In this article, Alex Lewsley sets out his key ingredients for a successful commercial freehold property purchase.
The two principal reasons for buying commercial freehold property are (i) for occupation by your own business and the certainty and freedom it brings compared to being someone else’s tenant and/or (ii) as an investment to generate either capital growth and/or rental income.
There are various routes through which to buy commercial freehold property, e.g. at auction, through a sale by private treaty, or by buying the company that holds it.
There are many types of commercial freehold property, e.g. leisure, retail, offices and industrial.
Once owned, commercial freehold property can be an asset or a liability or can transition between the two interchangeably over time depending on the market.
With a few technical caveats, “buyer beware” still applies as a general principle to any type of property sale and buying method. This means that it is for the buyer to rely on their own investigations to establish any issues with a property, rather than the seller having to signpost them to the buyer (save when buying property as part of a company asset or share sale when disclosure and property warranties from the seller are given).
Buying commercial freehold property, therefore, can present traps for the unwary but opportunities for the prepared. Knowledge is key – it enables risks to be identified, traps to be avoided and unavoidable risks and costs to be mitigated.
Whatever the reasons, whatever the route and whatever the type, here are our key ingredients for a successful commercial freehold property purchase:
Have your documentation ready
Ensure you have documentation readily to hand in order to prove your identification and source of funds, so that the necessary anti-money laundering checks against you can be completed without causing any delays.
Know your search requirements
You will be most aware of what you are seeking to achieve by your purchase, so you are best placed to assess the basic non-technical aspects that any property needs to satisfy in order to meet your requirements, e.g.
- Geographical location: i.e. proximity to your or any tenant’s customers, suppliers and workforce, etc;
- Local infrastructure: i.e. transport, parking, shops and healthcare, etc; and
- Flexibility: i.e. suitability of the property for current and future business needs; feasibility of letting/sub-letting surplus space from time to time to 3rd parties; potential to extend and/or for alternative uses (subject to planning and other consents); etc.
Be aware of the impact minimum energy efficiency standards may have on a property
Unless an exemption has been registered, every commercial property needs an Environmental Performance Certificate (EPC) on a sale. An EPC indicates the energy performance of a building, which will impact on what your energy bills will be like, and so is naturally useful for you to know when deciding whether to buy.
However, perhaps more importantly, if you are intending to let the property or (after 1 April 2023) to continue letting the property, unless you will be able to register an exemption following your purchase, that EPC rating needs to be an ‘E’ or better.
Consequently, if the property has an EPC rating worse than an ‘E’ when you buy it then, in the absence of an available exemption, energy efficiency improvements works will be required to the property to bring it up to an ‘E’ rating or better following your purchase before you can let the property.
Furthermore, the minimum energy efficiency requirements for commercial properties are predicted to only get stricter in future, with proposals to raise the minimum standard to a ‘C’ by 2028 and a ‘B’ by 2030. The impact this may have on you and your property needs to be considered before you decide to buy a property.
Know your budget
You need to ensure you have the necessary funding available for the purchase, as well as for the costs of the future property ownership.
Funding needed for the purchase is not limited to the purchase price itself, but will also need to be sufficient to cover VAT thereon (if applicable), your own surveyor, accountant and lawyer fees and search costs, Stamp Duty Land Tax (a duty payable to HM Revenue and Customs), HM Land Registry registration fees and, if you are buying at auction, a buyer’s administration fee & buyer’s premium (charged by auctioneers) and contribution towards the seller’s legal fees (often charged by sellers) and, if you are relying on mortgage or business finance, valuation fees and arrangement fees.
Mortgage lenders rarely have a loan-to-value ratio of more than c.70% (owner-occupier mortgages may be little higher; investment mortgages may be a little lower), which leaves you having to make up the difference including funding the entirety of the deposit payable to the seller on exchange of contracts (the commercial norm for that deposit being 5% of the purchase price, compared to 10% in the residential market).
Following the purchase, unless or until the property is let (in which case such costs are often capable to being passed down to your tenant to leave you with a “clear rent”), you will be responsible henceforth for the following which together can add up to a substantial amount each year:
- Running, insuring and maintaining the property
- Regulatory compliance in respect of the property
- Any estate charges, if the property is located on a communal estate
- Business rates.
Once a target property has been identified, you then need to:
Instruct a surveyor
In addition to viewing the property yourself, you should instruct a surveyor to inspect and survey the property and all building structures thereon to check there are no issues in construction or the materials used.
A surveyor can also advise you on value (taking into account the market and any issues picked up by the survey), and on the suitability of the property for your purposes.
Check the planning position
One of the key aspects to check is whether the property has planning permission for your proposed use.
Permission may be in place by virtue of an express permission, or having been obtained through long user, or allowed via permitted development.
If the property does not already have planning permission for your proposed use then you should instruct a planning consultant, and make enquiries of the local planning authority.
Depending on the circumstances and if your seller is agreeable, your purchase could proceed on a ‘conditional on planning’ basis rather than you buying the property at risk in the hope of obtaining planning permission afterwards.
Once your offer on the target property has been accepted, you then need to:
Instruct an accountant
Instruct an accountant to advise you on how best to buy the property from a tax perspective in your particular circumstances. Some may buy in the name of a holding company, some in the name of their operating business, whilst others may buy in the name of their pension fund.
An accountant can also advise you on any other associated tax issues. For example, no VAT is payable on certain commercial freehold property transactions if the buyer registers for VAT, exercises the option to tax in relation to the property and notifies HM Revenue & Customs of the same before completion of the purchase. The availability and transfer of capital allowances to a buyer is also a specialist area upon which advice should be taken.
Instruct a lawyer
Instruct a lawyer to carry out a due diligence exercise on the property and advise you on the property purchase process.
Our role is to:
- Review, negotiate and settle the contractual documentation for the purchase as initially prepared by the seller
- Identify what has not been supplied by the seller
- Review the seller’s title (e.g. it is important to note that some high street lenders may not lend on an investment property unless the seller has owned the property for at least 6 months)
- Raise pre-contract and additional enquiries as required
- Review search results
- Report to you on all of the above.
Our purpose is to identify and bring to your attention any issues which may affect the transaction, the property or your ability to use or occupy the property (such as the seller’s ability to sell, restrictive covenants, planning restrictions, adverse rights to which the property is subject, environmental risk, lack of planning permission or some other defect) and any possible solutions to resolve or mitigate those issues.
Some of these issues may go to value, and if incapable of resolution or mitigation (at the seller’s cost) may enable you to negotiate a price reduction or instead cause you to walk away.
Organise that funding
If you are reliant on a loan, then at the very least you should have a loan offer at the time you exchange and ideally have already satisfied the lender’s requirements so that funds are available for drawdown come the completion date. Not having a loan offer in place at exchange when you know you will need mortgage or business finance to complete may leave you with a funding gap if a loan cannot be obtained in time, leaving you unable to complete. Having exchanged, you would then risk losing your deposit and facing other claims from your seller.