Episode Transcript

Welcome to Episode Three of Season Five of the Growing Empires show. Today we’re gonna talk about how to prepare your investment property for sale, so stay tuned.

00:10

Welcome to Growing Empires hosted by real estate entrepreneur and trusted investment advisor Jennifer de Jesus. Growing Empires provides insight to building wealth through passive income producing real estate investments for those who want to build and manage a more profitable real estate portfolio.

00:29

How do you prepare your investment property for sale? The first thing that you need to do is you need to gather all the pertinent documentation that an investor or potential buyer is going to request of you. Nothing is more frustrating to a potential owner or potential buyer than to see a property listed on the open market and when they go to ask for all the disclosures and income and expense information to find out that nothing is prepared. Even worse is having something that looks like it’s very unprofessionally done. So for example, I have seen things like you know, someone writing the expenses on a scrap piece of paper, right, that just doesn’t cut it to the typical investor. So whether you have self managed, whether you have used a professional property management company, or not, a great investment specialist, broker or agent should be able to help you gather and document this information in appropriate form, so that it can be used for marketing materials for your property sale. Some of the things that you need to have prepared are things like disclosures. So there’s really two different types of disclosures that are used. There’s the seller’s property disclosure, which is typically used for one to four units, or what they consider to be residential categorized sales, which is again, one to four units. And then there’s also something called a commercial property information sheet. And they differ a little bit, but there’s a lot of similarities. So if your property is a one to four unit investment property, you’re going to have to prepare a seller’s property disclosure. Now, this is not something that your property manager can fill out for you, tt’s something that you must do on your own. And this disclosure is going to identify all of the material defects in a property that could potentially cause a potential investor to decide to or not to buy your property. Some of the things that a disclosure goes into and ask you that you will need to have prepared as far as detail are things like the type of plumbing in the property – is it PVC? Is it PEX? Is it copper? What type of water heaters do you have? How are they heated – gas, electric? You know, so on and so forth. What type of heat is in the property? What is the age of the roof? And have you had any repairs or maintenance to the roof over the last couple of years? Do you know of any leaks on the property? It’s going to ask you what things are in the property like appliances and smoke detectors and keyless entry systems and alarm systems and stuff like that. You’re going to need to discuss whether or not you’ve had any kind of radon testing, lead based paint testing on the property. And it’s really a full circle of information specifically about your investment property and the history of your investment property. And it’s really nine pages long so it goes far more in depth than what I’m describing here. But it gives a really good understanding of your property’s history. A commercial information sheet, which differs a little bit in the sense that it’s used primarily for commercial investment properties, or anything that’s above five units is going to go into a little bit more detail because it’s going to ask you not only the original seller’s disclosure information, but it’s going to ask you things like environmental concerns, soil conditions, you know, is there equipment being sold with a property? Are there site improvements that you know, you need to disclose like, you know, storm water drainage or any of that kind of stuff? It’s going to ask you things like, again, mechanical systems, and all of that, which is typical to a seller’s disclosure, but it’ll ask you about the land that you’re selling, are you selling a business with the property, and again, it’s used for all types of commercial properties. So whether you’re selling a business, whether you’re selling land, whether you’re selling offices, retail, multi unit investment properties, a commercial property information sheet is going to be used in that instance. It is really important that when you fill out this form, that you fill it out in great detail, and that you leave nothing out. You would never want to have somebody come back to you after the fact and try to sue you for lack of disclosure, okay? So make sure that you fill it out. Make sure that you answer all the questions. If you’re not sure say you’re not sure – you never want to speak at a context, right? So if you’re not sure, for example, the age of the roof, don’t guess, say you’re not sure. And your broker or agent will help you with any questions that you have regarding properly filling out this form.

