Commercial real estate due diligence is a process that is often overlooked, but it’s one of the most important steps in any commercial real estate transaction. This process helps you verify all the information you’ve received about a property and uncover any potential problems or issues. This blog post will discuss what due diligence is and what you need to do to complete it effectively. We’ll also provide a checklist of items you should investigate during due diligence.
Due diligence in commercial real estate involves identifying and evaluating all factors that could affect the value, operations, and future uses of a property. It is an important step in the purchase or sale agreement to ensure that you know exactly what you’re getting into.
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What is due diligence for real estate?
It is a process of confirming all facts and details about a potential investment or product. Doing so can verify the information you have received and uncover any potential problems that could affect your decision.
Understanding the basics
Due Diligence Investors are always searching for innovative ways to make the most of opportunities in the commercial real estate marketplace, which is always changing and moving quickly.
Prior to buying a property, commercial real estate due diligence involves analyzing and researching it. This will be one of your largest investments, so you want to make sure you choose wisely.
How long does Due Diligence take and when does it begin?
The due diligence process depends on how clever the buyer is and how complicated the deal is.
If the deal is more complicated, it could take between six to twelve weeks
Still, it’s important to keep in mind that the time for due diligence can be changed. A buyer can ask for a longer timeframe, but a seller can always talk about shortening it.
Due Diligence Requirements of the Seller
Here are the following requirements of the seller:
General corporate documents
The seller must provide general corporate documents, such as the articles of incorporation, bylaws, and minutes of board meetings. These documents will help you to understand the company’s ownership structure and how it is governed.
Financial statements
The seller must provide financial statements for the past three years. These statements will give you a better understanding of the company’s financial health and performance.
Operational documents
The seller must provide operational documents, such as the lease agreement, property management agreement, and floor plans. These documents will help you to understand the day-to-day operations of the business and how it is run.
Material agreements
The seller must provide any material agreements, such as the purchase agreement, loan agreement, and franchise agreement. These documents will help you to understand the business’s obligations and rights.
Intellectual property
The seller must provide any intellectual property, such as patents, trademarks, and copyrights. These documents will help you to understand the business’s intangible assets and how they are protected.
It is crucial to conduct due diligence before entering into a commercial real estate transaction. It helps you to verify all the information you’ve received about a property and to uncover any potential problems or issues. By understanding the basics of due diligence and what you need to do to complete it effectively, you can make sure that you’re making a well-informed decision about your next commercial real estate investment.
Labor and employment/human resources
The seller must provide information on the labor and employment situation, such as the number of employees, employee handbook, and benefits packages. This information will help you to understand the company’s workforce and how it is managed.
Real property
The seller must provide information on the real property, such as the deed, title insurance policy, and survey. This information will help you to understand the ownership of the property and any potential encumbrances.
Licenses and permits
The seller must provide information on licenses and permits, such as business and liquor licenses. This information will help you to understand the business’s legal obligations and restrictions.
Due diligence is a critical step in any commercial real estate transaction. By understanding the basics of due diligence and what you need to do to complete it effectively, you can make sure that you’re making a well-informed decision about your next commercial real estate investment.
Disputes and litigation
The seller must provide information on any disputes, such as lawsuits, judgments, and liens. This information will help you to understand the business’s legal risks and liabilities.
Commercial real estate due to diligence checklist
Now that you understand the basics of due diligence, you can start to assemble your own due diligence checklist. This checklist should include all of the items listed above, as well as any other items that are specific to your transaction.
By doing your due diligence, due diligence period, and assembling a comprehensive checklist, you can help ensure that your next commercial real estate transaction is a success.
The real estate due diligence checklist includes the following due diligence items:
Corporations
- Full Legal Name
- Are they in good standing with the Companies and Tax Branches?
- Recognizes, acknowledges, and/or accepts cancellations and/or terminations.
- Changes of name
- The Operating Names
- Date of Establishment
- Addresses of Registered Head Office
- Information about the Officer, Director, and Shareholder
One-person businesses and partnerships
- Name of the Business
- Starting Date
- Status Address for Business Operations
People or Guarantors
- AKAs Current Address
- Date of Birth Debts History of Payments
- Paying late, getting paid, and going to court
- Bankruptcy/Consumer Proposal Ownership of a Rental Property Professional Accreditations and Credentials
- Date of Registration Confirmation of Registration Status
- There are disciplinary actions, lawsuits, complaints, and other important facts.
- Banks and other financial institutions
- Date Account Was Opened Deposit Account Balances Mortgages Loans and Lines of Credit NSF History
Landlords
- Type of lease Number of square feet Length of lease Payment amounts
- Payment History
- Condition of Property During Lease
Suppliers and Other Business References
- Credit Limits and Account Balances
- Terms of payment, history of payments
Financial profile
- Payment patterns in the past
- Balances on credit cards and the history of payments
- Loan balances and how much has been paid back
- Receiverships, or CCAA
Judgments, Legal Actions, and Collections for Bankruptcy,
- The past collection actions that are still in court
- The presence of Ta Liens, Writs, Land Charges, Crown Charges, and Statutory Claims against the prospective tenant
- Details of Bankruptcies, Consumer/Commercial Proposals, Debt Consolidation Orders, Receiverships, and/or CCAA Filings.
