Commercial Real Estate Transactions

Use these links to jump to different sections:

• What Is Commercial Real Estate?
• Who Are the Key Players in a CRE Transaction?
• What Is the Legal Process of Commercial Property Acquisition?
• What Is Due Diligence in Commercial Real Estate Transaction?
• What Are the Key Legal Issues in a Commercial Real Estate Transaction?
• Do You Need a Lawyer for a Commercial Real Estate Deal?
• Find an Experienced Real Estate Attorney

Commercial real estate (CRE) plays a vital role in a broad range of industries. Without it, we would not have offices, stores, and manufacturing plants. Unlike single-family residential property, commercial real estate transactions are about investment and potential wealth growth. Transactions are done based on numbers and performance, not emotions. Because of this, the CRE transaction process is more complicated and thorough.

What Is Commercial Real Estate?

Commercial real estate is property meant to generate revenue. It differs from residential real estate, which is meant for people to live. Commercial real estate is designed for use as office space, shopping centers, industrial space, and more.

Typically, commercial real estate is bought by multiple individuals working together as investors or a legal entity, such as a company or LLC. Not all commercial real estate is the same or suitable for any commercial use. With real estate investing, it is important to consider the property type.

“There are potentially many more complexities with commercial real estate transactions than there are with residential transactions,” says Harlan W. Robins, a top-rated commercial real estate attorney at Frost Brown Todd LLP in Columbus, Ohio.

Office

Office commercial real estate is a property that is designed for business operations. These properties are ranked by quality: Class A, Class B, and Class C. These spaces can come with lobbies, meeting rooms, and offices already built out. They could also be open spaces that allow the business to build out the interior to their needs.

Retail

Most of us are familiar with retail commercial property, as this is where we do our shopping. Retail includes stores that sell products, restaurants, and entertainment venues. These commercial spaces drive foot traffic, making them valuable. You will find them in single standalone setups or multi-tenant designs. You will often see a single large tenant called an anchor that several smaller retail tenants support.

Industrial

Industrial commercial real estate is generally located further away from developed and urban areas. They are also often located near major transportation routes. There are four types of industrial real estate: heavy manufacturing, light assembly, bulk warehouse, and flex industrial.

Multifamily

While residential property is where people live, there is a type of commercial property that houses people. A single investor or entity will own a property that houses multiple families. Apartment buildings, such as high-rise, mid-rise, garden-style, and walk-up buildings, all qualify. Another type is manufactured housing communities. Finally, there is special-use commercial housing, such as subsidized, student, or senior living.

Hotel

Commercial real estate that qualifies as a hotel includes any establishment that provides temporary housing, meals, and other services to traveling individuals. This type of commercial real estate has six subcategories: limited-service, full-service, boutique, casino, extended-stay, and resort.

Special Purpose

A special-purpose category of commercial property covers all other types that do not fit the previous categories. Examples of special-purpose commercial real estate include storage units, fairlands, bowling alleys, amusement parks, and churches.

Who Are the Key Players in a CRE Transaction?

Many people play key roles during a commercial real estate transaction. Understanding what each person does will make the transaction process easier and smoother.

Buyer and Seller

The buyer and seller are the two primary parties in a commercial real estate transaction. The seller is the current owner of the property. The buyer hopes to obtain ownership from the seller in exchange for monetized value. Sellers hope to make a profit in the sale from their initial investment when buying the property. Sellers hope to invest in a property that can help them generate income.

Real Estate Professionals

The buyer and seller typically work with a commercial real estate agent or broker. These licensed professionals represent their clients during the transaction process, act as advisors, and advocate for their clients during negotiations.

Legal

A real estate attorney may or may not be required, but it is always advisable to have one during a commercial real estate transaction. They will prepare and review legal documents. They can assist with dispute resolution, legal compliance, and strategic planning. A real estate attorney can also assist owners when leasing commercial property. They can prepare, negotiate, and enforce commercial leases.

