Selling your multifamily property is one of those things that seems simple, and in theory is easy, but invariably has unexpected complications. That's because of one main thing: deal-killing surprises in the escrow process. We wrote this article to outline the 5 most crucial steps to prepare your multifamily property for sale while simultaneously limiting surprises in escrow.
It's frustrating when unreliable buyers don’t perform on their purchase agreement terms, especially with unreasonable price reduction requests and supposed financing complications. Nothing is a done deal until contingencies are removed, and getting over the finish line tends to be an uphill climb with most buyers. Safeguarding against potential obstacles in escrow requires diligent preparation and strategic market positioning of your listing. We walk you through the five steps we recommend to all of our clients before selling apartments:
Before
After
Improve Curb Appeal
I elaborate about this extensively in another post; click here to check out more ideas on how to simply, easily, and inexpensively give your property an eye-catching face-lift (and possibly force appreciation!). There are numerous ways to do this:
Paint
Landscaping
Fencing
Slurry Seal and Striping
Signage
Double Pane Windows
BONUS: Update the laundry room!
I’d caution, however, that increasing curb appeal should be evaluated on a case-by-case basis. In this historically high priced residential and multifamily sellers’ market, buyers are paying record prices in AS-IS condition. In many cases, the amount you invest into curb appeal may not necessarily force commensurate value, since buyers tend to be indifferent about cosmetic upgrades. Nevertheless, it would be wise to consider all options prior to marketing the property.
Organize your “Books and Records”
Sellers are responsible for disclosing pertinent due diligence items to buyers. For commercial and multifamily transactions, due diligence mostly refers to your accounting and other records. The rule of thumb is to provide full disclosure about anything affecting the value of the property:
Profit and loss statements (2-3 years)
Rent roll
Leases
Recent upgrades and improvements (2 years)
Preliminary title report
Environmental reports (if available)
3 months of utility bills
Termite report
Property inspection report
Natural hazard disclosure report
Estoppel Certificates (if applicable)
List of vendors
Any material issues with respect to tenancy
Pictures of interior and exterior
Any as-built drawings or plans
Once this is all compiled into an organized format, the information should be shared with all prospective buyers before a purchase contract is signed, so all problems and objections can be addressed upfront. This proactive approach creates a smooth transaction for everyone and limits the possibility of any surprises in escrow, such as requests for reduction in price.
Take Care of (Inexpensive) Deferred Maintenance
First, multifamily sellers need to prioritize repairs starting with any potential safety issues. Then, if there are any other significant capital improvements that will scare buyers away, it is recommended to tackle these issues as well before marketing the property. Tend to the following issues before listing your property for sale:
Roof leaks
Leaking pipes
Potholes in parking lot
Faulty siding
Dry rot
Peeling paint
Wobbly railings
Decaying staircases
Tripping hazards
Check the Title Report
Title issues can completely jeopardize the transfer of title, meaning you won’t be able to sell the property in the worst case.
Have you checked if there are any “clouds” on the title report?
If you’ve paid off a loan in the past, was the mortgage lien properly and fully removed (sometimes they forget)?
If you have a loan secured against the property, is there a prepay penalty and how much will it be?
Are there any judgements on title?
All questions regarding clouds on title can be answered and investigated with the help of a title company. If there are clouds on title, the title company will work with you to remove them before selling the property. Generally most title issues can be resolved relatively easily, but it's prudent to get ahead of the game to have a marketable, clean title that ensures your property is deliverable and financeable.
Investor Tip: you can technically ask your title company to remove anything from a title report, it is a whether they are willing to do it or not.
Plan Your Exit Strategy
Defining your exit strategy is paramount. What will you do with the proceeds of the sale? There are innumerable strategies to consider, so multifamily sellers need to answer these 4 questions:
What are my goals and priorities in life?
What are my financial and investment goals?
How can I structure my investments to provide the freedom to achieve those goals?
How can I optimize my real estate investment holdings to benefit me and my family now and for subsequent generations?
Answers to these questions usually lead to the 10 most common exit strategies:
“Cash out” - pocket all the proceeds from sale
Seller financing - structure an installment sale in which buyers can pay off the purchase with interest over time
Legacy trust - generation skipping, tax shielded asset protection; can diversify with real estate, oil, metals, equities and bond investments
DST investments (Delaware Statutory Trust) - allows diversification among institutional grade real estate investments, but limited with liquidity; low barriers to entry gives investors option to invest with as little as $100,000; investment sponsor performs all management duties
TIC investments (Tenants in Common) - also a great form of diversifying with high yielding, high quality multifamily or commercial properties with more liquidity than DSTs; investment sponsor performs all management duties; higher investment amount required than DSTs, typically in the $500,000+ range
Exchange into local apartments - great way to “trade up” into larger assets, and get a stepped-up tax basis; rates of return for multifamily properties in Santa Cruz, Monterey, and San Benito County tend to be quite low, but provide long term appreciation potential
Exchange into out-of-area apartments - if you want higher income, and are comfortable with investing out-of-area or out-of-state multifamily properties, there are some alternative real estate markets where you can achieve superior cashflow with long term appreciation potential, considering California apartment prices may be at or nearing the top of the market
Exchange into single-family portfolio - this is an effective way to “trade down” to a highly diversified income stream; the purchase of multiple single-family homes or condos offers investors the flexibility to gradually liquidate holdings over time, while maintaining all the tax advantages of owning single-family investments
Exchange into single-tenant NNN properties - never worry about rent control or management headaches with 100% passive real estate investments, in which your corporate tenant (such as McDonalds or Starbucks) pays all taxes, maintenance and property taxes; long term guaranteed leases provide security and stability
Exchange into multi-tenant NNN properties - similar to a single tenant investment, these offer more diversification in that you’ll have 2 or more corporate tenants, of course with long term guaranteed leases as well
In summary, every property owner has different financial goals. For example, depending on your tax basis, it may be advantageous to consider cashing out by taking a lump sum from the sale proceeds. If you intend to increase income and eliminate management responsibilities (a great strategy for multifamily owners in Santa Cruz and Monterey County due to record low cap rates), a 1031 exchange into a single-tenant or multi-tenant NNN property would be the optimal way to go. In any case, there are always very creative and beneficial approaches to preserving and growing wealth. Feel free to ask us how these 10 profitable, tax saving exit strategies can benefit you and your family now and for generations to come.
