Tuesday, December 10, 2013

Power of Sale - Basics of Buying a 'POS' Commercial Property (Ontario, Canada Only)

In recent years, Ontario has generally seen an increase in this type of property sale - that is a sale based on a mortgage default. Although they can be an excellent opportunity under the right circumstances (aka – “great deal”), you should proceed with ‘eyes wide open’ as you negotiate a purchase agreement.   
First let’s consider what you will be accepting/assuming in buying the property:
·         Buyer accepts it in AS IS condition (with no representations/warranties)
·         Buyer assumes all municipal violations (work orders/deficiency notices)
·         Discharge of previous mortgages not required by the Seller
·         Buyer has the RIGHT TO REDEEM right up until closing
·         Fixtures/Chattels accepted in AS IS WHERE IS condition
·         No representations on ownership of Fixtures/Chattels
·         Tenants on the property and the status of their leases/occupancy rights
·         Limited documented history on the property (ie. HVAC system, roof etc.)
All of it needs to be considered in your evaluating the risk in acquiring the property. But there are certain measures, which can you can take to better protect yourself as you attempt to negotiate a purchase.
·         Insert a Building Inspection condition to review/examine the property
·         Order a title search to examine any title issues & request any municipal violations as part of that review (do it within the conditional period)
·         Insert a mortgage condition, if financing’s needed, with a tight timeline
·         Request access to any tenants, to determine their viability and assure them of your status as ‘future landlord’
Realistically some or all of the above, can be problematic in trying to strike a deal - especially if it is an active/highly competitive property. But if presented reasonably within the offer  - and include tight conditional timelines, quick closing dates, substantial deposits, and the financial resolution the Seller is looking for – it can be accomplished. We like to say - a short conditional Due Diligence period, is better than not at all!
Again, review your Purchase Agreement with your lawyer and make sure you understand the implications of the POS Schedule attached to it. In addition, seek out Experienced Commercial Brokers in your area, who have an established record on the ‘Buy Side’ of POS properties.

Monday, November 18, 2013

Power of Sale - The Basics for Re-Selling the Property (Ontario, Canada - Sellers Only)

Once you proceed to redeem a mortgage now in default, what comes next?  A Power of Sale (POS), as noted in our prior post, is the most efficient and typically quickest means of resolving the default (aka – recovering your funds).

 A properly enacted POS should include much of the following:

·         The mortgagee (lender) has the right to re-sell the property

·          Property should be listed for sale at fair market value

·         Independent appraisals should be obtained (minimum of 2)

·         Document the marketing process (MLS exposure, ads run, signage etc.)

·         Property is Sold on “AS IS” basis with no reps. or warranties

·         Negotiate as with any normal property sale (record all offers/counters)

·         A provision in the sale agreement allowing the mortgagors (borrowers)
    ‘the right to bring the mortgage into good standing’ prior to closing

Although this last point is most often unlikely, legally you must provide for it within any sale agreement. Your lawyer will likely recommend that you attach a POS appendix to any agreement, which will not only address this issue, but also the matter of “no representations/warranties, AS IS sale etc."  This Appendix is a must in re-selling the property and serves to protect your interests with a 3rd  party buyer.

On the matter of  accounting for all costs associated with a POS proceeding, make sure you maintain a clear record of what these additional expenses are. They typically include legal fees and appraisal costs, but also can involve such other expenses as – property insurance, utility costs, maintenance/management, carrying costs, etc.  Under a properly executed POS, you are entitled to the recovery of such costs which are above and beyond the mortgage balance itself.

Best practice is to follow the clear advice and direction of your lawyer. In addition, seek out experienced commercial brokers in your area, who have an established track record in the marketing of POS properties. 


Monday, October 28, 2013

Private Mortgages – What Happens in the Event of Default? (Ontario, Canada Only)

If you’ve invested in a private mortgage, which goes into default – what steps are available to redeem the mortgage and reduce any potential losses? This assumes you’ve taken all the appropriate steps to collect on past due amounts, and the prospects of keeping the mortgage in good standing seem unlikely.

