EVALUATING THE PURCHASER’S CAPACITY TO CLOSE

WHAT YOU SHOULD KNOW WHEN SELLING COMMERCIAL REAL ESTATE PART 2 (AND IT’S COMMERCIAL REAL ESTATE—NOT COMERCIAL REAL ESTATE):

EVALUATING THE PURCHASER’S CAPACITY TO CLOSE

IT’S COMMERCIAL REAL ESTATE—NOT COMERCIAL REAL ESTATE

This is the second in a series of posts on issues important for a Seller to know when selling commercial real property. This post is directed to “non-institutional owners”-- individuals,families, partnerships, limited liability companies, and corporations that own small to medium-sized commercial real property as opposed to “institutional owners”—equity funds, REITS, life insurance companies, etc.—who own large portfolios of commercial real estate. 

Let’s assume the Seller’s marketing team has done its job resulting in an offer. On the surface,the offer is attractive to the Seller. Many factors may enter into the final decision to accept or reject the offer. Price is usually paramount. However, the Purchaser’s capability to successfully close is a close second. Accurately assessing that capability is a key component to any successful sale.

The first question to ask is where is the Purchaser getting the money to pay for the property? Is it “all cash” or does the offer include a financing contingency??

If all cash. If all cash is offered, the Seller should require “proof of funds”. This could include copies of bank statements, investment accounts, or financial statements which show sufficient cash to close on the property to include the purchase price and closing costs. If the sale is part of an IRS Section 1031 exchange or if a significant part of the cash required is coming from the sale of other real property, a copy of the closing statement or a copy of the contract of sale for that property with contingencies removed should be provided by the Purchaser.

If a financing contingency is a part of the offer. “All cash” offers are more the exception than the rule. Most contracts to sell commercial real estate include provisions that the Purchaser’s duty to close is contingent on obtaining a loan for at least a portion of the purchase price.Financing contingencies typically allow a period of time for the Purchaser to obtain financing from a lending institution sufficient to close. If the Purchaser is not successful, it can notify the Seller and receive a refund of the earnest money deposit. The first question here is the same as that for an all cash offer. Where is the Purchaser getting the money for the down payment? The Seller should require the same evidence as that for an all cash offer outlined above.

Next the Seller should carefully consider the length of the financing contingency period.Remember, unless the Seller can get a right to “kick out” the offer if a better one comes along,the property will be off the market and subject to the Purchaser’s success or failure in obtaining a loan. On most small to medium sized properties, there is typically a two-step loan process. The Purchaser should be able to get a written loan commitment within thirty-forty- five days of final sales contract ratification. However, this commitment is usually subject to an appraisal of the property. On average the appraisal will take another thirty days. Larger more complicated properties or loans from life insurance companies or commercial mortgage backed securities lenders will take even more time—sixty to ninety days. If the Purchaser is requiring more time,the Seller needs to know why.

How can the Seller eliminate some of the risk in taking the property off the market for the length of the contingency? It is important to take a close look at the amount the Purchaser intends to borrow. Commercial loans for purchasers that intend to use the property for their business typically require 25-35% down and even more for investor loans. Higher loan to value loans are usually only available from special government programs like the SBA 504 loan program. The contract should specify the amount or percentage of the purchase price the Purchaser intends to borrow and a credible interest rate or interest rate range. Receipt of a financial statement and aright to run a credit report on the Purchaser prior to the Seller ratifying the contract will also help the Seller to make an informed judgment about the Purchaser’s likelihood for success.The Seller should also require some milestones in the contract for the loan application process.

For example, the Seller should require the Purchaser to make written loan application within a relatively short time period—five working days is not unreasonable. The Seller should also require written confirmation that the application has been made by the Purchaser. Obtaining a written loan commitment (which may be subject to appraisal) should be the second milestone.

Depending on the type of property and loan, requiring it within thirty to sixty days is not unreasonable. Again, the Seller should require written receipt of a copy of the loan commitment.The final milestone is completion of the appraisal and a final loan approval. All these milestones should be included in the time is of the essence provision of the contract which will put the Purchaser’s deposit at risk if it does not meet the milestones.

Following these steps will minimize the risk to the Seller presented by the financing contingency and help to ensure a successful closing.






This is the second in a series of posts on issues important for a Seller to know when selling
commercial real property. This post is directed to “non-institutional owners”– individuals,
families, partnerships, limited liability companies, and corporations that own small to medium-
sized commercial real property as opposed to “institutional owners”—equity funds, REITS, life
insurance companies, etc.—who own large portfolios of commercial real estate.