Due Diligence – Title Review

In my last post I provided a broad overview of the types of things you should investigate during your due diligence period as the buyer under a commercial real estate contract. Now I’d like to start breaking that down into more specific topics. Typically, the due diligence to be performed can be broken down into at least three basic parts: (1) Title review, (2) Survey review, and (3) Analysis of the physical condition of the property, including the uses permitted on the property and its ecological and environmental status. Your transactional commercial real estate attorney will typically address the title and survey review, in particular, while the buyer and the buyer’s engineers, land use attorney, environmental professionals or others address the physical condition and land use matters. Therefore, in this article and future articles on this topic, I am going to focus on title and survey review … because that’s what I do. Although I do get involved in land use and environmental matters to some extent, I am not a land use or environmental attorney and shouldn’t be opining on those subjects as if I were.  So, to get started on our discussion of title review, then, lets just focus on the “title commitment” for the time being because the process starts with delivery of the title commitment to the buyer.

The Title Commitment

Within the time period required under your contract, you will either receive from the seller or obtain yourself (depending on who is paying for it under the terms of the contract) a title commitment. The title commitment is the title insurance company’s commitment to insure your ownership interest in the property provided certain requirements are met. The title commitment consists of three parts: (1) Schedule A, the first page of the commitment, which details the date through which the title has been searched, the identity of the proposed insured party (i.e. the buyer,) the current owner of the property and the legal description of the property, (2) Schedule B-I, which lists the requirements the title agent must satisfy in order to close the transaction and issue the title policy, and (3) Schedule B-II, which lists all matters against which the title company is unwilling or unable to insure, known as the “title exceptions.” In other words, your title insurance policy will  insure your ownership interest in the propery “except for” those items listed on Schedule B-II.

Title Commitment – Schedule A

Typically, Schedule A just needs to be reviewed for accuracy. Is the name of the proposed insured correct? Is the proposed amount of insurance correct (i.e. the purchase price of the property)? Is the legal description of the property correct? A close review of the legal description can be tedious but is critical. The legal description of the property as shown in the seller’s vesting deed, the survey of the property and the title commitment should, in almost all circumstances, be identical. No mistakes, typos or discrepancies allowed!

Title Commitment – Schedule B-I

Schedule B-I can be thought of as providing a road map for the title agent to follow in that it lists certain requirements that must be satisfied in order for the agent to issue the title insurance policy. For example, the first thing listed is always “payment of the consideration.” Obviously, the buyer has to pay for the property. In addition, all closing costs must be paid, including the title insurance premium. The second thing listed is always a description of the conveyance document(s) that are required to be recorded to convey title to the property. Usually, this is a deed from the seller to the buyer. If a loan title policy is being issued, a mortgage from the buyer to its lender will be listed. Other requirements that may be listed include things such as satisfying existing mortgages and liens, obtaining dismissal of any law suits or judgments affecting the property, obtaining a current survey of the property, terminating notices of commencement for previously performed or ongoing work and so on. In addition, if the seller is an entity, the title agent will be required to confirm the good standing of the entity and review its corporate, LLC or partnership documents, as the case may be, to ensure that it has the ability to lawfully convey the property and that the person executing the documents has the authority to execute documents on behalf of the entity. While it isn’t unusual to have to deal with more unusual requirements, such as completing the probate of an estate, for example, ideally all of the requirements would fall within the categories of (1) paying the consideration, (2) recording the deed and/or mortgage, (3) obtaining a current survey and (4) obtaining evidence of good standing and authority.

Title Commitment – Schedule B-II

Schedule B-II lists all of the title exceptions, meaning all of the things your title policy will NOT insure against. There are two kinds of title exceptions: (1) standard title exceptions, which are general in nature in that they are not specific to any particular matter or document and include vague statements like “[anything] that would be shown by a current survey,” and “rights or claims of parties in possession,” and (2) specific title exceptions, which are specific items affecting the title, such as recorded easements, current leases, taxes for the year of closing that aren’t yet due, recorded restrictions and other matters of record. This is one area where your real estate attorney, as title agent, can earn his or her keep. If you think about it, the standard exceptions, if not deleted, are very broad descriptions of matters that could adversely affect your ownership interest in the property. In fact, they’re just plain vague. Therefore, if you accept a policy containing all of the standard exceptions you have essentially purchased a title policy in which the title company says, in basic terms, “we are insuring the title to your property against everything … well, except for all of these broad categories that include almost everything we don’t want to insure against.” Keep in mind, your attorney’s/title agent’s duty is to provide you with the broadest possible coverage. The way to do that is to do the work necessary to eliminate all or most of the standard exceptions and to meticulously review all of the specific items listed to see if they can be deleted, as well. The more exceptions that are deleted, the more your title policy insures against and the more valuable the title policy is to you, the insured. Even aside from the title insurance aspect, the more exception items that can be deleted or resolved the greater your comfort level with respect to your ownership and use of the property, so a diligent effort to remove as many title exceptions as possible is a worthwhile endeavor.