05:09

The next thing that you’re going to want to make sure that you gather is any kind of environmentals or surveys that you may have done on the property in the past. So did you have a phase one, phase two environmental survey? If so, you’re going to want to grab all that information – you do need to disclose that. Do you have a recent survey on the property or a survey since your ownership? If you have something that you prepared since your ownership, you’re going to want to prepare that information. Have you had any fires, floods or any kind of insurance claims on the property? People leave this out a lot of times, and it’s a really important piece of the puzzle, because if you have had insurance claims, it could mean that the cost of insurance for the next buyer could be a little bit more aggressive than your current cost. I learned something recently from an insurance advisor that said, whether they insure the property now for the current owner or not, does not mean that the rates are going to be the same. So be very careful when it comes time to disclose what your insurance payments are. Even if the insurance provider that is providing you insurance is going to provide insurance for the next owner, it does not necessarily mean that all things are created equal and that they’re going to get the exact same rates. You are going to be asked, I’m sure, what your insurance expenses are, but you never want to lead somebody to believe that they’re going to get the same or better rates than you have because your rates are based on you as the buyer and your situations. Somebody else could have different rates based on changes to the insurance industry, it could be based on their application process. So just keep that in mind. But gather your insurance policy information, gather any information from any previous insurance claims, and make sure that that’s all provided and make sure that you disclose that information when asked, okay? You’re going to also want to prepare a listing of any recent capital improvements that you’ve made to the property. If any of your capital improvements come with any kind of warranty, you’re going to want to make sure that you provide that as well. So for example, if you just replaced the roof, or you just replaced a heating system, those things always come with warranties. So you’re going to want to make sure that you gather that documentation and know exactly what warranties are going to be transferred over to the new buyer. You’re going to want to also gather all your maintenance information from the property. So historically, an investor is going to use a calculation that’s usually somewhere around 4 to 5% to assume maintenance costs when they’re doing their own analysis. It is not beneficial to leave that information out if you have it handy. You’re going to want to disclose the maintenance that you’ve put into this building. Now, again, an investor is going to use their own analysis. But for example, let’s just say the historical facts of your investment property, say that your maintenance has not exceeded 2 or 3%, you’re going to want to make sure that the new investor knows that. So if you have really good records on your maintenance, and they tend to be low, especially if they’re under that 4 to 5% general rule, you’re going to want to make sure that you can provide all of those maintenance items and recent improvements to the property to the new owner. Make sure that your maintenance includes things like snow and grass bills, okay, so if you are using a subcontractor for snow removal or grass cutting, you’re going to want to make sure that that’s included. Anything that is in regards to property upkeep that is paid for by the landlord are the maintenance costs that you’re going to want to provide to the new potential owner.

08:52

And it’s literally everything. So are there licenses that you have to apply for every year? Are there business licenses, rental licenses? Are you required to do any kind of rental inspections yearly? All of those things are information that you’re going to need to provide to the new owner. Are there storm water fees? Are you in like some kind of condo association or HOA? Is there any kind of capital contributions that are required when properties are transferred? You’re going to want to have that information ready. Do you have any recent code or fire reports? So if your property is in an area where it’s required to have a fire assessment prior to the sale usually done in commercial properties you’re going to want to have that recent report done and provided for. And even if you’re not going to correct any violations, you’re gonna want at least have the report. Same thing with code. Is there any requirement for a rental inspection or what they call a pre sale inspection? Are you required by your municipality to have a pre sale inspection prior to you selling the property, most contracts give the opportunity no matter what state you’re in for negotiation on this topic. But you’re going to want to make sure that you have the report prepared ahead of time and not wait until after you have an offer on the property. Because now you’re long off the market because the property went under contract and if the report that comes back from the municipality or the fire department is something that’s not acceptable to the buyer, the buyer will terminate the deal if you can’t work out some kind of negotiation. And now you’ve had to go back onto the market and you’ve just wasted a lot of marketing time, and potentially made your property look bad because the deal fell apart. So if you’re required by your local municipality to have any kind of fire inspection, or building code inspection prior to the sale, make sure that you actually do do that prior to the sale. You don’t have to correct any violations. But it would be very beneficial for you to have the report ready, and to have it to be disclosed to the buyer at time of contract, or prior to the contract.

10:57

The episode will continue in just a moment.

10:59

To make the most out of your investment property sale, you will need a team that understands the market fluctuations and how to capitalize on that demand. Knowing the market trends and forecasting economic changes is critical to your success. Having an expert by your side to help you buy low and sell high is the only way to create true wealth. When you need help analyzing your portfolio to maximize your return on investment, there’s only one person you need to call and that’s me. I will help you analyze your portfolio and increase your profitability year over year and that’s my guarantee. Schedule a call with me today at GrowingEmpires.com, that’s GrowingEmpires.com, and I’ll help you create the life that you desire with passive real estate investing.

