The Baker House Newsletter Issue XI
Pay Yourself the Rent
Every business that rents its space is paying down a mortgage, usually someone else’s. This issue covers buying the building your business occupies, the retiring landlord who can finance the sale, and when staying a tenant is the right call.
THE LEAD
The Tenant Who Should Own the Building
The shop owner, the contractor, the dentist, and the gym operator each write a monthly rent check that builds equity for a landlord they may never have met. The better arrangement is for the business owner to own the building too, held in a separate company that collects the rent, so the same check builds the owner’s equity instead. Most small business owners rent for the life of the business and never buy.
The most likely seller is the landlord the business already pays. Individuals own most of America’s small commercial buildings the same way they own its small rentals, many for decades, and a generation of those owners is aging toward a sale. A retiring landlord has reasons to carry the financing on a sale to a longtime tenant. The price and terms are negotiated directly between buyer and seller, with no loan committee. An installment sale spreads the capital gain across the years the payments arrive instead of landing it all in the year of the sale. And the note itself is a retirement asset: steady interest income, secured by a building the seller has owned and maintained for years. The buyer’s advantage is the security clause. A seller can agree that if the loan defaults, the remedy is taking back the building, with no claim on the buyer’s other assets. Banks at this scale rarely lend without a personal guarantee, so seller financing is usually a first-time commercial buyer’s only path to debt that puts nothing else at risk.
Where the seller wants the full price in cash, the SBA 504 program is the fallback: 10 percent down in the standard case, a bank first mortgage near 50 percent, and an SBA-backed second loan near 40 percent at a fixed rate on terms up to 25 years, against the 20 to 30 percent conventional commercial loans commonly want down. The program requires a personal guarantee, and the business must occupy at least 51 percent of the building. Every square foot past that can be leased out, and readers of the house hacking issue will recognize what that permits at commercial scale: buy a building slightly bigger than the business needs, occupy the majority, and let tenants carry part of the mortgage.
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CHART
THE SELLER CARRIES
THE TURN
A renting business owner loses more than the rent itself. A good business improves its corner. It draws traffic, builds a reputation at that address, and trains customers to come to that spot. At renewal, the rent tends to rise toward the value the tenant helped create, and the tenant’s alternative is walking away from an address their own work made valuable. Owning converts that loss into equity: the improvements, the traffic, and the reputation all accrue to a building the business controls.
The ownership also changes what retirement looks like. Many small businesses are hard to sell, because the business is the owner. The building under it is a far more ordinary thing to sell or to keep, and an owner can retire the business while the property keeps paying rent from its next tenant. Attorneys usually structure the two halves separately from the start, the building in its own entity leasing to the operating company, so each can someday be sold, kept, or passed down on its own schedule.
A business that rents for twenty years buys the building once, for its landlord.
THE FRAME
One Property, Two Ways to See It
| WHAT THE MARKET SEES | WHAT A DISCIPLINED BUYER SEES |
|---|---|
| A shop renting on a working corner | The building’s most natural buyer, already in place |
| A building bigger than the business needs | Majority occupancy plus tenants carrying the balance |
| A landlord getting older with the lease | A seller who trusts the buyer and may carry the loan |
WHAT TO LOOK FOR
Start with your own landlord. The best first conversation is about the building you already occupy, especially when the owner is an individual who has held it for decades. You are the buyer they know, the sale needs no broker, and the opening questions are simple: would they sell, would they carry the note, and on what terms. The worst outcome of asking is learning their plans early.
The note. A seller note is a real mortgage and should be documented like one: a recorded lien, a written amortization schedule, and a professional servicer collecting the payments. Order an appraisal and an inspection; in a seller-financed deal no lender requires them, and the price needs independent confirmation.
The occupancy math. If the purchase runs through the SBA program, the 51 percent rule is measured in actual square footage, so get the building measured before negotiating. A building where the business fills 40 percent does not qualify as a purchase under the program, and one where it fills 95 percent leaves little rentable space to help with the payment.
The structure. Have a lawyer set up the building in its own entity with a real lease to the operating company from day one. The two-entity structure keeps the asset separable for retirement, sale, and estate purposes, and lenders in this market see it every week.
The guarantee. SBA debt is personally guaranteed, and so are most small bank commercial loans, because non-recourse lending starts at building sizes a first purchase rarely reaches. A disciplined buyer treats recourse as a cost to minimize: pursue seller financing first, and where a guarantee is unavoidable, negotiate its release once the loan has years of clean payment history and the building’s income covers the payment with margin to spare, then refinance into debt secured by the property alone.
