HVAC on Commercial Office/Retail Properties

3 Replies

Making an offer this week on a 5-unit property (could be six units, currently set up as five, all occupied), consisting of two separate buildings in my town. Total square footage around 5,900.

Each building has three separate gas furnaces and A/Cs. So six total. I know that two of them have been replaced in the past five years or so, and plan to have those and the remaining four inspected if the purchase moves forward.

Being my first commercial property that is not multifamily, I'm looking for any advice or tips when it comes to checking out these major systems while under contract. Obviously, the idea of six separate systems somewhat terrifies me simply due to the cost incurred when repairing/replacing these. I understand why each unit has it's own system (each has it's own environment), but what kind of negotiating tactics has anyone found successful if/when an inspector notes that the older units are in rough condition? Do I treat it as if I were purchasing a home and ask for a price reduction/credit towards those systems if they are in poor condition?

Just thinking ahead here!

Good thinking ahead.  I have been burned on bad HVAC (and roofs) several times.  Yes if the units are in bad shape try to negotiate something.  Seller likely already knows this is the case.  

My experience is you get  a reserve credit at closing from the seller for the items not working properly or reaching the end of their life expectancy.

Even if tenants for example are base rent plus CAM and pay for it they hardly ever have the extra money on top of the estimated typical base CAM payments monthly. So in that case the landlord ends up fronting the money and takes typically years to fully recover from the tenants.

I like to get inspection early in the process to get these credits right away before big money is spent on attorney,title, lender reports ( environmental phase one, ALTA level one survey, appraisal,etc.). If seller knows you are deep into the property in costs and time and ask for a credit they like to stick it to you more. If they know you have little into the deal with time or money and are motivated to sell they usually play ball on the credit. It is good to get the signed amendment in writing. I also look at credit for parking lot to re-coat and fill cracks, redo the roof, and if I expect tax reassessment upon purchase then get tax credit. I call local tax attorney to get an idea if taxes should stay the same or will go up by a considerable amount.

You want a reserve as a credit so you can pull for that to repair or replace things instead of affecting cash flow. You need to make sure with your lender that they will allow a credit held in reserve at closing instead of trying to use the proceeds to lower their loan amount and try to reduce the risk to them with a lower LTV.

Good luck. No legal advice given.  

@Joel Owens Thanks for your input. Inspection taking place Friday morning, and will be the first dollars I will be spending on the entire process.

This will be a seller financing deal if it works out (lease option), and because of my very close relationship with the listing agent, I already know what numbers the seller would agree to in terms of purchase price, down payment, monthly payment (10 years) and balloon payment. So no lender or title agency will be involved, but simply an attorney putting it all in writing.

He's also allowing me to have an inspection completed without being under contract (just found that out and scheduled it last night), so I'm assuming my strategy at this point is to simply take the findings and notes from the inspection and come to the negotiating table with an offer, taking all of those things into consideration.

As we know, cash flow rules, and while the numbers that the seller would agree to would stand to realize nearly a 20% CoC return, just one or two of those HVAC systems needing replaced can wipe out an entire year of cash flow, so I'll never take those lightly. This is also a smaller strip center with a couple of regional tenants, and the other being "destination" type mom and pop businesses, on the busiest street in town. Therefore, the tenants do not currently pay CAM.

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