The title exceptions in Schedule B-II must be read very closely to determine their effect on the property or its use. Attention to detail is important. For example, the plat of the property may contain setbacks or easements that affect where improvements can be located, easements may exist that give third parties rights to enter onto your property, property associations’ covenants and restrictions may impose rules, fees and obligations you may or may not be able to live with, leases may exist that should be assigned to the buyer or terminated, and so on. It takes an experienced commercial real estate attorney to properly assess and decide how to resolve these types of title issues so that you get the most insurance coverage for your money. An experienced Florida commercial real estate attorney can help you with the title review processes to make sure you get the most out of your new property and your title insurance policy. As always, get legal input early in the process!!  Thanks for reading, BH

Due Diligence in Florida Commercial Real Estate

What you should actually be doing during a due diligence period.

As a potential Buyer of Florida commercial real estate, you know that you should include a “due diligence” period in your contract so you can analyze the condition of the property and its adequacy and feasibility for your intended use. But you may have questions, such as:magnifyloan

  • What are “best practices” for due diligence?
  • How long should the due diligence period last?
  • What protections should you include?
  • What specific types of investigations should you conduct?

Look Before You Leap: Why Due Diligence Is Important

Buying commercial property in Florida exposes you to certain risks. For instance, if you purchase a property that is contaminated by environmental waste either due to prior uses on the property, potentially even uses on other property resulting in the migration of environmental waste to your property, you may be liable for cleanup and damages, even though you didn’t cause that spill or even know about it before you bought the property. The potential costs could be staggering.

The moral is: Conduct due diligence to find out as much as you can about the property you intend to buy to identify potential risks and make an informed decision to buy or not to buy the property.

Timeframe

You and the Seller must negotiate the timeframes for the Seller to disclose any information that have and are willing to turn over to the Buyer and for the Buyer to conduct their due diligence. Typically, the commercial contract will require the Seller to turn over all prior surveys, reports, environmental assessments, plans and other key documents within five (5) days after the effective date of the contract. These documents will usually give the Buyer as basis on which to begin analyzing the property. How long the Buyer’s due diligence period should be depends entirely on the existing and proposed use of the property, the Buyer and Seller’s comfort level with each other and other factors. For example, the due diligence period for a vacant parcel of agricultural land that has never been developed and for which the Buyer has no particular development plans may be as short as thirty (30) days, if there is one at all. However, if the Buyer intends to develop that land into a residential subdivision, the Buyer may require a months-long due diligence period, and perhaps a year or year and a half before closing in order to obtain all their development approvals, permits, and other necessary precursors to development. Likewise, if the property is already being used for some industrial use or is in close proximity to industrial uses, the Buyer may require a long due diligence period in order to conduct extensive environmental assessments and other investigations.

What to Do

During due diligence period, depending on your intended use of the property, you may need to investigate the following, just for starters:

  • Current and Future Zoning;
  • Availability of Permits;
  • Availability of Utilities;
  • Status of Current Leases, if income producing;
  • Boundary Disputes, Encroachments and other matters of survey;
  • Flood Zones;
  • Setbacks;
  • Usable Acreage;
  • Availability of Casualty and Flood Insurance;
  • Termite/Wood Destroying Organisms Damage;
  • Environmental Problems and Remediation;
  • Restrictions on the Possible Uses of the Property;
  • Other specific concerns about the property.

An experienced Florida commercial real estate lawyer can help you understand what tests and inspections to conduct to help you make an informed decision and minimize your risks.

What If You Can’t Complete Due Diligence in Time?

