Commercial real estate feels pinch: Concerns mount for income-producing properties. Tightened credit has slowed the market and cut into refinancing.

Oct 06, 2008 (Star Tribune - McClatchy-Tribune Information Services via COMTEX) -- REIS | Quote | Chart | News | PowerRating -- Twin Cities-area commercial properties haven't been hit with a rush of foreclosures like the housing market, but the unsteady economy and credit squeeze are making it increasingly difficult for some owners to pay off their debt.

The commercial real estate market in the metropolitan area and across the county has been feeling the effects of the subprime housing lending meltdown for more than year, with tight credit slowing what had been a brisk market in income-producing properties. Reis Inc., a New York-based real estate research firm, recently estimated that nationwide prices for office deals were down 11 percent from last year, while retail property prices were off 4 percent and warehouse property prices were down 7 percent.

Now, the capital markets crisis of the past few weeks could be triggering bigger problems. Investors who bought at the top of the market with short-term debt are having trouble refinancing.

Vacancy rates for area office, retail and industrial properties already have risen this year and could climb higher if the economy forces businesses to reduce or vacate space. That could hurt some building owners' ability to generate enough income to pay mortgage loans. And it might stimulate owners to challenge their property valuations for tax purposes -- a concern for local governments.

Warning signs

A recent report by Bloomington-based NorthMarq noted that some lenders have begun to put foreclosed land on the market and said it's a trend that seems to be gathering momentum.

In some cases, the foreclosed land is tied to the meltdown in the homebuilding market and is being offered at substantial discounts. In June, Wells Fargo Bank hired the Twin Cities office of CB Richard Ellis to sell about 300 residential lots in two distressed suburban developments. In both, the asking prices are about 25 percent below the lots' original prices.

But the NorthMarq report said foreclosures also have spread to properties not related to housing, such as a 38-acre industrial site in Maple Grove. Earlier this year, United Properties agreed to buy the site from Bremer Bank, according to Teresa Morrow, the bank's spokeswoman.

No public agency systematically tracks the number of foreclosed commercial properties across the Twin Cities. Counties typically record foreclosures using property identification numbers, and in the past haven't classified them by property type.

But Hennepin County recently began trying to sort foreclosures by property type to provide more information to its foreclosure task force. The task force has focused primarily on residential foreclosures but it also looks at foreclosures in multi-unit rental properties to determine their effect on renters.

In the first half of the year, there were 25 foreclosures on commercial-industrial properties in Hennepin County. That compares with 32 for all of 2007. If that trend continues, it would amount to a 56 percent increase. Foreclosures of apartment buildings also are on a pace to exceed last year's total of 75, with 46 recorded as of June 30.

The estimated market value of apartment buildings and commercial and industrial properties in Hennepin County this year is up over 2007 -- unlike residential property values, which declined, according to the 2008 Hennepin County Assessor's Report.

Hennepin County assessor Thomas May and Minneapolis assessor Patrick Todd said that if commercial property values were to decline and foreclosures increase, the distribution of the tax burden would change. Exactly how it would change would depend on what happens to other property classes, they said. May and Todd said it's possible that more commercial property owners could wind up challenging their tax bills if property values fell.

Commercial-industrial properties and apartment buildings accounted for just 1.8 percent of all foreclosures in Hennepin County for the first half of 2008 and for all of 2007.

"You're starting to see them here and there, but there's no big increase," said Larry Chevalier, a senior vice president at the Twin Cities office of Colliers Turley Martin Tucker.

This summer, Chevalier handled the sale of a foreclosed property at 900 N. 3rd St., in Minneapolis' warehouse district. It had been owned and occupied by J. Buxell Architecture, which filed for Chapter 11 bankruptcy in April.

Jack Buxell, a principal, declined to comment on the foreclosure or bankruptcy of the firm, which has specialized in multi-unit housing projects. Buxell paid $565,951 for the four-story building in 2000, according to Hennepin County property records. Bankruptcy court filings show that it was sold for $2.2 million, about $1 million less than Colliers' initial asking price.

Another recent foreclosure took place a few blocks away at a three-parcel property at 17, 21 and 25 N. 3rd St. Minneapolis-based Landmark Properties US Inc. had bought the properties -- a vacant building and two parking lots -- in 2006 from Twin Cities restaurateur John Rimarcik. In February, the properties reverted to Rimarcik, who declined to discuss the matter.

Michael Crosby, who heads Landmark, said the company had planned to resell the properties to a hotel or condominium developer. "The clock ran out on the contract for deed before that could be accomplished," he said.

The investment would have been the first in Minneapolis for Landmark. The company's most recent project is a residential and golf course development in California that got caught up in lawsuits from environmentalists and investors.

The investors' lawsuit accuses Crosby of using funds for personal expenses and to buy a property in Minneapolis. Crosby declined to discuss the suit. The investors' attorneys declined to say whether the Minneapolis property mentioned in the lawsuit is the one he bought from Rimarcik.

Twin Cities not immune

Russ Bushman, chief credit officer for Minnwest Bank, said commercial property foreclosures in the Twin Cities are reaching a "bit of a bubble." Most of the ones Bushman said he's familiar with involved small retail properties that failed to attract tenants or were unable to refinance. Many were bought by homebuilders trying to move into the commercial market, he said. "It wasn't their area of expertise."

Minnwest was involved in two recent foreclosures involving large properties in Minneapolis. Earlier this year it took ownership of two condominium developments: Mill Trace Condominiums, a 50-unit project at 619 SE. 8th St., and 1010 Park Av., the site of a mixed-use project that was to include 382 condo units and street-level retail.

Area real estate experts say they don't believe the Twin Cities will experience the kind of increase in commercial property foreclosures that's occurred in some other parts of the country. They say that's partly because of lower levels of speculative development than in markets such as California, Texas and Florida.

Realpoint Research, a Pennsylvania-based credit analysis company, recently reported that through the end of August, Texas and Florida accounted for more than 30 percent of delinquent commercial mortgage-backed securities, which are repackaged loans on hotels and retail, office and industrial properties.

The overall delinquency rate for commercial mortgage-backed securities has edged up this year. As of July, it was at the highest level since September 2006, according to the Commercial Mortgage Securities Association. Even so, the rate is low by historical standards.

What's unclear is how much those rates will be affected by recent fallout from Wall Street and how much pain will spread to relatively stable markets such as the Twin Cities.

Susan Feyder --612-673-1723

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