For business owners looking to expand their portfolio or secure a new base of operations, investing in commercial real estate can be an attractive proposition. However, the world of commercial property is complex, particularly when it comes to legal considerations. In this blog post, we’ll explore some key legal aspects that every savvy investor should keep in mind when venturing into the realm of commercial real estate.
The Option
Once an investor identifies a property, makes an offer and the offer is accepted, a straightforward agreement should be executed setting forth the obligations of both parties. The duration of the option, purchase price, due diligence rights (including access rights to conduct survey, inspections and studies), deposit, closing conditions (including financial contingencies) and termination rights are essential to have a complete option agreement. An investor will ideally want to agree to an exclusivity period to avoid other potential buyers having access and acquire the property while they are engaging in due diligence costs.
The Importance of Due Diligence
Before signing on the dotted line, it’s crucial to conduct thorough due diligence on the property in question. This process involves a deep dive into the legal status and potential pitfalls associated with the investment. A primary concern is title, property taxes and the property’s zoning and land use regulations, which dictate how the space can be utilized and what types of businesses are permitted to operate there. Failing to comply with these regulations can lead to costly fines and legal headaches down the road.
Another critical aspect of due diligence is assessing the property’s environmental health. Depending on the building’s history and location, there may be hidden environmental liabilities lurking beneath the surface. Engaging the services of qualified environmental consultants can help uncover any potential issues and ensure compliance with relevant regulations. Also, depending on the type and size of property, a survey should be conducted to confirm or ascertain any discrepancies between the area that appears in the Registry of the Property, Municipal Revenue Collection Center (known by its Spanish acronym as “CRIM”) and the actual property.
Lastly, if the target investment is a commercial property, due diligence should be conducted in connection with the ongoing leases to ascertain tenant’s rights and landlord’s obligations. Estoppels signed by tenant establishing the current status of the lease, breaches and compliance of the lease, among other things, should be secured prior to closing.
Financing and Tax Implications
Securing financing is a critical step in any commercial real estate investment, and it’s essential to understand the legal implications of various funding options. Traditional mortgage loans, for example, come with their own set of legal requirements and covenants that must be adhered to. If the property is being financed through a real estate investment trust (REIT) or other investment vehicle, there may be additional securities laws and regulations to evaluate.
Taxation is another key consideration for commercial property investors. Property taxes, capital gains taxes, and depreciation schedules can all have a significant impact on the overall profitability of the investment. Working closely with a qualified tax professional can help ensure compliance with all relevant tax laws and identify strategies for minimizing the tax burden.
Understanding the Lease Agreement
For many commercial real estate investors, the goal is to secure tenants and generate a steady stream of rental income. However, before you can start collecting rent checks, you’ll need to draft a comprehensive lease agreement that protects your interests and clearly outlines the rights and responsibilities of both parties. On the other hand, if the property is acquired with ongoing leases that the new owner will assume, due diligence should be conducted prior to the acquisition to understand the terms and obligations of all parties involved and the status of the lease.
A well-crafted lease should cover key points such as the duration of the tenancy, rent payments terms, security deposits, maintenance obligations (of both landlord and tenant), property taxes payments, authorized uses, required insurance and provisions for termination or extending. It’s also essential to consider any special requirements or restrictions based on the nature of the tenant’s business, such as zoning permits or accessibility features mandated by the Americans with Disabilities Act (ADA).
Mitigating Risks and Resolving Disputes
Even with the most diligent planning and preparation, disputes and legal issues can still arise in the course of acquiring, owning and managing commercial real estate. Common sources of conflict include disputes with tenants over lease terms, disagreements with contractors or service providers, and zoning or regulatory violations.
To mitigate these risks, it’s essential to have a clear plan in place for resolving disputes and a network of trusted legal advisors who can provide guidance and representation when needed. Many commercial leases include provisions for alternative dispute resolution, such as mediation or arbitration or no arbitration, which can help avoid costly and time-consuming litigation. If parties agree to submit controversies before the court, they should agree on the courts with jurisdiction, to avoid doing that once the complaint is filed.
Next Step
Investing in commercial real estate can be a lucrative and rewarding venture for business owners, but it’s not without its legal complexities. By understanding the key legal considerations involved, from due diligence and lease agreements to financing and risk mitigation, investors can navigate the process with greater confidence and success.
At Ferraiuoli, our experienced team of commercial real estate attorneys is here to guide you through every step of the investment process. We offer comprehensive legal services and strategic advice to help our clients make informed decisions, minimize risks, and maximize the value of their commercial property investments.
If you’re considering investing in commercial real estate or have questions about the legal aspects of property ownership, we invite you to contact us for a consultation. Our attorneys are ready to help you release the full potential of your investment while ensuring compliance and protecting your interests. Let us be your trusted partner on the path to commercial real estate success.