Value-Add Properties and the Benefits of Depreciation in Indianapolis

This month, we’re exploring benefits available to potential investors in the recent acquisition of a 996-unit multi-family apartment community project in Indianapolis. 

About the Property

Riverbend Apartments is located 0.3 miles from the city’s “Magnificent Mile,” the dynamic north side corridor that includes the finest and most dense collection of amenities in the state, including numerous high-end retailers. 

The complex also lies just over a mile from Keystone at the Crossing, one of Indianapolis’ most prestigious business addresses. In addition, the area is home to nearly 5,000 medical jobs in two nearby hospitals and dozens of medical office buildings. The location offers superior access to the region’s best employment, shopping, and dining and is a premier value-add reposition candidate. 

Built in phases between 1982 and 1986, the property was acquired by the current owners in 2004. Though it has been well maintained over the last 15 years, unit interiors are of varying levels of quality, the majority of which are outdated and unable to meet the current demands of renters in the Castleton submarket who would like to see new kitchen cabinets, new appliances and a number of other things. When those interior things are improved, it becomes a much easier rent at the market rate versus below market rate. 

Furthermore, the property has been undermanaged due to the fragmented ownership structure. Given the strong demographics in the submarket and the significant variance between current rents and those of nearby Class A and renovated apartments, Riverbend Apartments is a prime value-add candidate–an incremental value add, not a heavy renovation.

Why We Chose to Invest

It’s almost 1000 doors, which translates to around $19,000 a door in renovation. Again, not all money goes internally. A good amount of it is going to be in common areas and so on. But nearly $20,000 on average per unit is a pretty substantial improvement.

The sponsor projects a $228 rent premium for upgraded units, bringing rents in line with similar properties and bridging the large gap between the current rents at the property and the nearby comparable set. 

An opportunity came along for us to get involved, so we invested and are sub-syndicating $2.5 million out of the $3 million we’ve placed in the deal. As noted, the asset itself is 996 units, and it’s in a great area of Indianapolis with proximity to Class A office and retail and the rents in this complex is below the market, so the upside is significant. The common equity is about $10.3 million. The whole asset was acquired for around $97 million.

Projected Outcomes for the Project

Essentially, we took a piece of the action and are turning that into a feeder fund. We’re making available less than two and a half million of the three although we may not sell all of it. There will be an 80-20 waterfall on this investment.

To make a long story short, those who participate will get the appreciation benefit and a lot of upside from the deal; however, we are taking a bit of a fee here for fronting the money and for putting it all together. While this deal may not be for everybody, it’s tailor made for those who want accelerated appreciation and who are comfortable with an IRR in the high teens. 

The deal is a growth project with cashflow as an added bonus, so we’re enthusiastic about it. Our sponsor is highly experienced with a history of renovation and a proven record of maintaining occupants over 90% which should enable decent cash flows the first couple of years. As always, there is no crystal ball, but all signs point to an investment of great potential. 

Under the Sponsor’s assumptions, the investment in our sub-syndication Class B units is forecast to generate investor returns of a 17.8% IRR and a 1.95x multiple on invested capital (MOIC) over a five-year hold. Transaction capitalization is forecast to total $123,350,000 ($123,845/unit) and includes a $19,000,000 capital improvement budget ($19,076/unit). 

In addition, though the property has been well maintained for the most part, it can be improved, but the rents are currently below the market. As properties are renovated, they can be leased up, and in this case, the increase in the rent could be from $792 on average to $1019 on average, a significant increase. The market supports it for sure, and that would increase cash flow substantially upon completion of the value-add cycle at that point. 

*Investor Note: By the publication of this newsletter, we will have put together a PPM and offered a private placement round to participants. For those in the audience who might be interested, I want to outline some of the investment details as well as what we see as benefits to potential investors. Please bear in mind that we expect the syndication to be full sooner rather than later and that only accredited investors may apply.

Investment Details

1. Attractive Risk Adjusted Returns with Cashflow

The five years of cashflow projected to the Friends and Family investors range from year one at 3.95% to year five at 9.86%. Investor level returns are projected at 17.7% IRR and a 1.95X multiple when the sales proceeds of $160,000 a unit are included.

Renovation will occur as the units come empty: 30-40 per month. We’re expecting to be cashflow positive during the 3-year renovation. Distributions will be paid quarterly, and we’re working with an in-house project and property management team with a proven execution track record.

2. Sponsor Fees

The fees to the sponsor are very reasonable: the GC fee is reduced from 7% to 4% and the property management fee has been reduced from 3.5% to 3%. The acquisition fee has been reduced from 1% to 0%.

