by John Heveron
There are several things to consider when you contemplate purchasing a building, and if you are funded primarily with federal grants and intend to use those monies for some or all of your purchase, the first thing to consider is allowability.
Uniform Guidance §200.439, and HHS §75.439 confirm that capital expenditures, such as for equipment, land, and buildings are unallowable as indirect costs and allowable as direct costs only with prior written approval of the federal awarding agency or pass-through entity. The same applies to improvements that materially increase the value or useful life of real property.
Uniform Guidance §200.311 and HHS regulations §75.318 state that if you purchase or improve real property using federal monies, your agency will hold title to the property and it must be used for the purpose that was originally authorized as long as needed for that purpose unless you obtain permission from HHS to use it for another federally sponsored project. When it is no longer needed for that purpose, you need to obtain disposition instructions from the federal awarding agency. These may include:
- you retain title and compensate the federal agency a percentage of the fair market value of the property based on their percentage of the investment in the property, although if you are disposing of the property to acquire replacement property under the same federal award the net proceeds from the disposition can be used to offset the cost of the replacement property,
- sell the property and compensate the federal awarding agency based on their percentage of participation in the cost improvements. (Selling costs are an allowable offset). The sale may be subject to competitive procedures to assure a fair price, or
- transfer title to the federal agency or another agency designated by the federal awarding agency, in which case your agency would be reimbursed for your percentage of participation in the purchase.
For a variety of reasons, such as asset protection, you may consider a sale to a related entity and a leaseback from that entity. Rental costs in these transactions are allowable but are limited to the amount that would have been allowed if you continued to own the property (HHS regulation §75.465 and Uniform Guidance §200.465).
In some cases, a sale and leaseback is considered “less than arm’s-length”. This could include sales to another division, another entity under common control, a director, trustee, officer or key employee or member of their family. Regardless, the limitations in the preceding paragraph still apply.
Some leases are treated as finance leases based on current accounting requirements. Interest expense related to finance leases are allowable to the extent they meet the criteria in §200.449 and §75.449, which limit the interest to a fair market rate and to the least expensive alternative.
Rental profits, management fees, and taxes that would not have been incurred without the sale and leaseback are unallowable costs.
So, if the purchase you are considering is allowable, is it something you should do? Your board needs to participate in important questions like this.
Building ownership can provide certain benefits and present challenges. Consider the following.
Benefits of ownership:
- mortgage payments can be lower than monthly rent, and rent increases would be eliminated although interest rates could go up,
- your organization can build equity and stability with real property ownership. Equity increases, not only through paying down the loan but through appreciation of the property,
- you have complete discretion over how the property is configured so that it can be customized for your needs,
- in some states charities that own real property and use it in their mission are eligible for exemption from, or reduction in, real property taxes.
Challenges to ownership:
- real estate can require major repairs at times, and this could consume significant resources,
- you have less flexibility to relocate to a bigger facility or to be closer to the clients you wish to serve,
- a building purchase could require a significant down payment and personal guarantees.
Questions to consider:
- do you have or can you access the skills to maintain a building,
- is or can the facility be fully accessible, and is it in proximity to various modes of transportation,
- do you have access to financing at a reasonable cost and without excessive risk,
- if you lease, do you know if the landlord has any intermediate or long-term plans for the property that could be disruptive,
- what are your growth plans for the next several years, and
- do you expect changes in services that will be provided in the future, and which may impact how your facility would be used?
Your board can most likely add some good questions, and hopefully lead you to the best answer.