are in business with, agreements may provide that an owner may not transfer an interest without first offering to the business or to the other owners on the same terms and conditions as offered by the potential purchaser. If Trey and Mike had an agreement, Trey would offer Piper and/or Mike his interest for $10,000,000. Piper and/or Mike may accept or reject the offer. If they reject, Trey would be free to sell his interest to Jon. Agreements may provide for ‘tag along’ and ‘drag along’ rights. ‘Tag along’ rights allow an owner with the right to ‘tag along’ in a sale by the other owner (favoring minority owners), and ‘drag along’ rights allow an owner to ‘drag along’ the other owners in a sale (favoring majority owners). If there are ‘tag along’ rights, Mike may choose to include his interest in the sale to Jon. If there are ‘drag along’ rights, Trey may be able to force Mike to sell his interests to Jon.

  • Management and voting rights in the business: Agreements may provide owners with certain management and voting rights. Depending on the business, one person (or a group) may run the day-to-day operations or have the right to do whatever they want with the business. Owners may vary voting requirements for certain business actions. For example, appointing officers may require a majority, but approving a merger may require unanimity. Owners may also provide a mechanism to break deadlocks, including mediation, arbitration, ‘shoot out’ provisions or even the business’s dissolution.

  • Miscellaneous: Anything may be provided for in agreements among owners, if such provisions are not contrary to applicable law. Examples are anti-dilution provisions; restrictive covenants; requirements when additional capital is needed; escrow and voting right provisions upon the sale of an interest; contribution and indemnity obligations; and truncated arbitration or other dispute resolution mechanisms.

What steps should be taken when owners are considering agreements?

When an owner wants to start a business or prepare an agreement for an existing business, the owner should meet with their attorney to discuss which issues are applicable and how to address those that are. It is often prudent to include financial and insurance advisers who may have greater insight into the inner-workings of the business, particularly with regard to valuation of the business.

What is the most common error an owner can make?

The biggest error is not having an agreement or using an ‘off-the-shelf’ agreement. Too often, people tell their attorney, ‘We never got around to signing an agreement, but now my partner and I are not getting along and we cannot amicably resolve our differences. What can we do?’ There are solutions, but resolution of these issues is less time consuming and expensive if there is an agreement in place beforehand.

Craig M. Chernoff is a member at Semanoff Ormsby Greenberg & Torchia, LLC. Reach him at (215) 887-4835 or CChernoff@sogtlaw.com.

Insights Legal Affairs is brought to you by Semanoff Ormsby Greenberg & Torchia, LLC

Published in Philadelphia

The most damaging thing women business owners can do regarding financial planning is nothing.

“It’s often the last thing that people want to talk about because they are so busy living their lives and running their businesses,” says Nancy Kunz, CFP®, ChFC®, CLU®, Lead Financial Planner at First Commonwealth Financial Advisors, Inc. “Then, by the time they figure it out, they are 65 and staring at retirement. A woman’s instinct often is to help everyone else first, to take care of everyone else, and that is compounded when a woman is also running a business,” says Natalia Paich, CPA, AIFA®, Wealth Relationship Manager at First Commonwealth Financial Advisors, Inc. “But sometimes she needs to put herself first and plan for the future of herself and her business.”

Smart Business spoke with Kunz and Paich about business and financial planning for women business owners.

How do women need to plan differently than men?

There is a high probability of a woman being alone late in life, as men tend to have a shorter life expectancy. It is important to take control of finances now, as doing so will lay the groundwork for making the choices for the future. While the thought of taking ownership of one’s finances may seem daunting, doing so both personally and professionally is imperative.

A common mistake made by women business owners is trying to do it all themselves. Instead, get help from the beginning and find the appropriate professional. Most people don’t truly understand their financial decisions and therefore make uninformed choices or no choices at all. When working with a trusted professional, women should ensure that they are active participants throughout the partnership, from hiring a professional to understanding the decisions and implications of those decisions.

What are some of the biggest financial mistakes female owners make with their business?

We mentioned that the biggest mistake women can make in regard to their finances is doing nothing. The same can be said for women business owners using slightly different words, ‘failure to plan.’  Very few businesses take the time to plan income, expenses, management of receivables and cash flows, money for capital expenditures, etc. Women should take the time to create a financial plan for their business. A big part of creating the financial plan is finding the right professional expertise for legal, tax, financial planning, etc. A business owner’s time should be spent doing what she does best — not on the behind-the-scenes mechanics.

Part of creating the right team of professionals includes where to look for them. Women should look for professionals who are familiar with and have experience with small businesses. Spending the money upfront to pay professionals can save a lot of headaches further down the road.

What do women business owners need to know about saving for retirement, and how can they balance that with other needs?

Women business owners have many options to save for retirement. The best option often depends on whether the business owner has employees, and if so, how many. Some retirement options include SEP IRAs, self-employed 401(k), self-employed Roth 401(k), SIMPLE IRAs and Keogh plans. Each type of plan has different contribution limits, may allow for tax-deductible contributions and withdrawal provisions, and may require taxation of monies at distribution.

It is important to consult with a financial adviser and/or accountant to determine which plan is best suited for the business and business owner. In regard to retirement savings, women business owners should avoid using their own retirement money to fund their business. The long-term effect on retirement savings can be significant. Monies designated for retirement should remain in retirement. Monies designated for business development and growth should be used for the business. A woman doesn’t want to find herself at retirement with only illiquid assets.

What should women know about financial planning when one spouse takes times off from work?

Keep retirement funding going, if possible. If one spouse takes time off to raise the family, increase savings into the spouse’s company-sponsored retirement plan and/or consider establishing a spousal IRA. This may not always be an option, so it is important to confer with a trusted adviser. Expectations for the family’s standard of living are paramount not only to planning but also to adjusting to one income, so those need to be realistic and continually reviewed.

If a woman business owner decides to leave her business, she should keep current with her profession so that when she is ready to re-enter the work force or start a new business, doing so will be easier.

When running a business, how can women incorporate their role as a primary caregiver to an elderly parent?

This can be financially and emotionally difficult, especially when paired with taking care of children and running a successful business. This is where long-term care insurance comes in, helping to ease the burden. Women should ensure their parents have long-term care insurance, even if they have to pay for it themselves. Oftentimes, care starts being required when a daughter is trying to raise her own family and her business is taking off.

When purchasing long-term care insurance, do the research to ensure a quality product. Certain companies are better with premiums and rate increases than others, and large annual rate increases can lead to unaffordable premiums. Financial stability of the insurance company is also important, as the need for the insurance may not arise for years.

The peace of mind acquired after confronting one’s own financial planning situation and working with a trusted adviser to put a sound plan in place is priceless, allowing you to focus on other things.

 

Nancy Kunz, CFP®, ChFC®, CLU®, is Lead Financial Planner with First Commonwealth Financial Advisors, Inc. Reach her at (412) 562-3232 or nkunz@fcbanking.com.

Natalia Paich, CPA, AIFA®, is Wealth Relationship Manager with First Commonwealth Financial Advisors, Inc. Reach her at (412) 562-3232 or npaich@fcbanking.com.

Insights Wealth Management is brought to you by First Commonwealth Bank

Published in Pittsburgh