“As a general rule, the most successful man in life is the man who has the best information”
As the immigration debate raged in Washington, D.C., earlier this year, inbound international investors were quietly establishing themselves as big players in the Federal City’s commercial real estate market. Cross-border investment in the District of Columbia jumped 83.3 percent year over year to $1.9 billion in the first half of 2013, according to Jones Lang LaSalle.
The destination is no coincidence. Core markets such as Washington, D.C., have been the main targets for international investors for years. Since 2007, cross-border investors have closed more than $148 billion in transactions, with Manhattan, Los Angeles, and Washington, D.C., leading the way, according to Real Capital Analytics. However, more than half of that volume was pumped into secondary and tertiary markets, driven by improvements in technology and energy markets, as well as housing.
Of course, transparency is a big draw for inbound investors. But immigration, in a sense, is also a factor, though it may not be driving the conversation on Capitol Hill.
“International investors seem to have the same motivations that local citizens have, except for the entrée-to-citizenship factor,” says Frecia Johnson, CCIM, senior vice president of Coldwell Banker Commercial in Irvine, Calif. “In the past, [inbound investors] were primarily interested in owning properties but rarely lived here. Now these investors are represented by many ethnic groups who live and work here.”
In Johnson’s market, they may be purchasing office, industrial, or retail space for their own businesses, targeting long-term investment opportunities in their neighborhoods, or buying owner-user buildings to obtain a green card. This shift is not only changing the inbound investment landscape, but also causing U.S.-based advisers to rethink how they assist these clients.
Major Players and Target Markets
A substantial amount of the international investment capital is flowing in from Canada, which represented approximately one-third of all inbound activity last year, according to Jones Lang LaSalle. But private investors from a variety of countries are seeking opportunities across a broad spectrum of U.S. markets.
Unsurprisingly, multifamily in growth markets is the most coveted property type among international investors. Since 2012, instability in foreign markets has helped to push multifamily transaction volumes back to peak levels, JLL notes. Chicago, Dallas, Houston, Manhattan, and South Florida each saw more than $300 million in cross-border apartment purchases from 1Q12 through 1Q13. Investors based in Canada were most active, followed by those based in Switzerland, Israel, the United Kingdom, and Kuwait.
Richard Knutson, CCIM, senior vice president with Cornish & Carey Newmark Knight Frank in Emeryville, Calif., recently received a referral from a local residential agent to work with Norway-based investors. He represented them in the purchase of a 20-unit multifamily portfolio in Oakland, Calif., for more than $3.6 million. “They liked the rental potential of this investment and also the conversion potential to sell as condos later,” he explains. The portfolio transacted at a 5 percent capitalization rate, with approximately 10 percent upside rent potential. (Perhaps these investors were taking a cue from their government. Norway recently granted permission for its $665 billion Norwegian Government Pension Fund Global to invest in property outside of Europe this year, according to JLL. As of 1Q13, the fund’s manager, Norges Bank Management, planned to allocate $11 billion to U.S. investment opportunities.)
But competition for multifamily properties is driving international investors to consider other sectors. “We’ve noticed more Japanese investors and some Chinese investors acquiring office buildings and hotels in Hawaii,” says Mark Bratton, CCIM, vice president of Colliers Monroe Friedlander in Honolulu. Bratton cites recent acquisitions by Japan-based Sanno Group, including the purchase of the Waikiki Galleria, a 15-story office and retail tower.
In fact, some international investors are avoiding multifamily opportunities altogether. Matson B. Holbrook Jr., CCIM, vice president of Siegel-Gallagher in Milwaukee, recently represented a Singapore-based investor seeking multitenant, grocery-anchored retail properties in noncore markets. “Remarkably, they were not interested in multifamily investment, as the news in Asia about the U.S. single-family residential market over the past five years has scared many away from residential altogether,” Holbrook says.
Distressed properties in secondary markets are also drawing attention from cross-border investors searching for better cash flow. Patrick O’Sullivan, CCIM, senior associate with Gerchick Real Estate in Phoenix, primarily works with private investors from Alberta and British Columbia, Canada, who are targeting multifamily and single-family portfolios with 7 percent-plus cap rates, which aren’t available in their markets.
O’Sullivan recently represented a Canadian buyer who purchased a portfolio of three four-plexes in Phoenix with an 8 percent cap rate for $480,000. “The property had a few vacant units, and I helped [the buyer] get an entity formed, identify the property, coordinate the inspections, coordinate the closing, and get it transferred to a property management company,” he explains. Gerchick Real Estate prides itself on being a “one-stop shop” for international investors, O’Sullivan adds.
Indeed, cross-border investors can benefit from finding U.S.-based advisers who can walk them through transactions and identify potential opportunities and challenges.
Since citizenship is a major driver of investment activity, advisers should be well versed in the EB-5 program. (See “Foreign Aid,” July/August 2013 CIRE.) This federal program grants visas to foreign nationals who invest a minimum of $1 million in projects that can create at least 10 jobs. (The minimum is $500,000 for projects located in “target employment areas.”) The two-year visa can be converted into a permanent U.S. citizenship for investors and their spouses and children.
“Investors see this program as an opportunity to diversify assets into the U.S. market, which is considered more stable than other areas,” says Ted W. Dang, CCIM, CPM, of Commonwealth Real Estate in Oakland. And Holbrook notes that several EB-5 investors are active in Milwaukee.
But federal programs and laws are also complicating the process. For example, Knutson’s Norwegian client had trouble wiring money and getting bank financing due to the Patriot Act. “All U.S. lenders we contacted were nervous about lending on the deal since the assets in the U.S. were not substantial … and the banks couldn’t consider an off-shore financial statement,” he explains. Eventually, his client closed all-cash.
The Dodd-Frank Act has also caused banks to tighten their standards. “Banks have informed us that they can only open accounts for investors from Mediterranean countries if they have a face-to-face meeting with all the principals,” says Paul L. White, CCIM, CPM, managing director of KW Commercial in Miami. “And if the investor has businesses that deal in financial markets, banks are very hesitant to open accounts for them.” After many months and many meetings, White found a community bank that was willing to accept scrutiny from regulators.
And then there’s everyone’s favorite: taxes. “For the typical agent, taxation will always be a challenge,” O’Sullivan says. As soon as his company begins working with an inbound investor, it sets up accountant and lawyer referrals. And for larger investors, it often brings in a cross-border “wealth manager” who knows the tax treaties. On the other hand, Arizona’s investment-friendly tax structure is another draw for these clients, he adds.
For Ernest L. Brown IV, CCIM, executive vice president and managing director with Newmark Grubb Knight Frank in San Antonio, working with international investors is, fittingly, a game of risk. “Dealing with the tax code is complicated and hinders the process; however, it is not unlike currency fluctuations, which can also impact returns,” he explains. “The investment is ultimately a combination of lower risk in the real estate and calculated risks when dealing with currency fluctuations and tax treatment.”
Whether driven by citizenship, transparency, or simply better returns, cross-border interest in U.S. commercial real estate continues to grow. Advisers who can provide the knowledge and resources to help international clients navigate the inherent obstacles and opportunities are setting themselves up for repeat business — not only from cross-border investors, but perhaps from new domestic investors as well.
Rich Rosfelder is associate editor of Commercial Investment Real Estate.
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