In Ontario, the remedies are primarily:

·         POWER OF SALE

·         FORECLOSE

Power of Sale is a provision within the mortgage document itself, which allows the property to be sold in the event of default.  This is the most common of the two remedies noted above and the one most prevalent in the market. It is the quickest and most efficient means of resolving a mortgage default.

Two key points to bear in mind with respect to a Power of Sale – 1) it allows the lender to recover 100% of their administrative expenses (including legal fees) plus the full mortgage debt, 2) it allows the lender the right to pursue the borrower for any deficiency.

Foreclosures for the most part are very complicated (technical) and time consuming
(expensive). Circumstances under which one would  choose the foreclosure route, might include the willingness to wait on a ‘market turnaround’ (meaning 1-2 years) – particularly if the value is underwater, relative to the mortgage amount. But these are rare instances, and may end up making a bad situation even worse.

Whichever route you choose, make sure you are under the direction of a qualified lawyer who specializes in both real estate matters and handling mortgage defaults. The process is very much a legal proceeding and you need to ensure all the necessary steps are taken to successfully redeem your mortgage.

One final note, possession of the property in the event of a default is often key
in terms of how quickly you can move through the process. Pay special attention to this aspect of any default, as it can often involve untimely delays and additional legal costs.

As always, consult with experienced commercial brokers in your area, when considering default remedies and to help in evaluating the property.  

Friday, October 11, 2013

Private Mortgages - Do They Make Good Investments?

Investing money in private mortgages on commercial real estate  – UNDER THE RIGHT CIRCUMSTANCES AND AGAINST THE RIGHT PROPERTIES – can be an excellent investment strategy. As with everything in real estate, you must weigh the risk/return carefully, before tying up your hard earned capital.

Best practice is to consider the mortgage, much as a normal institutional lender would. You would want to closely examine the following areas initially:

·         Quality of the real estate (collateral)

·         Stability of the cash flow (both historically & moving forward)

·         Credit/Covenant of the borrower (credit score/net worth/character)

·         Loan to Value (LTV) Ratio ( 70% - 75% - 80%)

One of the earliest questions to consider – why is an institutional mortgage not available or possible? Chances are that it involves one or more of the above points. That should then help frame the ‘risk’ part of the deal – ie. if it’s a credit problem or possibly an LTV issue. Once you identify the risk, then you can determine whether or not the reward (return) side, justifies funding the deal.

Once the decision is made to ‘move forward’, then you enter into the due diligence part of the transaction. Typical details would include -- reviewing the most recent appraisals on the property, credit reports/employment letters on the borrowers, personal statements, property condition reports, environmental reports, and even title searches. Full disclosure of the facts surrounding the transaction is what you are after, and you almost adopt the position of the Buyer in doing so.  

Who should you involve? More than likely an experienced mortgage broker and a seasoned real estate lawyer for sure. The mortgage broker should help in the coordination of the due diligence process and all of the preliminaries. The lawyer then puts into place the actual mortgage document, ensuring your security over the term of the loan.

As always, it’s always a good idea  to consult with an experienced commercial broker in your area, when evaluating the risk/reward potential on a private mortgage.

Thursday, September 26, 2013

Private Mortgages - When/From Who/Negotiating Terms

Private mortgage lenders can be companies or individuals who provide necessary financing when normal institutional options are not available. They hold security on the property, as would a typical bank type mortgage, as an asset backed loan.  They can prove to be an excellent alternative to conventional financing in many circumstances.