Financial Professionals

Several financial professionals are involved in CRE transactions. An escrow officer is a neutral third party that holds and manages the earnest deposit money. This money symbolizes the buyer’s serious interest in buying the property. The escrow officer will release the funds at the closing and ensure monies are allocated correctly.

A lender is a financial institution or individual that supplies the funding for the real estate purchase. The buyer borrows the money from the lender and then makes agreed-upon payments. A loan officer is an employee of the lender who manages the buyer’s account. They help the buyer through the application process and complete loan documents.

Due Diligence Professionals

During the due diligence phase several professionals are employed to perform specific inspection tasks. A surveyor conducts the physical examination of the property. An environmental consultant will perform an environmental site assessment (ESA).  An appraiser will perform a valuation of the property by comparing it to other similar properties on the real estate market.

What Is the Legal Process of Commercial Property Acquisition?

Commercial real estate transactions follow a similar process as residential property acquisitions. The primary difference is the scale. The value of commercial real estate is significantly higher. There are more regulations to comply with. While every real estate transaction is different, this is the common process that commercial real estate transactions follow.

1. Determine your real estate needs and budget.
2. Consider properties identified by your real estate agent or broker.
3. Begin securing financing and put earnest money in escrow.
4. Conduct due diligence and title search processes.
5. Negotiate the sale contract terms.
6. Draft legal documentation: purchase agreement and other legal documents.
7. Finalize the sale: sign contracts, make payments, and transfer ownership.

What Is Due Diligence in Commercial Real Estate Transaction?

The due diligence process of a commercial real estate transaction allows the buyer to identify possible issues. Depending on the severity of the issue, it could impact the completion of the sale by hindering the buyer’s ability to invest in the property. While due diligence is performed in a residential property transaction, it is more complex for a commercial property. You can expect due diligence to take 30 to 90 days, but it can be longer for more complex transactions.

Property Inspection

A physical inspection will determine the property’s physical condition. Any required repairs will be noted to aid property valuation. The inspection includes evaluations of the landscaping, parking areas, common spaces, utilities, mechanical operations, and roof. Technical aspects of the property are also considered, including boundary lines, soil condition, rights of way, surface water collection, and access roads.

Title Search

A title search is a look into the property’s ownership history. The buyer will want to reduce the risk of another party claiming ownership rights after the transaction. A title search is required if the buyer decides to purchase title insurance. Lenders also typically require a title search. Any liens, encumbrances, and easements on the property title are identified.

Environmental Assessment

An environment site assessment (ESA) will identify possible contamination and its severity. The goal is to bring the property into compliance with applicable environmental laws. The assessment will test groundwater and soil for the presence of hazardous chemicals.

Robins discusses how environmental issues are assessed during a commercial real estate transaction. “Part of your due diligence in an environmental site assessment is to have a licensed site assessor come out and do a physical inspection of the property. They check databases and actually go out and physically walk around the property looking for what’s called a REC, a recognized environmental condition. If they find a REC, they do a more intensive search and excavation of the property, which is called a Phase II Report. So the first one is Phase I, which is more preliminary, and if they find clues or signs that there’s environmental contamination, they recommend a Phase II.”

Zoning and Land Use

Commercial land is worthless if you cannot use it to operate the type of business you want to have. Zoning and use laws define what businesses can operate on a piece of property. The buyer can review code enforcement records and request an evaluation.

Financial Due Diligence

A thorough review of financial records is essential when considering investment opportunities. This includes current income statements, active leases, and tax payment records. These documents tell the buyer about the property’s financial health and potential future income.

ADA Compliance

If the commercial real estate transaction includes a structure on the property, then ADA compliance can be a part of due diligence. Federal and state laws define the standards commercial properties must meet to maintain accessibility for individuals with disabilities. A buyer may discover that a property is not in ADA compliance, requiring additional investment beyond the purchase.

What Are the Key Legal Issues in a Commercial Real Estate Transaction?

