A commercial real estate transaction it may seem overwhelming, it is different if compared to a residential, luckily our Brokers and agents are knowledgeable and skillful and will assist you through the whole process of finding and closing on an income producing property. The commercial process is close to the residential with the significant difference that commercial deals are not as regulate.
We will discuss the need to be cautious and where your due diligence efforts are most important.
There are few steps to closing a commercial real estate deal. Some of these are ongoing, and others overlap. Every transaction will go through the following
- the offer,
- due diligence,
- and processing title and closing documents.
Letter of Intent or formal offer
The initial offer on a commercial real estate transaction is usually made using a "letter of intent" which may have many other names, including "term sheet", "memorandum of understanding", "agreement in principle", "binder", and "commitment letter". Regardless of the name, the function is the same: to make an offer and outline the basic terms of a transaction. These documents may be drafted by the real estate agent or broker and in a few cases a private attorney; it will vary from case to case.
A "letter of intent" can have several advantages. It allows the parties to focus on the essential terms (usually price/rent/loan amount and closing/occupancy date) without having to determine the precise legal terms before it is necessary to do so. Additionally, by having identified the essential conditions, it can then be easier to identify the remaining open items and address them when appropriate. The parties would, therefore, be less likely to try to renegotiate or "change the rules in the middle of the game".
Initially, documenting a transaction with a "letter of intent" or LOI is sometimes seen as a way to keep a deal moving forward before signing a formal agreement. There are times when a party may want to flush out problems in a transaction before going too far, during the due diligence or inspection period. Also, having something in writing will often make a party more comfortable about further investigating the property and incurring the expense of the investigation, which they might not do without that written assurance. Often, the letter of intent will be the written authorization for a party actually to begin the due diligence or investigation of the property.
Furthermore, a letter of intent can be helpful in addressing third-party issues that often arise in a transaction. The letter of intent can serve as a blueprint for the preparation of the formal transaction documents by the parties' attorneys. , The letter of intent may refer to the agents commissions which may be paid differently from a residential transaction. In some cases, the buyer may pay part of the fee. Also, the letter of intent can be the documentation presented for a lender's or investor's considerations to finance the transaction.
Use it correctly...
The letter of intent can be binding or non-binding. If it is binding, remember that your will have additional obligations that may need to be satisfied and should be carefully reviewed. Nonbinding language may look like the following and should always be included in the letter when this is the intent
"This letter is not contractually binding on the parties and is only an expression of the basic terms and conditions to be incorporated into a formal written agreement. This letter does not obligate either party to negotiate in good faith or to proceed to the completion of a formal written agreement. The parties shall not be contractually bound unless and until a formal written agreement is executed by the parties, which must be in form and content satisfactory to each party and its counsel in their sole discretion. Neither party may rely on this letter as creating any legal obligation of any kind."
Dates by which the parties will enter into the formal agreement and a termination date should be there. It is also good practice to include terms that might be missing and will be incorporated in a formal agreement at a later date
It is advisable to have an attorney draft the letter of intent if a large sum is placed in escrow if it is in a binding format.
Just like when you purchase a home, escrow is an important part of the commercial real estate closing process. In escrow, a neutral third party such as an attorney or title agent will hold funds in trust or escrow account until either all of the requirements of the escrow agreement have been met, or until one party pulls out of the deal.
Escrow is designed to solve the problem of trust. Neither parties get paid or receive title to the property until both sides have had their agreed upon conditions met.
Escrow in a commercial setting is formal and tightly controlled. Capital for a commercial transaction will often come from many different sources which in addition to the current rules of disclosure for international buyers makes the process more complex.
Additionally due to the fact that there are fewer regulations and less control such transactions the parties must do a more extensive due diligence to protect their investments. Most deals will likely require the use of a state licensed attorney in addition to your Realtor and local title company.
The parties will often have an escrow agreement that the escrow agent must verify has been satisfied before releasing any funds.
Before money can be placed in escrow, it is customary for the parties have included in the letter intent some language as to what the escrow agent’s duties and obligations will be and what will satisfy escrow conditions allowing funds to be released to the seller of the property or returned to the buyer.
There are several common escrow agreement provisions such as:
Clause appointing the title agent to act as escrow agent and to waive any fee acting as an escrow agent
Statement of when written instructions from buyer and seller need to be received before funds can be released.