11:43

Now let’s get into the financials of the property because this is really where things can go really right or really wrong, depending on the amount of information that you have, and are going to have prepared for the potential investor. First thing you’re going to want to do is make sure that you have a rent roll. A rent roll is an itemization of each tenant and typically the information on a rent roll is how many bedrooms and baths, what the occupancy status is, you know, for example, are you 100% occupied, who the tenants are, when they’re move in and move out dates are – so in other words, what are their lease terms, what their rent is, what any additional fees are – so if they pay pet fees, or garbage fees, or anything like that, you’re going to want to have all that. You’re going to want to know what their security deposit is, you’re going to want to know the history of their payment, you know, have they been late on payment, are they currently in default, all of this stuff you’re going to need to know and it should be prepared on a rent roll. It’s not going to do you any good to hide any kind of non performing payers, because it will come out one way or another whether it doesn’t come out in the beginning of the offer process, by the time you get to closing that information is going to surface. So if you have any issues with any tenants not paying rent and are delinquent, you’re going to want to disclose that upfront. So that’s what the rent roll is. Expenses, as I had mentioned before, is an itemization of all landlord paid expenses. So insurance, taxes, utilities, all of that stuff, anything that you pay for – rental licenses, snow, grass, anything like that. So all itemized expenses that are landlord paid. Then those two items are going to be put into something what they call a trailing 12. And this is a very common request by investors – they want to see a trailing 12 month of history for your investment property. And some people go as far to ask for 24 months or sometimes even 36 months, they want two to three years worth of history. But at a minimum, you’re going to want to make sure that you at least have a trailing 12. So it’s exactly what it sounds like. It’s the trailing 12 months of history. So if it is February, you’re going to want January through the previous February. The trailing 12 is a true accounting of all of your income and all of your expenses and it shows your profitability month over month for a 12 month period.

14:09

Next, you’re going to want to make sure that there is an offering memorandum prepared for you and usually this is done by your broker. This is not something you’re going to do on your own. This is prepared by your listing broker or agent and an offering memorandum, commonly called an OM, is probably about 15 to 20 pages of information and it’s a very detailed analysis where we kind of combine all of the things that we have previously talked about. An offering memorandum is a marketing piece, it’s a showpiece. It is going to have photos, professionally done photos, of the inside and out of the building, it’s going to talk about the demographic area of the subject property. And it’s going to talk about population and density and median income levels, that sort of stuff. It’s going to have a proposed financing arrangement usually identified. And this is a really important piece of the puzzle, because if this property is going to be potentially financed by the next buyer, we’re going to want to see what type of options are out there. So you’re going to want to make sure that your investment broker analyzes the details and has a good handle on what the typical financing arrangements would be for something like this and that’s going to be included in this OM. And it would just give you a summary of you know what type of loan it is, what kind of down payment you’re going to need, what the interest rates going to be, what the loan to value ratio is, what is the amortization period, and you likely are going to even have like a debt service coverage ratio formula in there, which is again a very important tool because it tells you if the property is financeable or not. If you’re trying to sell a property that is not financeable, because it doesn’t meet the minimum debt service coverage ratio, your property is likely overpriced, and you’re gonna have a hard time selling it because a bank is gonna lend on what the property is today, not what you think it can be in the future. And we’re going to talk about pricing your property in a future episode. However, just keep in mind that when you’re pricing your investment property, you need to price it based on what is today, not what you think it should be in the future. Because if you fail to get it there, that’s really going to be for the next buyer to capitalize on. So the value of your property is always based on what it is today, not what it can be. And when it’s appraised by a bank, for the purposes of lending, they’re going to use what the actuals are, they’re not going to use some kind of projection, they’re going to actually use the actuals to determine the value of the property. So please keep that in mind. The OM is also going to have all the rent roll information, what we just previously talked about, the amount of units, how many bedrooms and baths, you know what the current rent is. But it’s also going to show you what the pro forma is or the projection of what it can be. So the differences would be let’s say your rent is not at market rent, well, the pro forma would be market rates. So having that information available is going to be very beneficial because it shows the ability for the value add to happen in this investment property. Typically investors want to add something and that’s what they are attracted to they want to go after something that they can improve. Nobody really wants to buy a fully improved property. So showing the differences between where you are and what it can be, will be beneficial because it gives them a reason to want to buy the property. But it does not have an impact on what your actual price is. The price is based on what currently is today. The pro forma also will talk about expenses. So let’s just say you’ve got really high expenses for one reason or another. Maybe you didn’t separate utilities. Maybe for example, you’re paying all the electric in the building because there’s not separate electric meters. Well, if the new investor comes in and separates all the electric, what is that going to look like? So the pro forma is an analysis of what is the highest and best use of the property. So if you could get this property to a point where you could not possibly improve it further, what does the rent look like at that time? And what do the expenses look like at that time, and that is truly what your pro forma is. There will be a breakdown of the financial summary. So it’ll be your offering price, your price per square foot, price per unit, your NOI or your net operating income, both the current and the pro forma, you will have the current cap rate as well as the pro forma cap rate, you will have the gross rent multiplier, current and performer. And those financial summaries are really like a total analysis version for the potential investor to look at that are going to be really helpful in their analysis. A lot of times there’s mapping information so you can see everything that’s around the local area, property features, when it was built, how many parcels are being sold, what is the zoning classification, how many stories are the buildings, you know, these are again, all the types of things that you would typically see in an offering memorandum and likely the offering memorandum between that and your trailing 12 your rent roll and your P&L provides so much information that there’s usually not anything left to be questioned. So this is one of the reasons why we want to get all of this information prepared ahead of time, because it’s really helpful for an investor to see the full picture, and then make a decision on what this building is worth to them. You’re going to want to make sure that you have your leases prepared, nothing is more frustrating than trying to track down leases that don’t exist. So look at your leases, do you actually have them? Is all of the information complete? I can’t tell you how many times I’ve actually looked at a lease and there’s pertinent information, like literally missing or the leases are not properly signed, it just looks sloppy. Please make sure that your leases are prepared and that they are you know, very detailed, and what is the terms of that engagement with that tenant? If for some reason you don’t have a lease, get an estoppel letter, an estoppel letter is an accounting between you and the tenant of what the terms of your arrangement are. So what is the rent? What is the security? What utilities do they pay? What utilities do you pay as a landlord? What appliances are included? How long have they been in the property? Anything else that would be pertinent would be information that would be included in the estoppel letter and that estoppel letter is a replacement of the lease if you don’t actually have a lease. Now, if you have a lease, you don’t need an estoppel letter. And that’s a really common misconception. I’ve heard many people ask for an estoppel letter but an estoppel letter is an accounting of what the lease terms are. So if you have a lease, the lease is what’s truly binding. Now an estoppel letter to be binding, you need to make sure that it’s signed by both the landlord and the tenant. And in some states, it’s also required to have that estoppel letter notarized. So please keep that in mind when gathering these documents for sale.

