What Is Due Diligence When Buying Commercial Property?

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May 2, 2022

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A commercial real estate transaction is a long process that involves different steps and legal activities aimed at ensuring that the interests of the parties involved are protected and safe. One of such activities is called due diligence. What is due diligence when buying commercial property and why is it important?

What Is Due Diligence When Buying Commercial Property?

Due diligence is a process through which real estate investors can verify the credibility and value of a real estate property before purchasing it, by carrying out in-depth research and analysis. The main aim of due diligence is to ensure that investors do not invest wrongly in properties that have liabilities which could cause problems in future. 

During the due diligence period, the physical condition, – property value, building integrity, maintenance- as well as the documentation and history of the property are inspected and examined. Several other aspects of the property can be examined as the buyer deems fit, in order to ensure that there are no hidden surprises. 

Commercial real estate property

What Happens During Due Diligence?

When conducting due diligence of a commercial property, a buyer has to ensure that it is thorough, scrupulous, and exact. This is to make sure that in the aftermath of purchase, no ugly surprises rear up that could result in a loss over investment, or a decrease in expected yield. 

To make sure that due diligence is carried out properly, it is advisable to involve a real estate attorney, a real estate accountant, and most importantly, a realtor. Hiring the services of Si Vales Valeo Real Estate agents would not only quicken the commercial real estate transaction but also ensure that it goes smoothly and with no complications. 

Physical Due Diligence 

This has to do with a thorough assessment of the physical state of the property. Physical diligence not only helps you ascertain whether a property has been properly maintained or not, but it also helps you identify risks and predict future returns on the property. 

During this period, you are expected to do the following:

  • Carry out a physical tour of the property and its surroundings
  • Hire an appraiser to evaluate the building and determine its current worth 
  • Hire professionals to carry out assessments of the property condition and verify that all parts of the building are exactly as represented on paper 
  • Interview tenants -if there are any- and the property manager to find out if there are any underlying issues

Financial Due Diligence 

Financial due diligence covers the CRE analysis of the financial condition of the property. The main purpose of this aspect of due diligence is to ensure that the financial statements of the property -expenditure, income and yield- match those provided by the seller. 

Financial due diligence is also important because it helps you to determine the future turnout of the property based on its past and current data. With this knowledge, you would be able to ascertain the risks associated with investing in said property and decide if it is a worthy investment. 

Clock beside three coins stacked on top of each other

Here are some things to do while carrying out financial due diligence:

  • Carry out a thorough check of the property’s financial statement, down to every single dollar. This can be done by procuring bank account statements, invoices, and balance sheets
  • Conduct an audit of the rent roll and lease payment history
  • Carry out a cost analysis and market analysis to determine how well the property is doing when compared to similar ones

Related Questions

How Long Does the Due Diligence Period Last?

The due diligence period for commercial real estate can last anywhere between 30 and 90 days. This is considered enough time for the buyer to carry out all necessary inspections of the property to be sure that it is a good deal. There are certain factors that could extend or reduce the length of the due diligence period. 

Some of these factors are state laws, zoning regulations, and land use classifications. Here’s an example of how state laws could affect due diligence; in Kentucky, buyers of real estate properties must carry out a municipal lien search before closing. This could make due diligence longer in this state than it would be in other states. 

What Are Important Documentations Involved in Due Diligence?

A specialized commercial real estate agent can be of great value to new investors in commercial real estate. It is necessary to obtain, evaluate, and verify numerous legal documents. They include, at a bare minimum:

  • Title searches and property descriptions
  • Compliance with zoning and property codes
  • Lease payment history
  • Compliance with the Americans with Disabilities Act
  • Existing PSA agreement review
  • Current and required insurance
  • Rates and tax adjustment
  • Seller’s operating statements and financial records 

Conclusion

Due diligence is not for the faint-hearted, and should not be taken lightly. A thorough and properly conducted due diligence could make all the difference between a good investment and a bad one. It also ensures that the risks that come with real estate investment are lessened and an impressive yield is certain. 

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