Examples of where taking mortgages out from private sources can be a preferred option:
·        Buying a specialty property (ie.gas station), that banks will not consider
·        Buying a property with physical impairments (ie.environmental issues)
·        Loan to value considerations (needing 80% vs. institutional @ 65%)
·        Poor  credit rating or previous bankruptcy
·        Needing a short term (stop gap) loan for a short period of time (ie. 1 yr.)
·        Small business owner with unverifiable income
·        Needing quick financing approval in order to firm up a sale
·        Seller financing often can include more favourable terms given the
their motivation in selling the property

Private mortgages are best sourced through Mortgage Brokers (MB), who would have a list of companies or individuals who wish to invest their cash into private mortgages. The mortgage brokerage industry has grown exponentially in the last 20 years in Canada, so there are a plenty of MB’s to consider. The key is to ensure they are qualified to deliver a private lender, who can meet your objectives and timelines.

Things to look for include:
·        Will a detailed Letter of Commitment be provided
·        What other costs and fees are involved
·        Time to process the approval
·        Can you meet the private lender to review your situation
·        Costs to Payout Early (prior to expiry of the term)

Keep in mind that if your intentions and commitment are sound and your mortgage ends up being paid as agreed – it proves to be a good investment for the lender.  The key then is to take this position upfront, in order to help you negotiate the most favourable terms. As with everything in real estate – ‘you don’t get what you deserve..you get what you negotiate’. Even when dealing in the private mortgage market, don’t sell yourself short! 

As always, enlist the assistance of an experienced commercial realtor in locating the best private financing sources available in your area.

Thursday, September 12, 2013

Private Mortgages - Need a Written Mortgage Commitment?

If you look to finance a purchase through a Private Mortgage – that is a lender who is not a financial institution – is the process any different with respect to obtaining a formal (written) Mortgage Commitment (MC)?  It should not be and there are a number of reasons to insist on receiving one, before moving forward.

As with any of the specifics involved with the transaction, you want to be informed in advance of all costs and obligations which pertain to the mortgage. All of the same details which we outlined with institutional lenders, may infact apply to the private mortgage. There could also be some additional ones – ie. upfront administration fees, punitive penalties for early payout, mortgage brokerage fees and the list goes on.  Best practice, is to insist on a detailed MC so that there are “no surprises” at closing.

Private lending plays an important role in the commercial property market. It is often a good option and sometimes the only option, in being able to fund a purchase. With that said, the industry is littered with closings (and non-closings), on transactions which involved private mortgages which were significantly misunderstood until the day of closing. The ramifications of this are not only costly, but painful to experience for all concerned.

As a final note and with respect to a Vendor Held Mortgage (with the Seller), a major benefit is that you are able to incorporate the terms of the MC within the body of the offer. You can not only outline mortgage amount/rate/term/amortization (the basics), but also cover prepayment options, specifics on guarantors, any details on secondary financing etc. Some of it may need to be negotiated, but you at least get it on the table
and they become terms within your Agreement of Purchase and Sale.  The Seller is often your best source of Private Financing, so make sure that is your first stop!

It’s worth repeating - the “DEVIL IS IN THE DETAILS”. Again, it’s always a good idea to review a MC with your lawyer and your Experienced Commercial Realtors upon receipt, and especially given the fact that much of it affects their task in closing the transaction.

Thursday, August 29, 2013

Mortgage Commitement Letters - For Buyers Only

Many versions of Mortgage Commitment Letters exist within the commercial mortgage market. This document provides written proof that the lender is willing to loan a specific sum, by way of a set mortgage amount, which allows the Buyer to complete the purchase of the property. They can be ‘conditional’ or ‘non-conditional’, but in most instances they are conditional - meaning the Buyer (or mortgagor) must meet certain conditions in order to qualify for the advance of funds.

