Commercial Property Transactions, with Shawn Harding
What is the general process for a commercial property transaction? What key areas should a buyer and seller be aware of? On this episode of I Know a Lawyer, I speak with Shawn Harding of Clarity Law about commercial property transactions. We discuss:
General process of the transaction
Key terms and components to pay attention to
Importance of title policies
Distinctions for transactions for development
What if the deal goes sour?
Thank you to Shawn Harding of Clarity Law for joining me on the show. Shawn has extensive experience in commercial transactions and is a great wealth of knowledge on the topic. If you have questions for Shawn, contact him at his website: claritylaw.net or email him at sfharding@claritylaw.net.
I Know a Lawyer is brought to you by McKenna Brink Signorotti LLP, located in Walnut Creek, California.
As always, this podcast is not intended to provide legal advice. If you need legal advise, contact an attorney. Don't rely on podcasts.
Transcript
Ryan Lockhart (00:01):
Welcome to the show, everybody. This is, I know a lawyer and I'm your host, Ryan Lockhart, as you all know, I know a lawyer is brought to you by McKenna Brink Signorotti, LLP. We are a boutique law firm located in Walnut Creek, California. Check us out at mckennabrink.com. That's McKennabrink.com, where you can see all the different practice areas that we can provide services for you today. I am joined by Shawn Harding of Clarity law. How you doing today Shawn?
Shawn Harding (00:31):
I'm doing great, Ryan, thank you for having me on the show.
Ryan Lockhart (00:34):
No, thanks for coming on today. I think we're going to talk about some commercial property transactions, but before we get to that why don't you introduce yourself to the audience?
Shawn Harding (00:43):
Sure. I'm Shawn Harding. I'm with clarity law, as Ryan mentioned. I am I have a practice that is focused on real estate transactional work and a general corporate work here with clients in the greater Northern California. Yeah.
Ryan Lockhart (01:01):
Awesome. So let's talk about commercial property. You brought up is talk a bit topic with me as an option to do the show about, I know there's a lot of different layers involved as commercial property, especially with transactions involving them. So can you walk me through the process of if I wanted to buy a commercial property?
Shawn Harding (01:20):
Sure. And I, I hopefully this this content will be a useful, useful for your audience because it seems everyone is interested in real estate and I thought this would be a good topic to have on your podcasts, but going to the, to your question of buying a commercial property there is there is no formal set process, but there is a typical process that buyers along with their brokers and attorneys and sellers we'll go through in the, just in chronological order. Typically what a buyer will do is with the assistance of a broker would identify a specific property they wanted to purchase whether it's office industrial or whatever the property suits, their specific requirements, the buyer may buyer and the broker may perform some initial financial or their background investigation to verify whether or not the property would meet their specific business requirements.
Shawn Harding (02:16):
Once that threshold has been achieved the buyer and a seller may enter into a a letter of intent letter of intent letters of intent can be drafted by brokers. They are frequently drafted by brokers. And in many cases they're also drafted by attorneys. The purpose of the letter of intent is to try and fair it out in detail, the key business and legal issues. And from my experience the preparation of a letter of intent can very much shorten the negotiating process because the the parties and their representatives and attorneys can identify the potentially the issues which have a potential conflicts in the transaction, negotiate them upfront, and then put them in a letter of intent. The letters of intent are typically non-binding it's very, it's critical that specific term and alleged of intent to confirm whether or not it is binding or non-binding.
Shawn Harding (03:23):
But the general practice is, is that the letters of intent are not binding. And once the letters of intent have been drafted, which typically includes some terms regarding the price, the form of payments the timing of the transaction and some other key legal terms after that has been completed. Typically the parties will enter into a purchase agreement. There are in, in, in, in California, for example, there are three general ways people go on drafting purchase agreements. There is a common form called the air form, which is a pre prepared for, by an industry real estate industry association form, which is very widely used in transactions. There are broker prepared forms, and I see many over the years and some of them are good and they will work and they're also lawyer drafted purchase agreements. So the, the fee that that step includes the preparation negotiation, and then finally the execution of the purchase agreement after the purchase agreement is executed.
Shawn Harding (04:33):
Typically a copy of that is then deposited with the escrow agent handling the escrow of that transaction. After that the buyer dura will typically perform some due diligence. I should know that very, very rarely if our real estate transactions sign and close type of deals ordinarily the purchase agreement is signed. And then there is some period of 30, 60, or so days between the time of execution and the time of closing. And after the deal is signed the buyer will perform his or its due diligence and invest detailed investigation to the property and the condition and status. And then once the buyer is satisfied and the contingencies are waived in the agreement, the the transaction will close the escrow office and the attorneys or brokers will assist in confirming the closing. And on the once the transaction closes, basically it's the, at that point in time where money moves across the table and title and ownership to the property crosses the table as well. And the buyer then becomes the owner of the property. So that's, that's of the flow of the major activities that happens when purchasing a commercial.
