Seller Offering new tenants before closing

9 Replies

My partners and I are currently looking at our first deal in the hudson valley area. The place is a two family home (3 bed room, 2 bath) currently generating $1000 per door with existing tenants. The problem is that these rents are below market value according to comps in the area. The seller believes (or claims) the place could generate $1400-1600 per door and is promising to fill the place with tenants before closing. Does any one else have experience with this kind of deal ? How do we structure this so that we guarantee what the seller is offering?

@Natalie Olivo

In scenarios such as yours, we always prefer to take the property as it ... and we will only pay for the current performance of the business, not the unrealized potential  - there is no reason to reward the vendor for the work you will do to improve the performance.

It would also be wary of the vendor offering to place new tenants at a substantially increased rent (40-60%) prior to close.  Ostensibly, s/he would be doing this to justify a higher valuation and may not be as discerning with tenant selection as you might desire.   the first question which should come to mind is: if the property can generate for 1400 - 1600/month, why is it only producing 1000?

Updated almost 3 years ago

the first line should read "In scenarios such as yours, we always prefer to take the property as is." Despite 25+ years developing software, I'm still a pretty poor typist.

Originally posted by @Roy N. :

@Natalie Olivo

In scenarios such as yours, we always prefer to take the property as it ... and we will only pay for the current performance of the business, not the unrealized potential  - there is no reason to reward the vendor for the work you will do to improve the performance.

It would also be wary of the vendor offering to place new tenants at a substantially increased rent (40-60%) prior to close.  Ostensibly, s/he would be doing this to justify a higher valuation and may not be as discerning with tenant selection as you might desire.   the first question which should come to mind is: if the property can generate for 1400 - 1600/month, why is it only producing 1000?

@Roy N. Thanks for your post! In terms of the unrealized potential, the owner (who always determined to be at the property when it is shown) claims that he has a special agreement with the tenants to accommodate viewings and such, so they pay low rent. It makes sense that the valuation should be based on the current rent being paid for sure. This is very useful information. The question is though, is it worth pushing the seller to deliver on his offer of market rate tenants and making an offer on the home based on the current rents? I'm just not sure if the seller's offer is realistic, or some kind of game being played :-)

Hi Natalie,

The Sellers haven't demonstrated they can deliver on their promise based on the current performance of their business. Do your own research and improve the property with tenants you select the way you want to run your business. Charging a lower rent for the right to show the apartment, hum - review the leases you are taking over too.

Our recent experience was a similar situation. We purchased a 10-unit with 3 vacancies in a low vacancy market, and the remaining units are below market rents. We were told the vacancies were on purpose for showing the building to prospective purchasers. Ha - we later learned they sat empty for a year. We did have the Seller's realty agent advertise the units during our due diligence period. The Seller was ready to rent to an applicant with no job, that had just gone through bankruptcy with a payment equal to the rent, had no credit, and didn't have enough money in the bank for the deposit. Fortunately, we had a right of refusal clause in our agreement. So here's the positive part of the experience for you - we rented all 3 units at our desired rent to great applicants within 2 weeks of close. If the Sellers had known how to do this (or they figured out how to do it in the process of selling), they might have decided not to go through with selling the building.

Good luck with your purchase!

Natalie:

To add to Karen's comments about placing tenants while the property us under contract, we normally offer to handle filling vacancies once under contract.  Only once has a vendor declined; as a backstop we have a condition similar to Karen's which requires tenants to meet our screening requirements and gives us a veto on accepting a tenant.

Originally posted by @Karen C. :

Hi Natalie,

The Sellers haven't demonstrated they can deliver on their promise based on the current performance of their business. Do your own research and improve the property with tenants you select the way you want to run your business. Charging a lower rent for the right to show the apartment, hum - review the leases you are taking over too.

Our recent experience was a similar situation. We purchased a 10-unit with 3 vacancies in a low vacancy market, and the remaining units are below market rents. We were told the vacancies were on purpose for showing the building to prospective purchasers. Ha - we later learned they sat empty for a year. We did have the Seller's realty agent advertise the units during our due diligence period. The Seller was ready to rent to an applicant with no job, that had just gone through bankruptcy with a payment equal to the rent, had no credit, and didn't have enough money in the bank for the deposit. Fortunately, we had a right of refusal clause in our agreement. So here's the positive part of the experience for you - we rented all 3 units at our desired rent to great applicants within 2 weeks of close. If the Sellers had known how to do this (or they figured out how to do it in the process of selling), they might have decided not to go through with selling the building.

Good luck with your purchase!

 @Karen Campbell,

The fact that the rent is currently $1000 is per door is still a mystery and pain point on this deal for me. It doesn't seem logical to me that he should be accepting $1000 vs $1400-$1600. According to the buyer's agent (my guy), the home has also been on the market for 2 years without a single offer. If this place has the potential for such excellent cash on cash returns (potentially 24% if the rents are at market rate of 1500 per door) then what gives? According to my agent, the place is just not marketed properly and should easily fill and generate $3000 a month.

Have the seller agree to let YOU find and screen new tenants. Your RE agent should be able to handle showings with you. Write it into your sales contract as a contingency. No new tenant and you can back out without losing your earnest money.

@Natalie Olivo

Your gut (instinct) is telling you something is not right with this deal ... as Karen alluded.

Let's look at the red flags you have presented:

1) Rents are 40 - 50% below market.  The vendor is not holding rents this far below market for convenience.  There is a reason he is unable to command closer to market rent.  Either market rent is not really 1400 - 1600/month {have you corroborated these values independently?} or there is something wrong with the property (tired, odd layout, small, inadequate parking, location, etc).

2) The property has been listed for 2-years w/o an offer.  This tells me that a) the ask price is far too high and/or b) there is something wrong with the property ... maybe/probably the same thing which makes it not command better rent.

Originally posted by @Roy N. :

@Natalie Olivo

Your gut (instinct) is telling you something is not right with this deal ... as Karen alluded.

Let's look at the red flags you have presented:

1) Rents are 40 - 50% below market.  The vendor is not holding rents this far below market for convenience.  There is a reason he is unable to command closer to market rent.  Either market rent is not really 1400 - 1600/month {have you corroborated these values independently?} or there is something wrong with the property (tired, odd layout, small, inadequate parking, location, etc).

2) The property has been listed for 2-years w/o an offer.  This tells me that a) the ask price is far too high and/or b) there is something wrong with the property ... maybe/probably the same thing which makes it not command better rent.

 @Roy N. My agent mentioned that the selling price is probably $30,000 too high. He suggested we offer that and go from there.

@Natalie Olivo

I tend to agree about gut instincts.  If the hair on the back of your head stands up something is wrong.  Or, if it doesn't smell right, then something is off.

Try to dig deeper.  You know the numbers at this point.  Try to snoop around.  For example, is there an expired listing agent you can talk to?  What about neighbors?  There is always, always, always a neighbor that knows everything going on.  How about police reports?  How long has the current owner had the property?  Is there a previous owner you can talk to? Does all the due diligence make sense?  Does to the title flow correctly?  (No skips or bumps in the road?)  Any nuisance liens?  What did the inspection look like from a licensed inspector?  Is there a survey issue?

As far as tenants are concerned, you are buying the present, not the future.

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