Typically it should contain much of the following:

·        Mortgagor Details – Name, address, postal, email coordinates
·        Collateral – Description of the property type and location
·        Interest Rate – Fixed or Variable
·        Term – Set for a specific period
·        Amortization – Time period for 100% payback
·        Title Insurance – possible requirement
·        Survey – possible requirement
·        Guarantor Requirements – corporate/personal
·        Prepayment Options – if any (NB: if not included, mortgage is closed)
·        Expenses – All costs to lender, including legal,registration, and admin.
·        Secondary Financing – may not be permitted and excluded specifically
·        Expiration Date – time period by which MCL is executed & mortgage finalized

Specifically in the case of a conditional MCL, it  may include the following:

·        Satisfactory Environmental Report(s)
·        Full Appraisal Report (supportive of the value)
·        Structural/Physical Building Report (indicating no deficiencies)
·        Financial Reports – either corporate or personal as necessary
·        Credit Reports – to the satisfaction of the lender

Again, be aware that any conditions contained in the MCL must be met before the commitment is set and binding. As always, the DEVIL IS IN THE DETAILS, so make sure you understand the requirements as they are contained within the letter to ensure your funding is in place come closing date.

As a final note, it is always a good idea to review a MCL with your lawyer upon receipt, and especially given the fact that much of it affects their task in closing the transaction.   

Friday, August 9, 2013

Mortgage Discharge Penalties - Cost of Early Payout (Attention: Sellers)

One of the more controversial aspects relating to commercial mortgages, are the discharge costs to pay off a mortgage prior to its maturity date. There is realistically no common method of determining an early payout cost, as most typical commercial mortgages are deemed “closed” – meaning they run until maturity, without allowing for an early payout provision.

If a lender is to agree to an early payout of an existing mortgage, some of the more common discharge penalties may include:

·        Three months interest cost (based on the current balance)
·        Interest rate differential (actual interest rate vs. the re-lending/current rate)
·        Greater of either of the above 2 methods
·        100% interest recovery for the balance of the term (ouch!)
·        Any variation of the above (AKA – negotiating a better discharge fee)

It is important to note, that the lending institution has an obligation to outline the penalty that they could charge within the actual mortgage document. But this assumes, that you review (read) this detail within the mortgage terms, and that you understand what the financial consequences may be at some point within the mortgage term. This is a clear planning matter at the time of closing a deal and advancing a mortgage – your plans should account for such contingencies, so that there are no major financial surprises later on.

Other suggestions may include – negotiating with the Buyer to return to your lender for financing, paying down the rate for a prospective buyer to remain with the lender, or perhaps financing other properties with the lender. Lender’s are often more negotiable, if they can gain new business as an offset to the loss of the mortgage being discharged.

As always, SELLERS seek out the advice of experienced commercial realtors within your market, ensuring you account for discharge penalties on all existing financing prior to marketing the property. There may be more negotiating to do, than just with the Buyer!   

Monday, July 29, 2013

Mortgage Terms/Conditions - "Not As Simple As Financing Your Home" (For Canadians Only)

In earlier posts, we talked in general terms about Mortgage Financing, and now would like to expand the discussion, as it relates to financing of commercial properties. This is a big topic and we will break it down into smaller parts over the next few posts.

In considering financing - the first decision is whether to work with a Qualified Mortgage Broker or to approach Institutional Lenders directly. In going the Mortgage Broker route, you’ll likely have a better opportunity to source multiple lending sources, since they will shop the market for you. If you approach Institutional Lenders yourself, the obvious benefit is that you are dealing directly with the mortgage originator (decision maker) and the one on one may simplify the process. Either approach can work, depending on not only your own expertise, but the type of property being financed.

Qualifying for commercial mortgages is a fairly rigorous process, and unlike residential mortgages (which often are insured through CMHC), there is no such backstop (protection) for the lender.  As a result, you should assume the following:

·        Designed to protect the institutions against default/losses
·        Generally tougher to qualify for
·        Involve shorter amortizations
·        Structured to guarantee the interest component
·        Involve considerably more upfront soft costs
(ie. appraisal, environmental, structural reports etc.)

Turnaround times on commercial mortgages are often 45-60 days - that is from the time of initial application to receipt of a detailed/written mortgage commitment.  This also assumes that all of the parties conducting all of the reports noted above, are on-time and not delayed for any reason. Certain lenders may also require the posting of a set-up fee at the time of application, to cover their costs to process the mortgage.