20:47

Once you have everything that we’ve discussed, you’re going to want to get yourself now into the investor mindset. Is there anything that’s actually missing? You’re gonna want to think about filling vacancies. Occasionally, I’ve heard people say, well, I want to leave it vacant for you know, for sale, because it just would be easier to show the property. And while that’s very true, it is much easier to show a property when there’s no tenant in the property, it also means that you’re not making money. And if you’re not making money, you can’t sell the property based on, you know, the rent that is proposed, you’re selling it based on the actuals. So the lack of having your property fully occupied means that you’re less likely to get top dollar for your property, because it’s not generating the cash flow that it should to get appraised properly as well as get into the correct debt service coverage ratio for financing for the new buyer. So fill your vacancies. Now, when you have a fully occupied property, it’s important that you are involving the tenants in your plan. And the reason that I say that is you want your tenants to cooperate. And one of the reasons, one of the main reasons that I’ve experienced that tenants do not cooperate in the sale of an investment property is that they have a fear of something, okay? Sometimes it’s a fear that their personal stuff will be stolen, because random people are coming into their property. Sometimes it’s a fear of their rents going to be raised. Sometimes it’s a fear of that they’re going to be evicted or thrown out or given notice to move. So you’re going to want to involve the tenants in the plan, you’re going to want to have a conversation with them about the terms of their lease. I just had a investor owner send an email to his tenant of a building that we’re preparing to sell. And I have to say, it probably was the most well thought out information piece that I’ve ever seen prepared for a tenant in the past. And what it just said is that, you know, he is valued them as tenants, he’s that he thinks that they’re great tenants, he’s going to make sure that he tells the new owner, but he’s in a position where he needs to sell the property at this time. And he’s really asking for their cooperation, he asked for each tenant to reach out to him to discuss their plans, if they are intending to move, if they’re intending to renew their leases, that he wanted to address all of their questions and concerns ahead of the sale. And because they are great tenants that he would assume that they would cooperate with him, because he’s always done the best that he could for them so he’s asking for that in return. And I really was able to witness the response from the tenants through this communication. And it was very positive, and it was really the right way to go about it. He wanted to involve the tenants in the plan. So involve your tenants in the plan and make sure that when you’re selling the investment property, that they are a part of the solution, not part of the problem.

23:37

Last thing to keep in mind, a question that I get often is when is the best time of year to sell your property? Well, the answer to that is very simple. You can sell an investment property anytime of the year, there is no season, or seasonality for investment property sales. Unlike residential homes where everybody wants to sell in the spring and the summer when everyone wants to move, investors are not moving into these properties. Investment properties truly sell all year long. And there’s no peaks and valleys. There’s no highs and lows of when your property is worth more or less based on the seasonality. So if you prepare in advance, the sale of your investment property will be very easy and likely very quick. I hope you got a lot out of today’s episode and if you have any questions regarding how to prepare your property for sale, please reach out to me at GrowingEmpires.com. Until next time, take care.

24:30 For more information about how Jennifer can help you plan, develop, and manage a strong real estate investment portfolio visit GrowingEmpires.com.