3. Attractive Depreciation Allocation

A significant benefit from this deal is the massive accelerated depreciation through which investors will be allocated a greater portion of the depreciation benefits relative to their investment.  The depreciation will be allocated to only $10,300,000 of the total capital stack. The first mortgage, the preferred equity investor, and the seller investment do not share in the depreciation.

This is a common occurrence on value-add projects which will benefit Tempo Growth Fund LLC and our investors. For those who could benefit from accelerated depreciation, who could use passive losses, accelerated depreciation passes through as a loss. Furthermore, there is a significant tax benefit if you can claim real estate professional status. 

Attractive Depreciation Allocation: We estimate a 2.4-2.7%+ depreciation year 1 and over all 3x+ depreciation to investment ratio.

  • For example, $100,000 invested is estimated to generate $240,000+ depreciation in year 1
  • You have to be a real estate professional (REP) to use losses against ordinary income, or have passive investment gains to offset passive losses, if not a REP, but consult with your CPA for Advice.

4. 1031 Exchange

A second case to be made for investing applies to instances in which you’ve sold appreciated real estate. Here, those who would rather defer than pay taxes can do a 1031 exchange and move their money to the next project with a low-cost basis.

The alternative to a 1031, which admittedly has a number of complexities, involves selling your depreciated asset without any 1031 exchange–you just sell it outright, and then you have capital gains. But you offset them by investing in a project, and the accelerated appreciation creates significant paper loss. In this case, you have a gain from the previous project and a loss from the current one, so they simply offset each other. Here, it’s essentially as if you did a 1031 exchange. It works for passive investors in that form. 

*Note: Please bear in mind that I’m not giving investment advice; you should always consult your CPA and determine if it makes sense for you. That said, it is a viable technique that has been used by a number of sophisticated investors who would just sell outright instead of doing a 1031 exchange; as a result, they get into a deal like that with massive accelerated appreciation and the deductions offset the gains from another project. Please note that it has to be done in the same tax year.

5. Capitalization Costs

Total capitalization of the deal is projected to be around 123 million. The equity piece in which we’re participating is common equity which has the highest upside. The equity is a little over 37 million. The rest is first lien mortgage, around $86 million dollar: $66 million in closing and $19 million in renovation reserve and interest reserve. 

About $20 million is held back to service the debt in addition to supplying the capital for the renovation. It is a four year, four-plus-one loan from insurance company, Avoya.

6. Cashflow From Day One

We have adjusted the cashflow for the waterfall here and are projecting around 3.95-4% in year one, plus or minus, depending upon how the project goes. While this is not a large amount of cashflow, again, there is cashflow from day one, and then it improves over five years and reaches into almost 10%. Overall target IRR, as I mentioned, is 17.8% to the Class B units which investors can subscribe to. The upside is that we’re shifting from rents well below the market. Distributions will be quarterly.

Once the project is through the value-add renovation cycle, we expect the cashflow to go up at which point everyone benefits. As we’ve learned, the sponsor actually would love to keep the property and REFI it instead of selling it. 

To reiterate, the project will have very attractive accelerated depreciation. Again, these are projections, and things may materially be different. However, the segregation study is supposed to be around $30 to 35 million range plus construction over a couple of years; again a $90 million budget in two years is projected to at least go through $50 million of the total, perhaps even the full budget.

We envision that there will be a significant paper loss in the first year. Even following the waterfall everything else will project. True, it’s a conservative projection, but again, it’s a projection in which investors will get to about 2.4- 2.7% on their money that they invest into this deal through our sub-syndication. 

Again, we’ll have PPM that’s the only offering document. This is just informational. In other words, if they invest $100,000 into our deal, they should be able to get about $240,000 to $270,000 of deduction in the first-year paper loss.

If you’re in a high tax bracket and you could use the depreciation, if you’re a real estate professional, or you are a passive investor, but you have paper gains, this could be for you.

7. Passive Investment Gains (aka PIGS)

In order to reduce tax liability, think of this way: PIGS need PALS. PALS are Passive Allocation Losses. So, depreciation passes through as a Passive Allocation Loss. So, PIGS need PALS.

When you take your $100,000 and you invest in this project, you get approximately $240K to $270K of PALS. Passive Allocation Losses, that may be a little different, relate to the cash flow. So if you get some cash, and it’s a little reducing and it’s a range, but Ballpark instead of writing IRS a check, if you have an income of say $250,000 from sale of another property, and then you took 100K of that money of your gain and you invest in this project, you may get again projected.

