A commercial real estate purchase agreement (also referred to as a CRE purchase agreement) outlines the rights, obligations, and liabilities of each party involved in the purchase and sale of real estate.
It also describes the property being conveyed and the steps that should take place before the close of the transaction.
This agreement is used by individuals intending to sell or buy commercial real estate, either as an investment or to meet their commercial or business needs. It can be one page or hundreds of pages long. Despite the urge to keep such agreements short and simple, their length should not be the primary consideration but the effectiveness and efficiency of the contract to avoid conflicts before and after closing.
Almost all the terms of this agreement are normally up for negotiation. One of the multiple terms is the contractual requirement of the buyer to pay earnest money (commonly referred to as consideration), which is usually 2-5% of the purchase price, for the agreement to be valid.
Additionally, other provisions must appear in a commercial real estate purchase agreement. The parties’ responsibility is to ensure they are included, for they are meant to protect their interests.
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Types of Commercial Property
There are different types of commercial real estate property. Some of the common examples include:
- Apartments (more than four units): Apartments are typically low-rise buildings situated on a single piece of property.
- Hotel: A hotel is an establishment where accommodation, meals, and other services are offered.
- Industrial: Industrial properties are used for heavy manufacturing and light assembly and include warehouses.
- Office: Offices are buildings partitioned to accommodate the administrative activities of a business.
- Land: Land as commercial property, undeveloped land such as farms, ranches, etc.
- Retail (shop, restaurant, etc.): Retail property is rented out to different businesses to be centers of operations for different ventures, for example, malls.
These types of commercial properties cater to different investment needs. However, their conveyance through a commercial real estate purchase agreement does not differ; variation only comes in the terms and conditions and is part of the purchasing process. It can be created by either the buyer or the seller and can be a standard format or the outcome of back-and-forth negotiations.
The buyer and the seller usually negotiate and agree on a mutually beneficial offer and write down the terms and conditions of the agreement. The agreement is signed before any payment is made or property ownership is transferred. Once signed, it becomes legally binding and remains valid until the closing date, unless it is terminated before closing.
How to Write
Commercial property sale and purchase is a detail-oriented process with many legalities and formalities involved; therefore, such agreements must be professionally written and structured. To demonstrate how to achieve this, this section will look into the various components of a commercial real estate purchase agreement step by step, describing how they should appear in the agreement.
These components are mentioned below:
Parties
The first component to be declared is the date when the commercial real estate purchase agreement was created and then the parties involved are identified. The effective date should show the exact day, month, and year the agreement was formulated. Next, indicate the legal names of the buyer and the seller accordingly and indicate their mailing addresses down to the street address for specificity. Finally, if the buyer is an entity, the official operating name of the business should also be included.
Legal description
Secondly, the commercial property should be identified by providing a legal description. The description should show the property classification (type), street address, tax parcel information, and any other information that can be used to identify it. The information provided in this section should be accurate.
Personal property
Next, list any personal property being traded through this transaction. For example, such property could include prepaid advertising displays or service subscriptions, equipment, etc.
Purchase price
Afterward, the exact purchase price should be declared. The exact amount should be written in words and figures. Following should be a definition of how the buyer plans to acquire funding.
There are generally three options;
- All-cash offer: All-cash offer is meant for buyers paying independently of third-party financiers.
- Bank financing: Bank financing is meant for buyers obtaining funds from financial institutions, such as banks. Under this category, the buyer is obligated to provide proof of qualification or approval for a loan. This must be stated together with the due date for submitting these requirements.
- Seller financing: Seller financing is meant for buyers who are buying the property through credit given by the seller. It should be clearly stated how much is to be paid as a down payment, the amount that is to be paid through installments, the applicable interest rate, the length of the payment period, and necessary documentation must be attached. The information provided should be as specific as possible.
Earnest money deposit
The next item to be addressed is the earnest money deposit. The exact amount should be declared as well as the due date. The date should be specific to the date, month, year, and time. If an escrow agent is being used to hold the money, it should be identified in this section. It should also be declared if the earnest deposit will be refunded.
Inspection period
The agreement should then state the date and time when the buyer is expected to have decided to proceed with or terminate the agreement after inspecting the property. The date should indicate the day, month, and year.
Seller’s disclosure
The next step is to include the seller’s disclosure. Under this category, the seller should declare and list any documentation and records related to the property in his or her possession. Such documentation includes title commitment, written notices, copies of leases, water rights, etc.
Type of deed
Next, indicate the type of deed used to transfer ownership of the property to the buyer. It could be a general or special warranty. It should also be stated what type of insurance is expected to be paid for the property and who will be responsible for the insurance expenses between the buyer and the seller. Finally, it should also be specified how many days the buyer has to decide if they will terminate the contract if the obligations emanating from the title commitment are not agreeable.
Survey
The next section of the agreement should address survey concerns and declare if the seller-provided surveys are satisfactory or if new surveys are necessary. Where new surveys are necessary, it should be clear who is to cover the expenses.
Cure period
Next, the agreement should clarify how many days a non-complying party has to take corrective measures after being issued a notice of non-compliance.
Closing
Next, indicate the exact date when the transaction will be closed. It should be specific by giving the date, month, year, and time of closing. Certain expenses might arise during closing; declare who is responsible for these costs, or they shall be shared among the parties.
Sale of buyer’s property
If a buyer plans to sell another property before buying the property at hand, it should be declared a sale contingency. The buyer’s property to be sold should be identified by location and the number of days allocated to the buyer to make this sale happen.
Assignability
A commercial property purchase agreement can sometimes be inclusive of the transfer of certain business rights. If such is the case, it should be stated, and the number of days the buyer has to submit the assignability agreement before closing should also be stated.