Lots more to follow on financing.... as always, seek out the advice of experienced commercial realtors within your market, as you consider mortgaging alternatives on any real estate acquisition.

Thursday, July 11, 2013

Purchase Price Allocation - How/When/Importance... (For Canadians Only)

Purchase price allocation of a commercial property, is necessary at the time of sale.  In the case of the the Buyer, they need to allocate the  purchase price to establish their original cost amounts, for the purpose of computing amortization and depreciation. With the Seller, they need to allocate the price to determine their taxable income – primarily with respect to capital gains and recaptured depreciation.  Best practice is that it be negotiated within the Offer to Purchase Agreement itself.

In terms of what’s being allocated in a typical commercial property sale, it should include valuations on the following at a minimum:

·        Building
·        Land
·        Equipment/Chattels

In addition, items such as major property improvements (ie. surfaced parking lots, out-buildings), can be categorized and valued separately. Valuations should be realistic and supportable, as they can certainly be called into question by the TAX MAN at some point later. Clearly this is also an area that requires the involvement of your accountant, to review the future tax consequences of the proposed allocation.

It should also be noted, that the Buyer and Seller will often have opposite positions on the respective valuations – the Buyer wanting to allocate as much as possible to the hard asset side (building/equipment) & the Seller wanting to minimize this portion to reduce capital gains/recapture costs . All the more to reason to ensure it is a term negotiated upfront.

As always seek out the advice of experienced commercial realtors within your market, as you consider the implications of Purchase Price Allocation on any Purchase/Sale.

Wednesday, July 3, 2013

Repairs and Replacement of Major Capital Items - Who Pays?

Who pays and is responsible, for repairs to major capital items, when they arise?  As the acquirer of any investment property, you should closely review all existing lease agreements to ensure you understand what the financial implications are to you, as the prospective landlord.

Full net leases typically allow the Landlord to assess the entire obligation for the repair, on to the Tenant. So in the event of a $1000 repair bill on a rooftop HVAC unit, it can be added to the Operating Cost Recovery for the property and results in a flow through charge back to the Tenant. Assuming it’s annualized, it effectively changes the Tenant’s regular operating cost by about $83 per month.

But in the event of a major replacement (ie. $10,000 to replace an HVAC unit), how does the “LEASE READ”?  More importantly how is this cost recovered from the Tenant and over what time frame?  Due at the time of replacement, within 12 months, or amortized over 5 -10 years...all may be possible, depending on how the ‘Repair & Maintenance Provisions’ are written in the lease.

As a prospective owner, funding major repairs and outright replacements of ‘big ticket’ capital items is an area you need to seriously account for.  Parking lots, roofs, and mechanical equipment are all significant cost items. Most often if they are 100% recoverable, it is likely only on an amortized basis and over a period of years.

In order to have a complete understanding of the maintenance and repair obligations, AND THE FINANCIAL BURDENS THEY POTENTIALLY INVOLVE, the maintenance and repair sections of the lease must be carefully reviewed in conjunction with the lease provisions dealing with operating cost recoveries.

This is again a case of completing sound DUE DILIGENCE with respect to the leases in place on the property. As always seek out the advice of experienced commercial realtors within your market and as you review the implications of ‘Repairs & Replacement' on investment properties being considered.

Monday, June 17, 2013

Investment Property Insurance - How Important?

As is the case for insurance on your own personal residence, properly insuring your investment property is extremely important.  Protecting this asset with proper coverage is essential and helps ensure your overall investment strategy, doesn’t evaporate through an unforeseen event.

Building insurance generally covers total or partial building loss as to an agreed upon policy amount. Coverage should be sufficient to cover any damage based on relevant estimates of current replacement costs – ie. if $125/ ft. is the current figure to replace a commercial building in the event of a total loss, then that’s the level of coverage you need to have in place.  If you choose to ‘under insure’ by taking out insufficient coverage, you are in reality ‘co-insuring’ the property. In this case, you will be responsible to pay any amounts above and beyond what the insurance coverage provides for.