Ryan Lockhart (06:02):
So it sounds like the letter of intent has some main key terms, kind of the outset of negotiations, but what are some of the real key terms or components of the purchase agreement that the buyer and seller should consider?
Shawn Harding (06:16):
Yes. the key terms, you know, just to focus on what's really important it, it, between the buyer and seller is the first thing I should note is that in some degree ways, it's a zero sum game that whatever the buyer gets, the seller may not get. And there is a tug, a pull and tug type activity going on between the buyer and seller and typically and just in summary, a buyer wants an ironclad agreement typically with lengthy representations and warranties, extensive indemnification contingencies and maybe minimal deposits. Those features would really protect the buyer's interest, but of course, on the other side of the table, the seller is not really all that excited about those terms. The seller wants an as is clause. They want to sell the property without any strings attached so they can walk away after the sale and not be concerned about any liability in the future.
Shawn Harding (07:20):
The seller would also like to have very limited representation and warranties about the property so that it doesn't have any liability regarding whatever disclosures and representations it's made for the property in the future. Seller wants a short due diligence period. They prefer large deposits. And during the course of the transaction to have those deposits released to the seller deposits in some cases are released others, not, it really is depends on the type of transaction, the market conditions in the transaction the type of property, the length and so on and so forth. So whether or not deposits are released prior to the closing it tends to be all over the board and negotiations.
Ryan Lockhart (08:11):
I can imagine those negotiations can be tense sometimes but let's, I want to pivot now to a little bit about title reports. What are they, and why are they important in a commercial property transaction?
Shawn Harding (08:25):
A title report is a document prepared by the underwriting insurance company that will issue a title policy. Just some basics here. A title policy is a policy of insurance. They can be issued to the buyer and the buyer's lender. And the purpose of the title policy is to provide an assurance or guarantee that the buyer or the buyer's lender or other parties will have the fee title to the property. In other words, they're actually going to own it, and that it, it ensures against third party claims and other outside claims that would affect the ownership interest in the property. So that's the basics of what insurance policy is the title report prepared by the untitled underwriter, where the insurance company, it will identify the specific property there is. There's a, usually a legal description.
Shawn Harding (09:26):
Well, there always is a legal description of the property. There are also included are exceptions to the insurance. And so what'll happen is the Tonya report will include a list of exceptions of which the title company will not insure against, or then there also disclosures of conditions on the property. Examples of those exceptions include easements that have been recorded against the property CCNRs that have been recorded. Other recorded agreements recorded leases other encumbrances liens most importantly, deeds of trust and deeds of trust are the documents to represent a mortgage that is or other loan that had been recorded against the property. And therefore the lender has a security interest. And so all of these items are typically called out in a Tyler report. So during the, the Tata report is really important to the buyer.
Shawn Harding (10:33):
So the buyer can understand the condition, the legal condition of the property when they purchase it. It's also important to the buyer's lender so that the buyer buyer's lender understands the condition of the collateral of which they're lending against. So the asker office in the the title underwriter rider prepares a report, typically the buyer and the seller will review report. And then the buyer during the course of a transaction may note objections to the seller of certain items. So for example, if there are old lien old monetary liens that haven't been cleared off, if there are mechanics liens if they're easements that shouldn't be on there they buyer will request that they are cleared off before the closing of the transaction or the buyer can waive any claim for those items. But it's just it's very important that the whole purpose of the toddler report is so that the insurance can be issued against the property, the title, and that the buyer has a very clear understanding of the condition of the property.
Shawn Harding (11:44):
That sounds like to be a diligent buyer. You have to actually read that report. Yeah, it's a, it's a funny thing. You know, it's a routine the reports are always issued nowadays. The title companies can issue. They issue a report and you the, the, the parties can click through all the exceptions and the documents and record, and a lot of people don't. And some of the big things that I have found over the years that pop out that are really risks to buyers are CCNRs, which have development restrictions. A lot of I've seen a lot of cases where a buyer has purchased a property. They, they know there's a CCNR, the buyer, or their attorney or broker have not read or reviewed the CCNRs. And there's a development restriction and the buyer purchased the property with a specific view of developing that property. And that with those CCNRs, that'd be very difficult to get those off. And that's a problem. So you're right. It is a routine part of a transaction, but it's important to review each one of those exceptions in the town and report.
Ryan Lockhart (12:48):
I'm glad you brought up development because I had a question about this. So what is it a different type of transaction if you are buying, let's say a plot of land with the intent to develop it?
Shawn Harding (12:58):
Absolutely. I mean, there is a significant difference in the transaction between let's say purchasing an office building and purchasing attractive land for development. The first question is with regards to development is the w how many tracks of land and is is there any assemblage needing needed by the buyer developer? Meaning does, are there multiple seller and seller parties involved? And so as opposed to buying an office building, which may be a straight up transaction with a single seller in the case of development the buyer may need to develop a purchase the land for multiple parties. That means multiple transactions. And typically those transactions are all co contingent on one another. That's real common in Bay area, residential development, where in multiple parcels of land may have to be bought and assembled. So there there's actually multiple transactions, not just a single transaction.
