Commercial Real Estate Blog

This is the final article of my six part series to help guide commercial real estate investors through all of the steps of selling their commercial property privately.

The biggest difference between closing a residential real estate transaction and a commercial real estate transaction is the use of legal entities, rather than individuals, in the ownership of the real estate. Commercial real estate is rarely owned by individuals because of the desire to limit liability and the demands of capital sources.  Therefore closing a commercial real estate transaction involves attention to the creating and organizing of these new legal entities and the authorization of the transaction through the management structure of the entities.

As there is generally more liability associated with ownership of a commercial property than home ownership and since commercial property is solely an investment, the owner of a commercial property will want to isolate as many risks as possible that are associated with the property.  Using a legal entity such as a corporation, LLC, or limited partnership to hold title in the property can shield the owner from liability beyond the assets or worth of the property in question.  Corporations shield shareholders from the liabilities of the corporation; for limited liabilities, it shields its members from the liabilities of the company; and for limited partnerships, it shields limited partners from the liabilities of the partnership.  Here are the major issues to watch for when you are selling your commercial real estate investment.

Escrow

A commercial real estate closing will generally involve a more formal escrow process than you will find in a residential transaction.  Typically, the title agent will agree to hold the money, collect and record all documents, and wire out the money.  The more formal escrow is due largely to the larger sums of money involved and the numerous documents that may come in from other capital sources such as outside lenders, investors, or other third parties to the transaction. Also since RESPA (Real Estate Settlement and Procedures Act) does not apply to commercial real estate transactions, the escrow agent has more freedom to prepare the closing statements and agreements and tailor them to the specific transaction.

Title and Closing Documents

Title to a commercial property is generally more complex than title to a residential property.  The initial step in the title review process is the issuance of a title insurance commitment or preliminary title report.  This initial document provides a report of the current state of title for the property and includes the precise legal description of the property. This is the time, as a seller, you need to address any problems that come up on the title commitment.  If there are liens that should have been paid by other parties you need to get them cleared immediately.  If there is a mistake in the title such as the name of your company or an invalid lien showing you need to work with your closing agent to get it fixed or it will hold up the completion of your closing.
As with residential transactions, commercial real estate transactions will include a typical quitclaim or special warranty deed, non-foreign entity affidavit and a title affidavit.  However, there will be several other documents included in the transfer package.
Unless the commercial property consists of raw land, there will be an assignment and assumption of leases.  This document accomplishes three goals.  First, it clarifies that the obligations of the seller under the leases have been passed to the buyer.  The seller does not want to be subject to the contractual obligations under the leases for things such as tenant build-outs, etc.  Second, the document clarifies that the benefits of the seller under the leases have passed to the buyer of the property.  Theoretically, it is possible that the seller could transfer fee title to the property but retain the benefit of the leases.  Third, the document is a useful tool for notifying tenants that the property has been conveyed.  Many national landlord tenant laws require formal documentation between the seller and buyer of the property.

How to Get Paid and Avoid Liability

A seller’s main goal when selling their commercial property is to get paid and to avoid liability.  The key to executing this strategy is to remove all contingencies prior to the time of closing.
•    First, the seller should structure the transaction so that all of the buyer’s rights to terminate the transaction are waived well in advance of the closing.  The seller should ensure that the purchase contract provides that buyer’s rights to review the real estate and conduct its diligence have a fixed expiration date with no further ability to review or raise issues.
•    Second, the seller must make sure that it has obtained all of the consents and authority documents it needs to execute the transaction.  In particular, all consents of the members, partners, directors, etc. should be in hand by the end of the buyer’s diligence period. 
•    Third, if the seller has made any representations to the buyer, the seller should take steps to isolate the liabilities associated with these representations.  The seller should make sure that the sale agreement provides that the representations do not survive indefinitely, but instead expire within a set time after the closing and preferably at the closing table.
•    Fourth, the seller should make sure that the transfer documents do not contain representations that the seller is not obligated to make under the terms of the sale agreement.  For example, a buyer may try to broaden the provisions of the transfer documents to include representations about the assets being conveyed rather than merely transferring the assets. 

Thank you for your thoughts and comments on this series.  Next I will be writing a six part series on what Buyers need to know when purchasing Commercial Real Estate. Please leave your questions or comments!

Disclaimer: Nothing stated in this article should be taken as the giving of legal advice.  As always, you should check with a licensed, competent real estate attorney who specializes in your field when unsure of how to proceed.