If you are preparing to buy an office, warehouse, or commercial building, don’t make the mistake of assuming that this real estate transaction is like buying a more expensive house. These commercial transactions can be quite different from residential real estate, especially since there is more legal risk with this type of transaction.
In this article, you will learn about the most common commercial property buyer mistakes and how to avoid them. The good news is that these issues are preventable when you take a proactive approach with the right real estate and legal support to help with the transaction.
Why Commercial Deals Carry More Legal Risk Than Residential Ones
One challenge with a commercial real estate deal is that there isn’t a standard contract template used for the transaction. If there are gaps in the contract, then it could favor the seller while putting more risk and financial burden on the buyer.
In the residential real estate industry, there are consumer-protection rules in place to reduce the homebuyer’s risk. But these same protections aren’t available if the property has been zoned for commercial use.
Even if you’ve bought residential real estate before, as a first-time commercial real estate buyer, it’s critical that you have the right support team to help with this process. Hiring an experienced real estate agent and a skilled attorney will be a great investment to protect your interests throughout this process.
Mistake #1: Skipping or Rushing Due Diligence
Yes, you want to close the deal as quickly as possible so that you can move forward with your business. But cutting corners with your commercial real estate due diligence checklist could cost you a lot of money. Thorough due diligence should include:
- Title
- Survey
- Zoning
- Engineering
- Environmental testing
- Lease
- Estoppel
These reviews help you catch potential issues with the property, such as easements or boundary disputes. Also, environmental testing is critical to help you avoid any liability issues that are attached to the property.
With every commercial real estate transaction, make sure that your agent negotiates at least 30–60 days for the due diligence period (longer for development deals to allow for surveying, engineering and approvals). This timeframe is much longer than the residential real estate due diligence time frame because there are more things that need to be considered in a commercial transaction.
This due diligence period gives you peace of mind, and it also allows you the right to walk away and recover your deposit if any issues are discovered during this time.
Mistake #2: Misunderstanding Zoning and Permitted Use
Make sure to verify the property’s zoning instead of assuming that the current use will carry over with the sale of the property. Sometimes, the current use could be tied to a variance or permit that the previous owner had, which means that you might not have the same use permissions.
So, before finalizing your purchase, always verify the permitted use and variance status of the property. Get this information from the zoning authority directly instead of only relying on information from the seller. You want to verify permitted use before closing so that you don’t have to deal with these issues when signing a tenant in the future.
Mistake #3: Signing a Letter of Intent Without Understanding Its Binding Effect
While many LOI’s are non-binding, they nevertheless establish the basis of negotiations and dealings between the parties going forward. Changes later to material terms agreed upon in the LOI are likely to upset the other party and often put the deal in jeopardy.
Therefore, review the LOI in its entirety, and have your attorney take a quick review as well. Many clients simply check the purchase price, maybe the timelines, and skip the remaining portions, leading to problems.
The best approach is always to have your legal counsel review the LOI before you sign. An experienced commercial real estate lawyer will review the terms in detail and flag any provisions that need to be addressed.
Mistake #4: Underestimating Financing and Contingency Deadlines
Keep in mind that the commercial underwriting process typically takes much longer than the timeline for a residential mortgage. Depending on the type of property you are buying and the lender that you are working with, expect at least 45–90 days for the underwriting.
Work with your real estate agent and legal team to ensure that you are keeping up with all relevant deadlines. For example, if a financing contingency deadline is missed, then it could mean that you forfeit the earnest money (even if the loan is pending).
Avoid this commercial property buyer mistake by talking to your lender about a realistic timeline and setting conservative deadlines accordingly.
Mistake #5: Not Structuring the Purchase Entity Correctly
One way to protect your personal assets from liability exposure is by purchasing residential investment properties through an LLC instead of in your personal name. Always form this entity in advance because you don’t want the property to go under contract without the entity. This approach will ensure that all liability relating to the property is contained so that you aren’t exposing yourself personally. This structure keeps liability isolated between each property.
Remember that if you are raising funds from passive investors (meaning those without material decision making authority), you likely need to comply with securities laws and should consult your attorney.
FAQs
Do I need a lawyer to buy commercial property?
You aren’t required to have an attorney for a commercial real estate purchase, but it’s a smart decision to hire legal representation to avoid more expensive issues in the future. Your legal team can review the property’s title, zoning, and contract terms.
How long should due diligence take on a commercial deal?
In most transactions, due diligence is between 30 and 60 days. This gives you enough time to review everything before the contingencies expire: title, survey, environmental, lease, and more.
Should I buy commercial property under an LLC?
Yes, most commercial real estate buyers use an LLC for their purchase. But each situation is unique, which is why it’s best to consult with your legal team for personalized recommendations.
How Working with a Real Estate Attorney Early Prevents These Mistakes
All of the mistakes listed above are avoidable, and the easiest way to avoid these issues is by hiring the right legal team from the beginning. You need an attorney who can assist with things such as title reviews, zoning verification, contract review, and more. These legal services are worth the investment, especially because of the potential costs you will be saving by minimizing commercial property purchase risks.
Before you’re under contract, reach out to our team at Bhojani Law for personalized legal services. We are here to assist with the early review of due diligence, zoning, financing, entity structure, contracts, and more.