Due diligence is the investigation or exercise of care that a reasonable person is expected to take before entering into a contract of sale with another party.
In the business of purchasing real estate to live or to invest, whether you are buying a condominium, Co-op apartment, single family house, multi family house, mixed use building, commercial building or a ground up development opportunity, doing your due diligence is the protocol to follow to minimize risk and maximize the upside of the purchase.
Some of the basics of due diligence are as follows:
When planning to purchase a unit in a newly built condominium building, check the track record of success or failure and financial history of the builder. It is important to obtain a warranty on the construction materials, mechanicals and appliances (if applicable) in case there are any problems after the closing.
When planning to purchase a Cooperative apartment, you want to know if there is a flip tax where you would owe a % of your profit from the sale to the building management. Obtaining a black book outlining the buildings financial strength or weakness is important. Check with your bank to see if they have given a mortgage on other units in that building.
When planning to purchase a single family home, bring an experienced, licensed engineer to thoroughly inspect the plumbing, heating, electrical, roof, foundation, appliances, windows and basically top to bottom, exterior and interior of the house for insight into the condition of the house and what will or will not need repair in the near future. You do not want any surprises after the closing and you take possession. Be aware of any easements or shared access with a neighbor.
When planning to purchase a multi family home, besides doing an engineer inspection, make sure that there is a certificate of occupancy, for example for a 3 or a 4 family dwelling that matches the layout and actual use of the house. Some owners are surprised to learn that they have a legal 2 family house instead of a 3 family house. Having your attorney do a preliminary title search can be extremely helpful. If there are tenants in the house and the contract reads delivered vacant at closing, be aware of the potential problems of the seller asking tenants to leave and find another place to live. There could be delays and / or legal problems. Know up front what the risks are if there are existing tenants living in the house. Find out if there are any pending court actions against any of the tenants.
When planning to purchase a mixed use building with street level commercial/retail space with residential apartments above, a different level of due diligence is required. For the commercial space, if there is a tenant with a lease, you must review the lease (preferably with an experienced real estate attorney) and all of the clauses to make sure that you are not inheriting a bad lease with a less than desirable tenant. A commercial lease is complicated. For the residential portion of the building check to see when the tenant’s leases are expiring and if there are any court actions pending against the tenant or tenants. Have an engineer inspect the building thoroughly.
If you are planning to purchase a commercial building you may want to visit propertymetrics.com to view an in depth due diligence checklist of suggested steps to follow. Issues to be considered very carefully are:
Acquisition actions/documents, title/survey/ zoning matters, tenant lease matters, financial matters, service contracts, litigations, insurance, physical inspection of the property & review, personal, personal property inventory, government review, closing and miscellaneous actions, property operations & management, financing matters (if applicable) and internal procedures & reporting.
Some basic steps to owning commercial real estate are:
Ask yourself what kind of property you are looking for. Are you looking to use the building for your own business, rent it out, build equity or expand/develop the building (an adaptive reuse project)?
What is your risk tolerance? Are you willing to be a landlord. Are you ready and willing to make an investment/purchase of that size?
Visit many properties. Figure out the price, location, condition and allowed uses. Find the best fit for you. Consider hiring an accountant, commercial real estate lawyer, commercial realtor and a mortgage broker.
If the property is more complicated, you may want to hire a tax expert, an appraiser, an engineer and an environmental specialist. Figure out your financing, for example which bank to go to and what interest rate will they offer you.
Make an offer (LOI Letter of intent to purchase), but not without your lawyers approval. Your lawyer will make sure that the LOI is not binding in case there are problems with the contract.
You’ve arrived at the point where money changes hands and your period of due diligence begins.
If you are planning to purchase vacant land or a lot with a property on it to be demolished for developing a ground up building, the due diligence required is considerable, complex and costly.
The degree of success and ability to maximize profit with most development sites is established during the due diligence period before the site has been purchased. All the risks, options and opportunities must be weighed and examined in this critical stage for developers. This process must be handled with care and patience with no room for costly errors. Mike from property pro says “ before buying a site, we need to have the mind frame of reasons why not to buy the site”. “ By doing this we ensure that we flush out as many potential issues up front to avoid any costly mistakes or delays once the site has been purchased”.
The property development due diligence checklist includes:
Site legals which deal with anything with a legal restriction or implication. Have your attorney do a title report to start.
Utilities and services involve site constraints for example are there any overhead cables or buried services in your site? This can have a huge impact on your design and costs. Also, find out if possible, what future connections to a main utility will take place and how will that effect the project.
Local authority and planning. The question here is can you get planning permission for the intended development? Be aware up front of all the planning risk items before buying the site.
Site survey requirements. Know what surveys you will need for your specific project.
Construction. Can you build what you intend to build? Is there proper access, can the site be secured from intruders or trespassers? Consult several contractors on this issue.
Every site, every development is different and presents its own challenges. Do your own due diligence that your specific site and development call for.
If you are interested in selling your property or you know someone who is planning to sell their Brooklyn New York property, whether a single family residential property, an apartment building, a commercial property, mixed use, multi family, coop or condo, vacant land or a development opportunity, call us. You will be very happy that you did.