Seller carry on commercial property - Posted by John A

Real Estate Investing
1

Posted by mike oldfield on August 30, 2008 at 21:24:51:

If your buyer goes bad you will need to pay off the first mortgage to foreclose your second. Factor that in if you decide to take back a second.

I would rather see you keep the building at least until the buyer develops a track record for seversl years. If it is still appreciating, why sell it?

If you need some cash then borrow against your building and pay it off with the lease payments to the new buyer.

You will have to pay capital gains for the portion of the gain you receive in a given year. If the buyer pays off half the value with a new first you will have a taxable gain on half of the value and the other half will be paid off as you receive payments on your second.

You sould sell him a partial interest in the building also and keep control.

Lots of ways to skin the cat, It comes down to the what ifs and your goals including tax outcomes, cash needs and retirement income

If you finance the whole thing and he puts down I nice chunk of cash and then goes bad, you get to keep his down payment and get rid of him with a foreclosure.

Mike Oldfield

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Seller carry on commercial property - Posted by John A

Posted by John A on August 29, 2008 at 12:18:05:

I am early on discussions on selling a business and the commercial building it operates in. I own both. The building is valued at approximately $900,000 and remaining note balance is $60,000. The business buyer is interested in also buying the building. I would not finance the sale of the business, but would be interested in carrying a note on the building.

Some options that have been mentioned are 1) Buyer getting new loan for building, 2) Buyer getting getting part loan from bank with 1st mortgage and I would have 2nd mortgage for larger part of the note, and 3) I would finance building sale totally.

Any ideas on these alternatives or issues I need to consider? Rates, term, baloons, interest only, etc. I’m not familiar with ramifications of 2nd mortgage and concerned that business buyer may not generate enough earnings to support building payments + personal income.

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Re: Seller carry on commercial property - Posted by Fernando N. Perez

Posted by Fernando N. Perez on September 04, 2008 at 19:09:40:

A seller held second is always a risk. But sometimes it is only way to sell. As a commerical mortgage broker I recently closed a loan 80% 1st 10%2nd and client put 10% down.

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Re: Seller carry on commercial property - Posted by Tai

Posted by Tai on August 30, 2008 at 15:20:02:

I would just sell the business, and lease the building
to the new owner of the business. You may choose to give
a favorable lease terms to induce the sale of the
business. for example, 3 year lease at agreed upon
rent, plus a renewal option for another 3 years at market rent to be determined, but capped at a maximum of 15% increase. you may adjust the numbers, but the basic idea is to reassure the buyer that his investment in the business will not be undercut by you by non-renewal of the lease.

another option, is to offer a right of first refusal in the lease. this is the language I copied from one of my commercial leases:

FIRST REFUSAL TO PURCHASE BY TENANT. If Landlord receives an acceptable offer to purchase the Leased Premises during the first twelve (12) months of this lease, Landlord shall give Tenant notice of the offer, specifying its terms and conditions. Tenant shall have ten (10) days after notice within which to notify Landlord that Tenant shall purchase the property on the same terms and conditions. If Tenant exercises the option, Tenant shall pay Landlord the deposit prescribed in the offer at the time Tenant notifies Landlord that the option is exercised. If Tenant fails to do so within the time prescribed, the right of first refusal to purchase the Leased Premises shall terminate.

if you really have to sell the building to the business buyer (which I strongly recommend against, especially you have concern about cash flow being able to support payments), I would NOT carry a second mortgage “for larger part of the note”. The reason is as follows:

If the buyer ran the business to the ground and the
first mortgage forecloses (and the building sells for less than full current value), then your second mortgage is wiped out. To avoid losing your equity in the building, you may choose to buy the first mortgage out, but then good luck on getting a loan on a commercial building that is vacant and current tenant’s business is closing down. So, unless you have enough cash lying around for this contingency, there is a high risk of losing your seller carried amount.

this happened to me, and thankfully my seller carried note is relatively small (~36k). Could have been much worse.

Tai

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Re: Seller carry on commercial property - Posted by Chris T

Posted by Chris T on September 09, 2008 at 23:46:09:

I wouldn’t sell the building, your low debt level on the property actually should help you make that decision. I’d even walk away from the sale of the business if the buyer insisted on buying the building.

I agree with Tai, unless you absolutely must sell your business and a condition to the sale is the buyer buying your building then I would make the buyer get financing on the building through and SBA loan to buy the building. If they cannot finance the deal using an SBA loan then you are certainly putting yourself at risk. That would indicate the buyer can not qualify to make a purchase using a loan partially guaranteed by the federal government. Why should you finance them if they can qualify for the above?

In addition, if you did finance the building sale and you held anything less than a 1st trust deed then you are also putting yourself at risk. Your mortgage amount is very small you don’t need to take on any additional risk by holding a 2nd trust deed.

You’ve obviously worked very hard to build your business and essentially pay off your building. Why let someone else benefit from your previous efforts. Unless you need to sell the building then you should lease the building to the buyer of the business. That building is only going to increase in value over time. You already own it, and have pretty much paid for the thing entirely. Look at this as an additional 401k fund. Its going to grow over time. The risk in owning commercial real estate is vacancies. You eliminate this risk by locking in your tenant the buyer of your business. Lock him into a five year lease at fair market rents (ask a local broker for an opinion of rental value) with rental increases every year of 3-4%. Do the math and you’ll see you are much better off owning this building over the term of the initial lease. And when its over and the tenant moves, if they do, then you find a new tenant.

Since its a commercial building there won’t be much management, and if you find that there is more than you wish to attend to then hire a property management firm to manage the property for you. You can afford to hire one for 3 to 4% of the month rents.

I’ll end with a quick story. I sell commercial real estate in Los Angeles. A client of mine sole two buildings to a buyer holding a 1st trust deed in 2005. Each porperty was sold for 800K and 1MM. The seller had worked very hard buying these two, and a third, while building his business. The seller financed the sale with a 10% down payment. The buyer then sold each of these building 2 years later for 1.8MM and 2.5MM. And at the close of escrow the buyer walked away with $2,500,000.00 using the equity of the my client the seller. My client didn’t want to manage the properties any more, and didn’t want to hire a property manager, and against my advise financed the purchase of these two buildings. The seller didn’t lose any money as his notes where paid off in full, but he lost out on the opportunity to make much more money on the equity he had put himself at risk for and had accumulated over time.

Don’t let someone else use the equity you’ve earned make money you deserve. If your going to sell the building then sell it without the burden of risk.