Several legal issues can arise during commercial real estate transactions. They can arise in a variety of legal sectors, from real estate to contracts and government compliances. Working with an experienced commercial real estate attorney can provide valuable guidance. Your attorney will know what to look for to avoid pitfalls and how to protect your financial investment.

Due Diligence and Title Issues

Similar to residential real estate transactions, commercial real estate sales have a due diligence and title search phase. Both of these phases can bring issues to the forefront. The buyer and seller will need to negotiate who will be responsible for correcting the issue. Due diligence could identify incorrect surveys, disputed property lines, incorrect records, environmental issues, zoning problems, and more. During a title search, there could be issues with the chain of ownership, disputed encumbrances, or liens.

Environmental Considerations

If you plan to buy commercial real estate that was previously used by another business, environment assessments will become a priority. There are two types: Phase I and Phase II. These assessments identify contamination and hazards that pose a risk to the environment. If identified, they can be costly. You may be required to pay for the cleanup or purchase additional insurance. In some situations, these costs can prohibit the purchase of property for your business.

Contract Negotiation and Drafting

Contract negotiations are an integral part of investing in commercial real estate. Sales contracts and leases are legal documents that require you to negotiate and sign with another party. These agreements can be lengthy and have many terms. Hiring a real estate attorney with experience in commercial transactions is a must. Your lawyer will negotiate terms on your behalf, draft documents, and represent you in disputes.

Land Use and Zoning Compliance

Local zoning and land use laws dictate how a piece of real estate can be used. This is what prevents an industrial plant from being built next to a home. These laws help bring organizations to a city layout. Commercial real estate owners must adhere to building codes, environmental regulations, and zoning ordinances when deciding how to use the property. Failing to adhere to these regulations can result in significant costly delays and penalties. In certain situations, they can prevent you from using the property for the business you intend to operate.

Tax Considerations

Due to the increased size and value of commercial property, this type of real estate can have significant tax implications. An owner could be liable for local, state, and federal taxes.  When operating a business, you could have to pay property, capital gains, and sales tax. Credits or deductions may also be available for real estate ownership.

Lease Agreements and Landlord-Tenant Issues

Generally, it is common for businesses to lease a commercial property instead of buying it. When this happens, they must sign a commercial lease agreement. In addition to terms like rent, duration, and renewal options, there are additional terms that you don’t typically see in a residential lease. This could include maintenance requirements, customization allowances, and requirements for returning the property to its original condition. It can also include use restrictions, dispute resolution requirements, and insurance clauses.

Financing and Security Instruments

Commercial real estate often costs hundreds of thousands to millions of dollars. Buyers will use financing to make their real estate purchases. Legal questions can arise when securing investors, obtaining mortgages, or managing loans. A commercial real estate attorney can review loan documents for repayment terms, interest rates, required payments, and more.

ADA Compliance

The Americans with Disabilities Act (ADA) applies to commercial real estate. This is because employees and the general public use it. Individuals with disabilities should be able to access the property. This compliance requirement can create a few legal questions. The buyer and seller need to decide who is liable for making the property ADA-compliant. If the property is leased, then the lessee and property owner need to decide who is responsible for compliance. Bringing a commercial property into compliance can be expensive, so this is not something to be overlooked. There are also penalties for lack of compliance, which you don’t want to be surprised with.

Do You Need a Lawyer for a Commercial Real Estate Deal?

Yes, a commercial real estate attorney is a vital individual to have on your team. Beginners and experienced real estate investors can depend on their attorneys to review complex legal documents, prepare their own documents, negotiate terms, advocate for their best interests, and assist with dispute resolution. Because a significant amount of money is at stake in this type of investment, the cost of an attorney is well worth the risk reduction.

Find an Experienced Real Estate Attorney

If commercial real estate investment sounds intriguing, consider speaking with a real estate attorney first. They can answer questions and provide you with guidance. It is better to speak with an attorney early on than wait until an issue arises and you need one.

Visit the Super Lawyers directory to begin your search for an experienced real estate attorney. For more information, read our guide on real estate law.