Say $250,000 paper loss, it will offset your tax liability on that previous gain. And depending on what state you’re in, the tax bracket, your personal circumstances, you may completely offset it. Maybe you’ll have some leftover or maybe a little short but conceptually, instead of writing IRS a check, you’re writing the check into the deal, using the passive relocation losses to save on taxes with obviously advice from your CPA formation that you can do it.  A very attractive benefit.

8. Exit Strategies

There are multiple exit strategies on this project, and the IRR could be enhanced if there is a sales event or REFI event on the early side. We believe the projections are realistic.

*Full disclaimer: We just don’t know for certain because we’re living during the age of COVID. There’s a lot of uncertainty but at the same time, a REFI event or a return of capital–partial return of capital–or sale in less than five years could improve the IRR.

An additional disclaimer: if you get the accelerated depreciation benefits, you have to recapture. Therefore, you will need to find a similar project and kick the can down the road. It’s the same concept. When individuals are exited from a project like this, they have to find a similar project and then rinse and repeat. Otherwise, unfortunately, the taxes are due at that point.

The deal is leveraged because of a first lien mortgage around $86 million (1st mortgage) and then the preferred equity is $22 million. The consequence is that it’s a highly leveraged deal and the deal was designed for these depreciation benefits. 

The seller has agreed to forego depreciation benefits, but it’s a leverage deal, and it’s not for the faint of heart. We believe that depreciation benefit, if you can use it, creates a downside protection for you, even if the deal goes haywire. Again, I’m not saying it will, but if it does, you already received the depreciation benefits.

What’s really a positive aspect of the deal is the substantial nature of the complex. Large institutional players would love to buy 1,000 doors in Indianapolis which is known for being a very predictable market; as we know, people need to live somewhere. These types of assets are always in demand.

9. Cap Rates

The project is underwritten conservatively in terms of cap rate. It’s possible that the cap rates can contract a little bit further in the current low interest rate environment. And there is also risk to the leverage which we’re completely up front about.

There’s a preferred equity investor who has committed $22 million of equity investment. This Equity will get a Preferred annual return of 7%, 8%, 9%, 10%, and 11% per year. The LP Common Equity will then get a maximum annual return equal to the Preferred Equity Return then the remaining annual cashflow goes to the Preferred Equity. The Preferred Equity also gets a Capital Event Preference to a 12.5% IRR. This investment gets a return up to a 12.5% IRR plus 20% of the proceeds above a 12.5% IRR return to all the Equity ($37.3M).

If there’s not enough common equity then the common equity doesn’t get paid, but preferred equity, as its name implies, does get paid. So, it’s a tiered approach and the reason it’s increasing from year to a year is the property is expected to perform better after renovations. 

10. Value-Add

As mentioned, there’s about 28% upside in the rent increases, about $228 per unit, starting from under $800 and surpassing $1000. This is a significant, straightforward value add.

There’s a little bit of an instant upside in the property, but most of the value is created through the renovation plan. Again, we’re working with an experienced sponsor who we have a track record of working with.

Let’s look further at the rent upside. As we stated, the property is going from the current rent of $792 to post-renovated rent of around $1019. A lot of comps are a significantly higher than these. New construction is renting at almost 1500 bucks.

So, it becomes an affordable alternative versus more expensive options. Once the renovation is complete it will feel and look like a new property in many ways based on the stainless-steel appliances, Shaker style wood cabinets, marble countertops, marble backsplashes, open floor plan, etc. You’ll recall the budget for renovation is around $20,000; a large portion of the funds, $13,000 roughly, will go into interior renovations. 

When you get to the top line with more or less the same operating costs, it all goes to the bottom line which creates a significant opportunity to increase net operating income and cashflows.

Please Reach Out if You’re Interested (Visit

If you’re interested in participating in the project, please reach out as soon as possible. Bear in mind that the newsletter is not an offer to sell; we’ll be more than happy to send you a PPM.

As mentioned, it should be available by August 1. If you’re in a position where you would like the benefits of depreciation with either capital gains to offset or you’re in need of a deduction as a real estate professional, reach out to me at or by phone at 917-806-5029. You can also schedule a time to chat via

To learn more about fund investing, visit

Thanks for reading,

Mike Zlotnik
CEO, TF Management Group LLC

This newsletter and its contents are not an attempt to sell securities, nor to sell anything at all, nor provide legal, nor tax accounting, nor any other advice. The presenter is a private lending and real estate fund management business, and the information represented herein are purely for educational purposes and represents the opinions of the presented. Prior to making any investment or legal decision you should seek professional opinions from a licensed attorney, and a financial advisor.

TF Management Group LLC (TFMG) is an investment fund management company that specializes in both short-term debt financing for real estate “fix and flip” projects, and long-term “value-add” equity deals.