If your due diligence period is expiring and you have not finished all investigations you believe to be necessary or desirable, it is often possible to negotiate an extension with the Seller. Even if doing so means having to pay an additional deposit or allowing all or a portion of your deposit to become non-refundable, it is generally wiser to err on the side of caution rather than rushing to make a decision without complete information. Avoid pulling the trigger on the deal unless you’re convinced of its merits or, at minimum, are comfortable with the potential risks involved and be prepared to walk away if necessary. Letting what appears to be a promising deal go may be better than proceeding to closing only to find out later that the property isn’t suitable for your proposed use or that you are responsible for cleaning up a decades’ old fuel spill or dry cleaning fluid leak, or removing a long-buried fuel tank, that you had no idea existed.

Real Estate Title Insurance

Who usually pays for title insurance?  and …   Who picks the closing/title agent?  As an Orlando Real Estate Lawyer, these are two of the most common questions I get from Buyers and Sellers during contract negotiations.  This is how I usually explain it:

Homeowner’s Title Insurance

realestate400In residential transactions, the Seller almost always pays for the title search and the owner’s (i.e. the buyer’s) title insurance policy, although, technically, it is a negotiable item.  And, generally, the party paying for the title search and the owner’s title insurance policy is entitled to select the closing/title agent, although that, too, is a negotiable item.  The Buyer (via the closing/title agent most often selected by the Seller) always pays for any simultaneous issue of the loan title policy insuring the buyer’s mortgage for the benefit of their lender.  The lender may also request specific endorsements to the policy. However, those costs are typically small compared to the premium for the owner’s title insurance policy.

SELLER PAYS FOR:

  • Title Search
  • Owner’s Title Insurance Premium
  • Select’s Title Agent/Closing Attorney

BUYER PAYS FOR:

  • Loan Title Policy
  • Endorsements required by Lender
  • may be charged a closing administrative fee

Commercial Real Estate Title Insurance

Like residential matters, it’s commonly accepted in commercial transaction that the party paying for the title search and the owner’s title insurance policy is also entitled to select the closing agent/title agent.  Also, as in residential matters, that party is most often the Seller and, again, typically the Buyer will pay for a simultaneous issue loan title policy insuring its Lender’s mortgage and for any endorsements required by its Lender.  However, these items are negotiated much more often in a commercial setting than in a residential one, for several reasons.

 

First and foremost is, of course, the cost of the title insurance premium.  Depending on the purchase price of the property, the owner’s title insurance premium can be a significant amount, making it worth the effort to negotiate who will pay for it in larger transactions.

 

Second is the desire to control the course of the closing.  In some cases, perhaps it’s anticipated that the closing will be complicated or contentious for some reason, either the Seller or Buyer places a premium on the right to select the closing/title agent and is willing to pay for the owner’s title insurance policy in order to do so.  By selecting the closing/title agent of its choice, the Buyer or Seller can select their own attorney, who may also serve as the escrow agent for the Buyer’s deposit, ensure the timely delivery of the title commitment to the Buyer, prepare the closing documents and so on, thereby maintaining a degree of control over the preparation, manner, timing and place of closing.

 

Third is simply the desire to direct the title premium to your attorney as a means of paying for their title and other services.  Often the attorney collecting the title premium will discount their attorney’s fees somewhat to compensate, at least in part, for the title premium they are going to collect in addition to their attorney’s fees.  If that’s the case, it becomes possible for the paying party to gain control of the closing by selecting their own attorney as closing/title agent, while at the same time paying somewhat less than the full cost of both the attorney’s fees and the title insurance premium.

 

Of courses, the best of both worlds is to negotiate for the other party to pay for the title insurance but still agree to let you select the closing/title agent.  That doesn’t happen very often but is not unheard of, especially when one of the parties is less sophisticated (i.e. hasn’t read this article!) than the other or really doesn’t care who the closing/title agent is.

 

In loan closings, such as refinances, where there are only a Borrower and Lender involved, typically the Lender selects its own attorney as the closing/title agent, although the Borrower is required to pay for the Lender’s attorney’s fees and the loan title insurance premium.

 

Florida Title Insurance

To recap, the general rule where in the State of Florida is that, in most real estate transactions, the Seller pays for the title search and the owner’s title insurance premium, selects the closing/title agent and, therefore, controls most aspects of the closing.  However, in commercial matters, generally, and in larger or more complicated matters (either residential or commercial) where the cost of the title insurance itself and the ability to control the closing become more significant factors, the parties are much more likely to negotiate a different result.