The capital question. The down payment competes with inventory, hiring, and marketing. A fast-growing business often earns more reinvesting in itself than in its walls, and the right answer for them is renting on a long lease with renewal options. Buying fits best when the business is stable, the location is the asset, and the owner plans to be there for years.
HOW THE MATH WORKS
A business pays 4,000 dollars a month in rent, 48,000 a year, using round numbers. Its building would sell for 600,000. The landlord agrees to carry: 60,000 down, and a note for the 540,000 balance at 6.5 percent, amortized over 25 years with a balloon in year ten. The payment runs about 3,650 a month. Taxes, insurance, and maintenance now belong to the owner, so the true monthly cost lands above the old rent at first, and the comparison shifts every year after. The payment is fixed while rent was headed up at every renewal. Part of each payment retires principal, which is equity, while all of each rent check was gone. Where the building includes a second unit renting for 1,500 a month, the arithmetic tilts decisively. The balloon means roughly 420,000 gets refinanced in year ten, with a decade of payment history behind the loan by then. Run it over twenty years and the difference is a paid-down building on one side and a stack of rent receipts on the other. This math works for a business that plans to stay. A business that may need to move in a few years is better served by the lease it already has.
THE RISKS
The business and the building now rise and fall together, and the bad year that hurts revenue is the same year the mortgage still comes due. A landlord spreads that risk across tenants; an owner-occupant holds it all. SBA loans carry personal guarantees, so the building’s debt reaches the owner’s house if things go badly. The down payment can starve a business that needed the capital for growth. A lease preserves the freedom to move when a business outgrows its space or a corner declines, and a purchase trades that freedom away. A seller note carries risks of its own: the balloon comes due whether or not good refinancing is available that year, and a seller offering friendly terms will sometimes price the building above what a cash buyer would pay, so the deal needs an appraisal either way. Ownership also brings the roof, the systems, and the parking lot onto the owner’s budget, and on the program path the SBA second loan carries a declining prepayment penalty in its early years, so the exit is more expensive than the entrance. The move is best made from strength: a stable business, real reserves, and a location worth holding for decades. The category is real, and the individual deal is earned through diligence.
THE WIRE
The Sellers, the Program, and the Structure
The preferred buyer is the tenant. A sale to the longtime tenant needs no broker, no marketing period, and no vacancy risk while the building sits on the market, and the buyer already knows the building’s condition from years of occupying it. A lease renewal is a natural moment to ask about buying.
The program is growing. The SBA approved 6.6 billion dollars of 504 loans in fiscal 2024, and fiscal 2025 volume ran roughly 13 percent higher, per SBA activity data. The structure behind each one is the same: a bank lends about half, an SBA-backed development company lends about 40 percent at a long fixed rate, and the business brings the remainder. Few renting business owners know a fixed-rate second mortgage of this kind exists.
The structure outlives the business. The two-entity form, a property company under an operating company, has carried family firms through generations because each half can survive the other. Businesses close, pivot, and sell. A well-located building keeps collecting rent from whoever comes next, which is why many real estate families began with exactly this: one business and the one building it occupied.
The strategy is a century old. The starting point is finding out who owns your building, and what it would take to buy it.
OFFICE HOURS
Whether your business should buy its building, how to ask your landlord to carry the note, how the two-entity structure works, and when renting is the smarter answer: Richard takes questions on all of it every Wednesday at 2pm ET in his free office hours. He answers whatever attendees ask, live, for an hour. If this issue raised a question for you, bring it.
SOURCES
- U.S. Small Business Administration, 504 program: 50-40-10 structure; 51 percent owner-occupancy requirement with remaining space leasable; terms to 25 years; projects to $14 million; higher equity for newer businesses and special-purpose properties.
- SBA 7(a) and 504 activity data, FY2024 and FY2025: approximately $6.6 billion of 504 approvals in FY2024, with FY2025 volume roughly 13 percent higher, via Growth Corp, a certified development company.
- Commercial lender guides on owner-occupied financing: conventional down payments commonly 20 to 30 percent.
- IRS installment sale rules, Section 453 and Form 6252: gain on a seller-financed sale is generally recognized as payments are received; interest on the note is taxable income to the seller.
- Payment figures in How the Math Works are illustrative, computed at a stated 6.5 percent seller-note rate amortized over 25 years with a ten-year balloon; seller-note terms are negotiated deal by deal, and actual 504 pricing is set at debenture sales and by the bank portion.