Six Questions to Ask Before Buying Michigan Commercial Real Estate
Investing in Michigan commercial real estate is no minor undertaking. Few prospective purchasers sign agreements to buy commercial, retail, or industrial property on a whim. Nor do they do so without conducting substantial due diligence to evaluate the transaction's risks and potential rewards and determine whether it is likely to result in steady, lucrative returns.
Part of that due diligence involves asking plenty of questions – of yourself, the current owner, lenders, and others. Knowing what you want to accomplish with your acquisition and why you are engaging in the effort is the first step in determining whether a given commercial real estate opportunity is a prudent investment.
Here are six questions all prospective purchasers of Michigan commercial property should ask and find answers to before signing on any dotted lines:
1. Is this the right place?
"Location, location, location" is a fundamental platitude about real estate for good reason. For commercial property, an investment's success or failure often comes down to whether the property is in an area that can attract desirable renters and consistently deliver high occupancy rates.
This often depends on the nature and proposed use of the commercial property relative to its surroundings. An attractive location for a warehouse and industrial property may be an empty wasteland for retail tenants who need higher visibility, accessibility, and steady customer traffic. Also, consider your investment location on a macro level, looking at the area and region's longer-term economic, employment, and population projections.
2. How are the current tenants?
Your future returns also rely on a steady and reliable stream of rental payments by credit-worthy tenants. Look at the property's current rent rolls, tenant payment history, and credit histories to evaluate the risks of defaults. Also, dig into individual leases to see whether any principals have personally guaranteed the lessee's obligations, which can offer a significant layer of protection against any arrearages or defaults.
3. Can you get a pro forma?
A pro forma is a document that lists the details of expenses and income related to the property. It will show you the net operating income (NOI) for the property and help you calculate the expected return on your investment. However, the purchase of the property may significantly impact that NOI if it “uncaps” annual increases to its taxable value.
In Michigan, annual increases to the taxable value of a property (the dollar value that you pay taxes on) are “capped” at the rate of inflation or five percent, whichever is less. But when a transfer of property ownership occurs, such as a purchase and sale, the taxable value of the property is “uncapped,” and the state equalized value (SEV) of the property becomes its new taxable value. Prospective purchasers need to factor in this potential tax liability when reviewing the pro forma and the NOI figures it contains.
4. Are there any title defects or issues with the physical plant that will require remediation?
You don't want to invest in a commercial property only to discover that you need to expend huge sums on needed repairs to a building or remediate environmental, zoning, land use, or other legal issues. Similarly, you need to know if there are any liens, easements, encumbrances, or other title issues which could lead to costly disputes.
5. How much time and effort will you spend managing the property?
When you purchase commercial real estate, you also acquire the day-to-day and long-term responsibilities of managing the property. Especially for first-time commercial property investors, it is important not to underestimate the time commitment involved in commercial property management.
Depending on the terms of existing leases, you as the owner may become responsible for taking care of all maintenance and repairs on the property. While you can certainly hire a professional property management company to handle these matters, make sure you factor in the expense of retaining such a company into your investment calculations.
6. Can you afford this?
There are no guarantees or givens when investing in commercial real estate. No matter how much due diligence you do, no matter how many times you crunch the numbers, your acquisition could be a huge and lucrative success or a costly and burdensome albatross. Make sure you know how much debt you can afford to assume and how much you are prepared to lose if things go south. Consider establishing a reserve to cover unexpected expenses or repairs.
Contact Us Today With Your Michigan Commercial Real Estate Questions
The real estate lawyers at Williams, Williams, Rattner & Plunkett understand the multitude of issues commercial property investors face in Michigan. We have the experience and insights to minimize our clients' risks and maximize the return on their investments when purchasing commercial real estate of all kinds.
If you are considering purchasing commercial property in Michigan, we welcome the opportunity to assist you. Please contact us today to arrange for a consultation.