Commercial foreclosures a looming problem

Staying put
A building in this complex of office condo's in White Bear Lake faces possible foreclosure, even though the medical clinic renting the space says it's doing fine and is staying in the space.
MPR Photo/Dan Olson

The best port in any storm is Nancy Poferl's coffee and chocolate shop in White Bear Lake, called, So What's New at the Chocolate Spoon?.

"We do have the best coffee in town," she offers while steaming milk for an au lait.

Poferl and her business partners are holding their own in these perilous times. However the rocky economic shoals may have claimed a victim a few steps away from their store front.

Nancy Poferl
So What's New at the Chocolate Spoon? owner Nancy Poferl says commercial real estate foreclosure in White Bear Lake is not widespread however she's worried about how the economy is affecting property owners.
MPR Photo/Dan Olson

The neighboring landlord in their downtown White Bear Lake office condo complex has had money troubles and is facing foreclosure.

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"There's absolutely nothing wrong with the tenants, it's the owner of the property that had some issues," Poferl said.

The latest word from the banker holding the loan on the property is that foreclosure is on hold pending a deal with property owner.

So far, commercial real estate foreclosure numbers in Minnesota are miniscule compared to home foreclosures. Even so a trend is emerging.

Numbers gathered by assessor Stephen Baker for Ramsey county show seven commercial real estate foreclosures in 2006, 11 in 2007, and 33 in 2008.

Hennepin County commercial real estate foreclosures last year totaled just under 50, assessor Tom May said. The big changes in commercial real estate market conditions started occurring in September 2008, May said, and 2009 numbers will likely reflect what those changes mean.

In most cases, commercial real estate foreclosure won't look like residential foreclosure where homes sit boarded and vacant, according to Minneapolis real estate consultant James McComb.

Instead, McComb says, most of the buildings and the businesses leasing space in them will stay open.

Tom Musil
Investors hoping to refinance commercial real estate loans to avoid foreclosure face bleak prospects, according to University of St. Thomas real estate professor Tom Musil. That's because many lenders aren't loaning money for commercial real estate ventures.
Photo courtesy Tom Musil

"They'll just send their rent to a difference mailbox," he says.

But not in all cases.

Some retail and office buildings may be shuttered, University of St. Thomas real estate professor Tom Musil said. Smaller strip malls on the edges of metro areas have been hit hardest so far, Musil said. The reason is people have cut back on spending at the businesses renting space in them.

"Pizza parlors, karate shops, maybe a dance studio and a very small tenant," he says.

Across the country last year 6000 strip malls fitting that description went dark, according to Musil.

"That 6000 number is predicted to hold true for 2009," he says.

Why is this happening?

The reasons parallel those that brought us the home mortgage meltdown, experts say, and those are easy credit and loose loan standards.

In some instances commercial real estate investors needed next to no money down to buy property, Matt Boehlke, a Twin Cities-based executive with Grubb and Ellis, a national commercial real estate owner and property manager said.

"They could finance almost 100 percent of it," he says.

Commercial real estate foreclosure is a big problem in many areas of the country.

Getting a clear picture of the size of the problem in Minnesota isn't easy. A number of people including bankers contacted for this report declined to speak on the record.

Off the record, some denied it's a problem here. Others including owners, property managers and commercial real estate attorneys say the problem is just now emerging and will grow.

Commercial real estate foreclosure has ripple effects on adjacent properties, according to Minneapolis real estate consultant James McComb.

"A falling tide lowers all boats," McComb said.

It will take several years for the tidal effects to be felt but he believes it will be widespread.

"I think that this is going to be affecting real estate across the country, across the world actually," McComb said.

What's the impact on taxpayers? We probably end up paying the tab, one way or another. Here's why.

Commercial industrial property owners in Minnesota will pay $2.4 billion in property taxes this year, according to Steve Hinze, a tax analyst for the Minnesota House of Representatives. Of that, 70 percent goes to counties, cities, school districts. The rest, Hinze says, goes to the state.

Foreclosure pushes commercial property values down. Taxes on the property decline.

The gap in many cases, Hinze says, is filled by spreading the property tax burden among others including homeowners.

The silver lining is that as with home foreclosures, commercial real estate foreclosures mean investors with money can buy property at bargain prices.