Landlord’s insurance generally covers loss of income and tenant damage.  Loss of income would be coverage if a property was unfit for rental purposes for a period of time. With respect to Tenant damage issues, it could cover default by the tenant due to vandalism, theft or malicious acts.

There are certainly other specific coverages that you may need for your specific purposes – ie. accidental plate glass breakage, power failures/surges, sewage back-up, to name a few.

Best practice here, is to review your requirements with your commercial insurance broker, making sure you have a comprehensive analysis done on your specific property.  As always, seek out the advice of experienced commercial realtors within your market, as you review your property insurance options.

Thursday, June 6, 2013

Property Taxes - About Assessments & Tax Rates (Ontario, Canada Only)

Municipal tax costs on any commercial property are generally significant and a major annual expense.  The tax bill is basically a bi-product of 2 factors:

1. The Current Value Assessment (CVA) of the property
2. The Municipal Tax Rate

Assessments are provided by the Province of Ontario (thru MPAC) and the tax rates are then levied by the local municipality. The Net Tax owing is then determined through a process of straight multiplication. Since the Tax Rate is set by the municipality, it is a part of the formula which for these purposes, I would suggest you have little/or no influence on.  However, you do need to keep an eye on the CVA side, to ensure it is realistic and relevant to the property’s Current Market Value.

With that in mind, there are three specific methods of valuation

1. Income Approach 
2. Comparative Sales Analysis 
3. Cost Approach 

The first 2 are most often used, with the Cost Approach used primarily in cases where there is a lack of data available, for purposes of a proper evaluation/comparison.

In considering the above, it is always a worthwhile exercise to determine how realistic a property’s CVA is, ensuring you are not paying more than your fair share on property taxes. If your analysis determines that the assessment is overstated by 10-20-30%, by all means file an appeal through MPAC. Bear in mind, there are rules and regulations to follow in filing an appeal, and it can be arduously slow - but you can successfully reduce your assessment if the facts clearly support your position (meaning the CVA is overstated).

Just a final note, there are full time tax assessment consultants throughout the province, who specialize in reviewing property assessments and handling appeals.  Absolutely worth at least a discussion, to see how they might be of service.  Also, MPAC is very approachable on matters regarding assessments and their website is an excellent starting point.

As always, seek out the advice of experienced commercial realtors within your market, as you review tax assessment matters on specific investment properties.

Wednesday, May 29, 2013

Property Management - Self Managing

The concept of ‘self managing’ a commercial property may make sense in certain situations.  If you have the ability and resources to provide the necessary services for the property, there is no reason you shouldn’t consider managing the property on your own - and pay yourself to do so.
What might this look like and are there issues that need to be addressed?  As with professional management, it needs to include the first 3 elements – Asset Management (AM), Financial Management (FM), and Physical Maintenance.  Since you are the owner,  the AM/FM component becomes more of an internal exercise, as you are basically accounting (reporting) to yourself.  Tenant communication is probably the biggest key, and you should attempt to provide it a level which is comparable to professional management. That doesn’t mean it needs to be overly complicated and detailed – but rather efficient, clear, and easily understandable. On the leasing function, you may opt to involve a real estate brokerage to handle new leasing placements.  In this scenario, you might retain the responsibility of negotiating any new deals, lease preparation, and completing any work required to deliver the space.
Bear in mind, you are wearing a lot of hats in self-managing. You need to do a good self assessment to ensure you are up for the task.  In preparation, consult with your professional advisors (lawyer, accountant, & of course r/e broker) to make sure you are able to deliver the service needed on all counts.
Should you pay yourself – ABSOLUTELY!  There is no such thing as 'Free Management’ and it should be costed at levels consistent with whatever is typical in your market. If done properly, it is often a  ’win-win’ for owners and tenants, given the vested interest both have in the property.
Again, seek out experienced commercial realtors within your  market to discuss prospects on ‘self-managing’ your property.