Typically escrow agents won’t have any responsibility for verification of any part of the deal other than only releasing funds when instructed from both the buyer and the seller. Instructions to release the funds are almost always required to be in writing. These initial escrow terms are usually contained in the letter of intent, and although such a letter is not a binding contract, escrow litigation may arise from it if not carefully reviewed.
Dealing With Legal Entities and Authority
One feature of American Corporate Law is that investors in a corporation are in most cases shielded personally from loss or liability by actions of the corporation up to the amount of the assets of the corporation or usually the investments. If a corporation gets sued losses are limited to the sum of the corporate assets and usually, their personal assets are not compromised, but these issues should be discussed with a licensed attorney in the state where the investment will be made
Investors know that l real estate can come with risks. Legal entities are used to protect individual investors from liability.
Even existing legal entities buying additional property will sometimes create a new legal entity or subsidiary, to isolate the risk of acquiring or selling a piece of property.
In many states, there are tax advantages to owning commercial real estate in a legal entity. We constantly suggest to our customers to retain in addition to a Real Estate Attorney, a Tax and Estate Planning Attorney, the best way to find out is to contact the local bar.
Who can do what?
A corporation may be the actual party to a transaction, but a human being will still need to sign and execute documents. It is crucial to understand who has powers for what, or find out who has signing authority for the corporation or entity.
Documents demonstrating signing authority should be received; prior formalizing a contract for purchase and sale
Due Diligence Period
Because there are fewer state and federal protections for buyers and sellers in a commercial real estate transaction, the due diligence process is much more extensive and the language referring to "due diligence period" or " inspection period" language is usually contained in the letter of intent and is usually a longer period than the actual contract period which can be considerably faster than the due diligence.
ie. The due diligence period would be twenty days and the contract period would be 5 days.
Buyers will want to make sure the following areas are in order:
The contract of sale has been properly executed
Receipt of most recent title insurance policy
Updated survey report
Receipt of true copies of all leases
Review of new environmental report and due inspections
Termination notices conditions and due diligence deadline
Delivery of all tenant estoppels
Review of the seller’s books and records, if applicable
Search for any outstanding tax cases or liens
Sellers will want to make sure the following are in order:
The contract for sale has been duly executed
Buyer has delivered down payment to escrow agent
The escrow agent has deposited
Filed a response to any objections to the title and survey report
Execution of Assignment and assumption of leases by buyer
Every transaction is different, and certain deals may require even more steps in the due diligence process than those discussed above.
No RESPA and Commercial Real Estate Closing Documents
Title and Closing Documents
Before a deal can be completed the buyer and seller must both agree to accept a title report or title commitment, as it is used in Florida and execute a series of closing documents. The closing documents may include assignments and assumption of leases, deeds, environmental reports and assignments of liability, zoning disclosures and warranties, and anything else the parties decide is necessary to close the deal.
Commercial Title Issues
Earlier in the process of negotiating the transaction, a title company issue a title commitment.
Once the title commitment is issued, the buyer representative must review and file any concerns to the report always taking into consideration the deadlines.
Buyers will want reassurances that the property is correctly zoned for its current use and for the buyer’s intended use. Zoning issues should carefully examed by the buyers attorney.
Because liability for environmental problems can be so severe, the parties will usually require a separate report and document to deal with the current understanding of environmental issues such as a known wetland or known ground or water pollution. The buyer will want some statement from the seller stating the property is otherwise free from issues, and the seller will want to try and avoid making such a statement. A document detailing the final agreement of the parties as to both the nature of any environmental issues and future liability for later discovered issues will be part of most commercial real estate closings.
Assignment and Assumption of Leases
A commercial real estate closing will most likely include an assignment and assumption of leases. This document explains that the benefits of any lease transfers from the seller to the buyer. It also transfers future liability for breaches of the lease from seller to buyer and details responsibility for lease breaches before the sale. This is also a formal notification to tenants of notifies tenants of the change in ownership.
The commercial real estate closing process can be more involved than residential real estate. D there is less federal regulation of the process, the parties have greater freedom to structure the deal and the closing documents. The closing process may take less or more time compared to a residential transaction depending on the availability of the due diligence documentation availability, in some instances the documentation is readily This article has the intention to give a glimpse of overview of the commercial real estate closing process, it’s best to consult a competent real estate commercial broker and a real estate attorney and tax attorney to discuss your particular situation especially if you are a foreign buyer.