Reps and Warranties in Orlando Real Estate Contracts

warranty

What are Reps and warranties in real estate contracts

The “Reps and Warranties,” as they’re commonly referred to, are a more important part of a commercial real estate contract than most Buyers and Sellers realize. Many Buyers and Sellers regard the reps and warranties merely as part of the “boilerplate” legalese inserted by attorneys (a) to justify their fee, and (b) to complicate things for the sake of complicating things. That’s just not true. A large part of what your attorney should be doing for his or her client when drafting a contract (or reviewing a contract prepared by someone else) is to include provisions that protect the client from unnecessary risk and that benefit the client by putting him or her in a more advantageous position. The Reps and Warranties section is one place in the contract where the attorney can make these things happen.

First, some explanation on how reps and warranties differ and whether that even matters. A “representation” is a statement of present or past fact made to induce someone to enter into a contract. For example, “the Seller is not in default under any indenture, mortgage, deed of trust, loan agreement, or other agreement to which Seller is a party and which would have an adverse effect on any portion of the Property.” A “warranty” is a promise that a particular fact is true. For example, “the Property is and will continue to be, from the date hereof through the time of closing hereunder, free from all mechanics’ liens and any rights to mechanics’ liens.”

The difference between representations and warranties

Now, what’s the difference? Case law and legal articles about reps and warranties that are directed at attorneys do distinguish between the two, in a legal sense, because the remedies available for fraudulent misrepresentation versus a breach of a warranty differ significantly. If a representation is made that the representing party (usually the Seller) knows to be false that the receiving party (usually the Buyer), believing it to be true, relies upon to their detriment, a claim can be made for fraudulent misrepresentation and the damaged party may be able to sue to rescind the contract, obtain restitution and possibly even receive punitive damages. Pretty serious stuff. In our example above, if the Buyer incurs due diligence and other costs in reliance on the Seller’s statement before learning that the Seller is actually in default under their mortgage and the Seller’s lender is foreclosing on the property, the Buyer could potentially sue to recover their costs and terminate the contract. In our other example, however, if it is discovered that there is a mechanics’ lien on the property the Seller likely would just have to take whatever action necessary to remove the lien, such as paying the contractor in full. In other words, they would have to make the warranty true but would not necessarily be at risk of the Buyer terminating the contract or suing for damages.

From a practical perspective, however, I’m not sure this all matters a lot to Sellers and Buyers entering into a real estate contract. For one, the representations and warranties are usually lumped together as the “Representations and Warranties” rather than being specifically identified as one or the other, and sometimes they are even grouped together in a long list of items that may be identified as “Representations, Warranties, Covenants and Conditions.” It can be hard to decide what is what and, depending on how they are worded, many of the statements could be interpreted to be more than one thing – a representation, a warranty and maybe even a covenant. In other words, it may ultimately depend on a court’s ruling as to whether a particular statement is a rep or a warranty or whatever and to determine the appropriate remedy.

Risk allocation in real estate contracts

More importantly, as far as Buyers and Sellers are concerned, this is really all about (a) risk allocation (more so from the Seller’s perspective,) and (b) information gathering (more so from the Buyer’s perspective.) Typically, a sophisticated Seller will want to limit their risk by making as few representations and warranties as possible and, instead, forcing the Buyer to bear the burden of learning all they can about the property on their own. An extreme example of this would be an absolute, “as-is, where is” contract in which the Seller makes no representations or warranties about the property. On the other hand, a sophisticated Buyer will want to have as much assurance as possible that the Seller really does own the property and that the contract is enforceable against the Seller. The Buyer will also want to get a jump-start on their due diligence by gathering as much information as possible about the property from the Seller and limit their risk by availing themselves of certain remedies if they are misled or if the Seller fails to make good on their warranties.

Boilerplate reps and warranties

Most often, as in most things, the end-result is something in the middle. The Seller will make the reps and warranties it can truthfully and comfortably make within their own risk tolerance, while the Buyer will require certain basic representations that, if false, would be “deal-killers” from the their perspective and will also seek to gain as much information about the condition of the property as it can before expending funds on its own due diligence. Achieving this type of risk allocation while protecting the client, be it the Buyer or Seller, is one of the attorney’s primary roles in drafting the commercial real estate contract or reviewing any contract prepared by the other party. Don’t disregard the reps and warranties as mere “boilerplate.” There’s a lot more going on there than you may realize.