Co-written by: Brian Fulton, Cushman & Wakefield National Self-Storage Advisory Group
While most expect 2019 storage deliveries to decrease from the development peak of 2018, the construction of self storage sites continues to thrive for all intents and purposes. Increasingly, developers as well as private equity groups are chasing the high performance and low volatility that storage has provided over the last 30 years. In our opinion, this will continue in markets experiencing strong positive net migration for the foreseeable future. As new facilities are constantly being added to these markets, the need for a solid micro market focus by investors will rise.
Storage developers are finding it exceedingly more difficult to locate exceptional opportunities with neighborhoods demonstrating low supply, strong rental rates among competitors and sizable-enough populations, or at least robust population and income growth. If this quest wasn’t difficult enough, some investors now want to add on another component; they are seeking sites located in the newly-created opportunity zones. This holy grail for an ideal development location has furthermore emerged as the unicorn of self storage investments.
The problem is that many of these opportunity zone locations are not ideal for a self storage property.
For opportunity zones, governors could nominate up to 25 percent of their low-income census tracts to the Treasury Department. For instance, Florida has 427 designated tracts to choose from. Of these in Florida, they experience an average poverty rate of 29 percent, a low median household income, and only 14 percent of the residents possess a bachelors degree. Upon a closer examination, majority of developers do not want to invest right in the middle of one of these communities; their goal is to find that perfect sweet spot on the outside edge of a zone that is abutting a nicer area, which makes it even more problematic to find.
On top of that, many of our clients that have found excellent opportunities have been outbid by multifamily developers, who from our experience can afford to pay a slightly higher site cost.
Typically, these opportunity zones offer lower average rental rates then what would be deemed necessary based on today’s escalated construction costs. However, you must factor in the benefits to see if the deal still makes sense.
When underwriting a deal, you need to consider the temporary deferral, the step-up in basis and the permanent exclusion of capital gains benefits to determine the viability of the project from an after-tax perspective.
We recommend utilizing an experienced attorney/CPA familiar with the proper steps that must be taken to establish an opportunity fund, which is the only way to correctly invest in one of the projects and obtain the long-term tax benefits. We also recommend that experienced self storage developers continue to find sites like they always have, but to add on one additional step: Run the address of a proposed site through an opportunity zone map. If you hit the lottery, and your site resides in one of these zones, you may be able to be more competitive on the acquisition price than you previously considered.
Created to stimulate economic development and incentivize investors, opportunity zones are becoming increasingly harder to find and invest in as a result. This is especially true for those in the self storage industry as we continue moving forward from peak deliveries in 2018.
If a storage investor is fortunate enough to stumble on a deliverable site, opportunity zones have the capability to be both profitable and beneficial.
Overall, we recommend that any investor who has found this potential pot of gold do their proper due diligence to ensure the opportunity is just this; a site that matches their needs, therefore providing a true opportunity to fortify their investment goals.