Notices
It is sometimes inevitable to have notices issued by either party during the transaction. Therefore, both parties should outline how they wish to receive notice; it could be either through email, certified mail (with return receipt), personal delivery, or any other.
“As-is”
On some occasions, sellers might opt to include an “as-is” disclaimer in the commercial real estate purchase agreement if they intend not to make representations as to the condition of the property. It should appear at this point in the agreement. An “as-is” should not be interpreted as an opportunity to misrepresent aspects of the property.
Disclosures
The next step is to list all legally required disclosures that must be submitted before closing. Common disclosures include lead-paint disclosure, well disclosures, termite damage, subsurface sewage disposal system disclosure, etc.
Governing laws
Next, indicate the state whose jurisdiction governs the creation of the agreement. This is done by simply providing the name of the state where the property is located.
Offer expiration
The purchase agreement represents specific terms about the transaction that are agreeable to both parties when written. These terms are subject to change with time, thus needing an expiration date for the offer made through the agreement. The exact expiration date and time of the offer to expire should be clearly stated at this point in the agreement.
Additional terms and conditions
If the parties have additional terms and conditions, they should outline them next. Additional terms and conditions can be given as an attached document with the commercial real estate purchase agreement.
Signatures
The final step in the writing process is to have the signatories of the document provide their signatures. Signatories are commonly the seller, buyer, and any other agent involved in preparing and implementing the agreement, for example, an attorney. Each signatory should give their name, signature, and date of signing. Once the document has been signed, it binds the parties to the commercial transaction.
note
The commercial real estate purchase agreement should be worded so that statements are interpreted to mean the same thing. The consequences of crafting a contract that can reasonably be translated to have divergent meanings are litigation, delayed closing, and voiding of the contract as the extreme outcome, all of which can be costly. Involving lawyers can help to avoid this.
Do’s and Don’ts
There is generally a wide range of things one must do when buying commercial real estate through a commercial real estate purchase agreement. However, to have a successful transaction, there are things one should consider doing or not doing:
- Describe property properly: Property disputes, such as boundary disputes, can quickly get out of hand, and therefore the property being conveyed must be precisely described to avoid such disputes. The description should be based on recent data and surveys.
- Don’t tie up the property for an extensive period without the earnest money deposit “going hard” or becoming non-refundable: The seller should aim to close the deal in a reasonable amount of time to ensure they get value for their property. Remember, property, especially land, is often bound to increase in value with time. Awarding a 1–2-year due diligence period might be hurtful to the seller. The use of timelines every time a milestone is achieved, say six months or fewer, can be an effective way to execute a sale.
- Allow enough time for due diligence: Inspections and investigations for due diligence require ample time to have a detailed report at the end. Therefore, despite the need and urgency to rush property sale deals, enough time should be allocated to ensure due diligence is adequately followed and to reduce issues arising post-closing, which will ordinarily result in litigation.
- Don’t agree to ridiculous warranties, guarantees, and representations: Sellers should avoid guaranteeing, warrantying, or representing aspects of the property that they cannot verify. One should make representation “to the best of their knowledge.”
- Consider the condition of the property: Buyers should carefully consider the condition of the property before agreeing to the asking price. They should take into account renovations or modifications that might be necessary after the purchase when negotiating.
- Don’t skip having a lawyer review the agreement: Most people tend to avoid utilizing lawyers due to the expenses associated with hiring their expertise and the time taken for review. However, it is important to hire lawyers to clarify any ambiguities to avoid any surprises in the future.
- Understand the transfer taxes, local taxes, and fees in the jurisdiction: Applicable property taxes should be carefully considered, making up part of the expenses associated with maintaining the property. Since each state has different property taxes and fees, it is imperative to familiarize oneself with these guidelines before agreeing to commit to the agreement.
- Don’t get stuck with unknown fees if there is a termination: Just like there is earnest money to compensate the seller when the buyer breaches the contract, a maximum dollar account should be set up to compensate the buyer should the seller breach the contract. Compensation can be for actual costs incurred in pursuit of the transaction or for specific expenses, such as the ALTA survey, property inspection costs, attorney fees, zoning reports, etc.
- Get estoppel certificates from the tenants: Estoppel is a legal principle meant to protect tenants from being unjustly wronged due to the sale at hand. Estoppel certificates are necessary to prove the seller has fulfilled their contractual obligations as per the initial lease contract before ownership of the property is transferred. Tenants will often charge at least $500 for estoppel certificates and have up to 21 days to submit them. The commercial real estate purchase agreement should address these two factors so as not to delay closing.
- Don’t close until you are ready: It is common for the closing date to arrive without having all conditions met by either party due to “minor” concerns, delays in construction or landscaping, and such. Closing the transaction without addressing these concerns denies one the opportunity to get assistance from the other party. It is thus important to ensure these issues are resolved before closing, and it is best to avoid closing before resolving any foreseeable concerns. Alternatively, the buyer can place money in an escrow to cover specific concerns.
Frequently Asked Questions
An attorney is generally expected to prepare a commercial real estate purchase agreement once the buyer and the seller have agreed on the terms and conditions of the transaction.
The earnest money deposit is commonly 1-2% of the purchase price, depending on the seller, market, and negotiations made. In some cases, it has been observed to be between 5-10%.
A commercial real estate purchase agreement can be closed on any date after due diligence, as long as the two parties agree on it. This means the duration varies from one transaction to the next.
1031 exchange is principally a section of the Internal Revenue Code (IRC) that permits real estate property owners to sell property and purchase “like-kind” or, by definition, similar property after closing without having to pay tax.
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