Even though things are scary, the show must go on. And people will continue to purchase during recessions. I’m here to share some tips on what CAN be done.
#1. Hard Money
Negotiate that zero money goes hard, on day one. Everything should be soft earnest money. (“Hard money” means that there’s a certain amount of the earnest deposit which is non-refundable.)
The reason for this is because right now we are not able to enter units for due diligence. Normally during a recession, it wouldn’t be an issue. But due to the nature of COVID-19, entering occupied units is not reasonable. Normally in due diligence, you have 30 days to review every unit and check for any deferred maintenance or challenges that you couldn’t see from the exterior of the building. Brokers in Commercial Multifamily expect your offer to 100% account for any repair you can see with your eyes. However, you can’t account for what you can’t see – and this is why we have due diligence periods.
Currently our stay at home order has been extended twice, and who knows how long it will continue. You want to make sure that you can get the due diligence you need. This includes lease audits, unit examination, plumbing line examination, and checking the roof from the interior. Full access is the only way to make sure that you don’t have any surprises. If it is a GREAT DEAL and you have competition, then and only then should you consider hard money. In this case, negotiate to split the “hard money” amount half-and-half between the due diligence and feasibility dates.
#2. Financing Contingencies
Include a financing contingency with you offer to ensure you can get funding.
A lot of the new brokers are scared of this. It’s often something they don’t understand or know about. When I first started doing deals you were able to negotiate contingencies for financing. In the current situation, it is very appropriate to include financing contingencies that would allow for a portion or heck all of the earnest money, to be refunded back to the buyer if financing cannot be achieved. This is something that is out of our hands at this moment and up to the banks.
If you’re not aware, Fannie Mae and Freddie Mac are asking buyers to put 6 to 12 months of principal and interest aside in an untouchable escrow account. This means that more money has to be raised to close the deal. Note, things are changing quickly, so this requirement may change by the time you ready this.
#3. Critical Dates
As with all negotiation, ask for the moon and land among the stars.
Critical dates are something that we can adjust during this period of uncertainty. Inside the purchase and sale agreement there is a “critical dates” section. That section usually addresses due diligence dates, financing contingency dates, closing date, built in automatic extension time allowed, when earnest deposit needs to be delivered (both hard and soft), and any other critical dates that everyone needs to be aware of. I recommend attempting to extend the time period for due diligence based on legal orders from local and state level.
#4. Escrow Rent Guarantee
Have the seller setup an account to offset the risk of rents falling below a certain amount.
This may be a bit of a stretch, but is a huge help in offsetting uncertainty. Negotiate to have the seller escrow a large amount from the sale into a rent reimbursement account. This guarantees that the seller will have collections of the rent up to a certain amount set aside for the 3 to 6 months following the sale. If the rents far below the agreed minimums, the difference goes to the buyer from the rent escrow account.
#5. Seller Carry
Have the seller act as the bank and avoid large capital gains taxes.
Now do your homework on this item, there are many good short books out there which address the many creative ways that you can have the seller become the bank. This is something that may be very helpful right now. If for some reason you weren’t able to get bank financing (like the high reserve requirement), you could negotiate with the seller something like 0% down, interest only for 3 to 5 years, a 30-year mortgage, and many other really good terms.
If someone really needs to sell something this could be an advantage to them because you would be paying them more than their mortgage. It also allows them to avoid a large capital gain tax event. For sellers looking to retire or who are tired of dealing with rents and tenants this can be a huge win-win. Depending on what you work out I would suggest negotiating interest only terms during your entire term of renovations/construction. This is also assuming that you’re buying the kinds of deals that I buy which are value add deals. There’s always a component of construction involved because we are renovating and forcing appreciation into our properties.
Identify the seller’s needs and find creative ways to meet them.
We’re in a scary moment right now. I hate the idea of capitalizing on other people’s fears, but lots of people are afraid right now and they need solutions. As always, I try to figure out the other party’s problem. If you can figure out a way to solve their problem, even if it financially gives you more, everybody walks away happy. The type of broker you’re working with will be a huge factor in determining the amount of honest answers you will get from the seller. If you’re used to working with a very reputable broker and you know they always tell the truth, or mostly the truth if it results in a sale, then you need to find out from them what the problems are. In a perfect world we prefer to deal directly with the seller, but typically you won’t get this type of access.
One creative solution to identify the seller’s problems is bringing in a reputable third-party. For example, having a very reputable construction company that the seller already has a relationship with call the seller and sort of feel out the situation, and get real honest answers about the challenges that the seller is having. Then have them come back to you with the issues and then you go to town creating solutions. If you can submit a letter of intent to the seller, knowing their problems, and giving them three solution to that problem which still financially benefit you, then you create a serious WIN-WIN situation. Again, this is about WIN-WIN for everybody.
In moments like this, millionaires are made. Reach out to me and my team to see how you can be involved in our next investment opportunity.