The Tasks of a Commercial Real Estate Due Diligence Attorney
A commercial real estate attorney’s role in a transaction is to protect their client’s interests. The lawyer will:
- Conduct a title search of the property and provide a title insurance policy to the buyer.
- Review the lease agreement and make sure that it is favorable to the tenant.
- Conduct due diligence on the property.
- Prepare and review the offer to purchase.
- Negotiate with the landlord on behalf of the tenant.
- Review and revise the lease agreement as necessary.
- Attend closing and provide representation to their client.
Ensuring that you have a qualified commercial real estate attorney by your side during your next transaction is crucial to protecting your interests. With their help, you can be confident that you are getting the best possible deal and can affect real estate transactions.
Investigating the Environment As Part of Due Diligence
An important part of any due diligence investigation is environmental due diligence. This is a legal and technical investigation conducted to satisfy certain liability protections using state and federal environmental laws or standards. The investigation includes a review of the property’s history, an assessment of the current condition of the property, and an evaluation of the potential for future contamination.
Because it is vital for the environment, due diligence can:
- Prevent you from being held liable for past contamination at the property.
- Help you avoid liability for future contamination of the property.
- Providing you with information about the current environmental situation at the property.
- Give you peace of mind knowing that the property is not contaminated and is not likely to become contaminated in the future.
Ask your attorney how environmental due diligence can protect you if you are considering purchasing a commercial property.
Land Use and Zoning Review
An important part of due diligence is land use and zoning review. This review is conducted to determine if the property can be used for the intended purpose. The review includes a check of the zoning classification of the property, a review of the zoning regulations, and a determination of whether or not the property complies with those regulations.
It is important to conduct a land use and zoning review because:
- The zoning of the property may limit the use of the property.
- The zoning regulations may require that the property be used for a specific purpose.
- The property may not comply with the zoning regulations.
You should ask your attorney about land use and zoning reviews if you are considering buying a commercial property. This will help you determine if the property can be used as intended.
Which factors should sellers consider as part of the due diligence process?
While performing due diligence, sellers should consider the following factors:
Title checks and descriptions of properties
Once escrow has been set up, the investor should order a preliminary title report. The title will tell you who owns the property now and in the past, as well as if there are any liens, encumbrances, or easements. To verify these facts, a third-party survey of the property is required to establish lot size, access roads, property lines, surface waters, rights of way, soil quality, and potential upgrades and modifications. To make sure the title is correct, it’s a good idea to hire an experienced real estate attorney who can give an opinion on the title’s status.
Zoning and property regulations
Investors must also make sure they follow the current rules about zoning and property codes. In the first case, it’s a good idea to get paperwork from the local government to make sure that the current and planned uses of the property are in line with zoning laws and land use classifications. If you look at the certificates of occupancy for relatively new buildings, you can see if they comply with property codes.
Lease payment history
For a property that brings in money, like an office building or apartment complex, a careful look at the history of lease payments will show how the rental income flows steadily and predictably. Another good idea is to look closely at the seller’s financial records and operating statements (if you can get your hands on them) to find gaps in lease payments.
Compliance with the ADA
Another thing to consider is whether a structure meets the Americans with Disabilities Act. Each state has its standards for accessibility, as well as documentation on how they must be met. Before buying a building, property, or undeveloped land, investors can use a checklist made by the federal government to make sure they know the rules.
All of these documents are necessary to carefully weigh the risks of an investment against the money it could make. In each case, once the information in the document has been checked by experts and found to be correct, you can use it to help you decide whether or not to invest in commercial real estate. But if any of the information turns out to be wrong, it could cause a lot of trouble in the future.
Know the seller
The due diligence process is important for both buyers and sellers in a commercial real estate transaction. By taking the time to understand all of the factors involved, both parties can feel confident that they are making a sound investment.
It is important to thoroughly research and vet the standing, reputation, and track record of the seller before entering into a commercial real estate transaction. A poor reputation in the current owner’s (and even occupants’) circles might have a detrimental influence on future income, suggesting a less-than-honest purchasing partner.
Take a look at the seller’s tax returns, service contracts, loan papers, and any other documents related to the company’s financial position, previous transactions, and business procedures. In addition, it is important to request a list of the current occupants and speak with them directly to get first-hand knowledge of any potential problems that may exist.
By taking the time to do your homework on both the property and the seller, you can help make sure the deal goes smoothly and goes well.
Conclusion
Before buying a commercial property, it’s important to do your due diligence because there are a lot of things that need to be carefully thoroughly checked, researched, and evaluated.
Additionally, Commercial real estate due diligence is a process that should be taken seriously. By understanding what to look for and having the right professionals on your team, you can feel confident in any investment decision you make.
If you have any questions about commercial real estate or would like to schedule a free consultation, please don’t hesitate to reach out to me. I would be happy to help!