Shawn Harding (13:57):
The other, the other real big difference in development transactions is the timeline and contingencies. In most cases, the developer acquirers will acquire the land in a transaction that will have a fairly long duration because the buyer and developer does not want to acquire the property until they have some certainty that their property can be developed with the project they intend to construct on the land meaning their entitlements. So the buyer will seek the approval from the agencies, which have jurisdiction over the property, the city of the County other environmental, other districts they'll need to obtain the approval for their development in California, right now, that's a long lead time for development approval. Typically at a minimum 18 can run as long as two to three years. So these, these transactions for property that is going to be developed, they could easily run two, three, four, five years and longer the other big difference is that during the course of the transaction, typically that the money will move across the table from the developer buyer to the seller, because the seller has agreed to sell the property, but basically tie up the property for that real long period of time.
Shawn Harding (15:24):
And so the developer has to pay for that, right? And so a reasonable amount of compensation is paid over to the landowner during the course of the transaction. So that's money is exchanged, they're usually a lot longer. The and the buyer is usually trying to obtain the entitlements. So those are, those are definitely different and a lot more complex than a more routine office or other industrial type building purchase.
Ryan Lockhart (15:58):
Yeah. Sounds like a totally different, even more complicated process because you have County officials or state officials of bald, or just let's call them government,
Shawn Harding (16:06):
Right? It is, it is you know, there are multiple agencies in, in a, typically in a, in a, for example, if you have to get a city approval, you have to obtain a building commission. You may have to have the entire city council grant approval for your development. You may have some other environmental type agencies that have to approve it. Also frequently for any residential development, you, there may be lawsuits to stop the development. Typically depending on the size and the type of development, the developer may have to obtain an environment, a sequel environmental review and obtain an environmental report frequently those reports can be disputed. And that's the typical frequently the basis of which homeowners groups or local citizens groups, how they will object to the development is through objecting to the environmental process. And there's typically lawsuits filed a local courts to, to try and delay and stop the development. And unfortunately that's quite common in many different jurisdictions very common here in California.
Ryan Lockhart (17:19):
That's a lot to take in, but let's end with this. So what happens when a transaction goes bad and one of the parties, the buyer, or the seller decides they just don't want to go through with it.
Shawn Harding (17:30):
Okay, well, there's a, there's a, a peaceful resolution in a non peaceful resolution typically. If the if they, if the buyer inspects the property it doesn't approve of the condition of the property. And the seller refuses to the property based on the demands for the buyer. The the parties can walk away and the buyer can give a notice of termination of the agreement prior to the expiration of their contingencies. And then the agreement is terminated. The deposits are returned to the buyer and the parties basically walk away. The other scenario is that if the contingencies have expired and one of the parties fails to fulfill its obligations one of the more common ones in those circumstances is a failure to complete the financing. And some cases, the buyer will believe that they have their financing has been approved and obtained.
Shawn Harding (18:30):
However, for whatever reason, the lender will not be able to fund the loan immediately prior to the closing. And in that case if their contingencies have been waived, including a finance contingency, and you're coming up to the right on the closing there is basically a buyer in that case, there is a buyer's breach of the agreement. And the the seller is entitled to the remedy of typically of liquidated damages of the deposit. So whatever, whatever dot deposits the buyer has placed the seller as the is a measure of damages can retain the deposits on the flip side. In some cases, the seller would refuse to sell the property that happens in circumstances where a seller obtains, a higher offer to purchase the property. And the seller be realizes that they may want to try and sell it to another party to try and make more money on the property.
Shawn Harding (19:24):
In that case, the seller has breached the purchase agreement and the buyer has the remedy of, of we call it specific performance. Basically they can file a lawsuit and request that the court complete and consummate the transaction. There's somewhat of an accelerated litigation process to be able to do that. But the, basically the buyer has to file a lawsuit to compel the seller, to sell the property, or the commonly the buyer can walk away. And the seller will pay the out-of-pocket costs incurred by the buyer in that transaction. So it just kind of depends on what the buyer wants to do. So that's kind of what happens in a, in a peaceful and a non peaceful resolution.
Ryan Lockhart (20:10):
Well, great. Well, thank you very much, Shawn for joining us today to give a wonderful overview of just the process of commercial, commercial property transactions, and then some of the other areas that people should definitely pay attention to. So if somebody wants to reach out to you, if they have some questions or they're looking to buy a commercial property, they don't have counsel yet, something like that, how can they reach you?
Shawn Harding (20:30):
Sure. You can reach me at my website clarity law.net. You can also contact me by email and it's S F Harding, H a R D I N G, and clarity law.net. That's where you can reach me.
Ryan Lockhart (20:44):
Great. both his link to his website and his email address will be in the show notes. So be sure to look for that. And thank you, Shawn Harding for joining me today, that was Shawn Harding of clarity law. And I am Ryan Lockhart. This is the podcast. I know a lawyer. Thank you everybody for listening today. Take care. Bye bye.