The Stairway of Benefits

By itself, does cash have any value? There is an argument that cash is only a medium of barter. It matters because of what it lets us buy, solve, or change. In a real estate transaction, it is one form of equity among several and often an intermediate step toward the benefit we actually want.

As an example, we may exchange our old car, plus add cash, to drive away with the new model. The exchange comes from both cash equity and old-vehicle equity. Or we drop by the convenience store and give cash for a quart of milk. Cash is merely the exchange mechanism that gets us the milk we need.

If we know the real goal of the person disposing of or acquiring a property, we can look beyond a cash-only transaction. The desired benefit might be income, safety, upside, management relief, tax positioning, flexibility, or a combination.

A ladder of benefits

For discussion purposes, below is a proposed ladder of real estate and personal property equities, from most desirable to least desirable.

The order could be debated. Some would put good quality mortgages up at number one or two instead of down at five. Different preferences prevail.

Why this order

In the original paper, the financing examples behind the first three positions were part of the explanation. A long credit lease could make an asset easy to sell for cash, sometimes for more than the value attributed to it in the transaction. Houses and condominiums could often be financed at 70 to 90 percent of value and sold readily. Income property could often be financed at 60 to 70 percent of value while producing visible cash flow. Those figures describe the market examples behind the original ladder, not current financing promises.

• A long credit lease can make an asset easier to value, finance, and market.
• Houses and condominiums often have broad buyer and lender pools, depending on the property and borrower.
• Stabilized income property may support both financing and cash flow.
• Mortgages can be hypothecated or sold at a discount, depending on quality.
• Developable land becomes more useful when approvals, demand, and a capable user line up.
• Personal property (boats, cars) can be fun.
• Free-and-clear non-productive land does nothing for the new owner except improve the financial statement, while negative-cash-flow property actively hurts.

In theory, it should be easy to convince yourself to move up or down the ladder.

Moving down can pay

Creative structuring makes it worthwhile for a higher rung to move down. A few ways:

• Find a user. A developer holding cash-flow income property might happily take negative-cash-flow land if he can develop it.
• Go passive. An owner with cash-flow income property, or even free-and-clear income property, might take good paper instead.
• Change the use. Solving the problem that makes a property negative can move it several rungs up the ladder, making it desirable to everyone in between.
• Make the property more attractive. Take off the loans or offset them. Negative-cash-flow land and income property can become break-even or better.
• Sweeten. Cold-storage land is hard to swallow by itself. Adding sufficient cash or paper brings a completely different taste. Less desirable properties advance in acceptability when sweetened.
• Solve the other party's problem. Willingness to take on and solve problems attached to a more desirable property often makes the transaction work: finding users for vacant space, refinancing an over-encumbered property, working out title problems, developing out part of a site, or carrying the payments while a tenant is found.

Where there are challenges, there are solutions. To be effective, we must be both creative and practical.

Remember: there is no bad real estate, only inappropriate or untimely ownership.