Many business owners hold their premises because that is how it has always been. The company bought the building decades ago, paid down the loan, and now a substantial part of the family's wealth sits in a single property occupied by a single tenant: themselves.
A sale leaseback separates the two. An investor buys the building, your business signs a long lease and stays in place, and the equity is released. Combined with a 1031 exchange, the proceeds can be reinvested without immediate tax.
What is a sale leaseback?
A single transaction with two parts. You sell the property to an investor, and simultaneously enter into a lease under which your business continues to occupy it, usually on a long term triple net basis where the tenant pays taxes, insurance and maintenance.
Nothing changes operationally. The sign on the door, the staff and the work are the same. The ownership and the monthly obligation change.
Why would an owner do it?
Release trapped equity. Decades of appreciation and debt repayment sit in a building the business simply occupies. Selling converts that into capital.
Diversify. Concentrating a large share of net worth in one building occupied by your own company doubles your exposure. If the business struggles, the property's value and your income are affected together.
Separate business value from property value. Buyers of the business may not want the real estate, and buyers of the real estate may not want the business. Separating them can make both easier to sell later.
Fund the business or retirement. Growth capital, debt repayment, or income for owners stepping back.
Where does the 1031 exchange fit?
The sale is a disposition of real property held for productive use in a trade or business, which is exchangeable. Rather than paying tax on decades of gain, the proceeds can be exchanged into other investment real estate.
The usual rules apply: a Qualified Intermediary engaged before closing, 45 days to identify, 180 days to complete, full reinvestment and debt replacement to defer entirely.
Owners commonly exchange into property that produces income without management: net leased commercial property, or fractional interests such as Delaware Statutory Trusts, which are securities available to accredited investors only and carry illiquidity and costs.
What does the buyer want?
Investors buying sale leasebacks are buying the lease as much as the building. They will focus on:
- ›Lease term, commonly ten to twenty years
- ›Rent level and escalation schedule
- ›The financial strength of your business as tenant
- ›Whether the lease is genuinely triple net
- ›Renewal options and what happens at expiry
- ›The building's value if you ever leave
Stronger covenants and longer terms produce higher prices and lower capitalisation rates.
What are the risks to the seller?
You become a tenant. Rent is a fixed obligation for a long period, and it will usually escalate. Model it against realistic business performance rather than current trading.
Lease terms are negotiated once. Renewal options, assignment rights, alteration rights and what happens if you sell the business all need attention at the outset.
Rent level cuts both ways. A high rent raises the sale price but burdens the business. A low rent does the reverse. There is a real trade off, and buyers price it.
You lose control of the premises at the end of the term.
What about the tax on rent?
Rent paid by the business becomes a deductible expense. Where you own both sides in some form, the self rental rules and passive activity characterisation may be relevant, so structuring should be reviewed with your CPA.
Who is this suitable for?
Owners with substantial equity in premises, a stable business that can support a long lease, and a desire to diversify or release capital. It suits businesses nearing a generational transition particularly well, because it simplifies what the next owner has to buy.
What to do first
Get an opinion of value for the property as an investment, with an indicative rent that a buyer would underwrite. Then model the business with that rent as a cost. If the business supports it comfortably, speak to your CPA about the exchange before marketing the property, because the intermediary must be engaged before closing.
Nothing here is tax, legal or investment advice. Sale leaseback structures are technical. Confirm your plan with your CPA and attorney before acting.
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This article is educational and not tax, legal, or investment advice. 1031 exchanges are complex — consult your own CPA and attorney. DST and fund offerings are securities available to accredited investors only; all examples are illustrative.