Commercial Property Investment

12 Jun Commercial Property Investment

What is a commercial property investment property?

Typically this would be a property that is subject to one or more leases. It will be acquired by a landlord seeking to make a return from the investment from collecting in the rent, and ultimately by selling the property at a profit.

What does a commercial property lawyer do in a commercial property investment acquisition?

Firstly, we will carry out investigations into the property and report to you. The report will be on the lease or leases, the title to the property, and the searches and enquiries raised.

When looking at the title to the property and the searches and enquiries, we are looking to ensure that on completion you will have “good and marketable title” to the property i.e. that there are no fundamental issues so that you can be confident about your ownership of the property and that no issues will arise as and when you come to sell or re-let the property.

This will include:

• Looking at the title documents to ensure there are no adverse covenants, easements, or restrictions;
• Obtaining property searches to understand the physical risks (e.g. flooding, environmental, or mining risks) or other matters affecting the property (e.g. does the property have the proper planning permissions?); and
• Reviewing replies to enquiries to ensure that the seller has told you what you need to know (e.g. is there anything not on the title deeds that you need to know about? Has anyone served enforcement notices? Is the property subject to inherent or structural defects or infestations?).

When reporting on leases we will look at a number of points but will focus on those matters that have an impact on the yield. Yield is the return on investment and is the income per year divided by the cost to purchase the asset. This is impacted in two ways:

• What is the net income from the asset; and
• What is the price?

When looking at net income we must consider both the headline rent but also what outgoings will eat into that income.

• What is the rental income?
• Are there rent free periods or rent reviews?
• If there are rent reviews, how do they work and are there provisions in them that might stop you from getting the best rental figure for that property?
• Are there any break clauses in the leases? When valuing the income from a 10 year lease it is important to know whether the tenant can leave half way through.
• Is there a service charge? How and when is it paid for? Is the landlord able to fully recover any costs it incurs?
• Are the leases fully repairing and insuring (“FRI leases”)? This means that the landlord should get full recovery of its insurance costs and the tenant is responsible for the repair of the unit. If not, then the cost of repairing the unit will be for the landlord to bear when they come to re-let.

We will also need to consider whether there are any outstanding development obligations. Unless these were made personal these might bind the incoming purchaser and bring unexpected financial burdens that will reduce the income from the property.



Clearly, this phase of reporting will be much more substantial in multi-let properties than for single-let properties. It can also be made more simple where the leases for each unit are in substantially the same form, where they are in a commercially standard modern form, or ideally both.

Secondly, we will review and negotiate the transactional documents (usually the contract and the transfer) with particular focus on VAT and whether this can be avoided.

Typically, negotiating the contract and the transfer doesn’t take a long time. Most provisions are not contentious or reflect the facts relating to the property. It is unusual to need an all parties call to resolve a particular point. It is normal for the review of the contract to occur only once the investigations and property report are nearly done. This is because those facts are needed to inform what goes into the contract. The areas that are of particular focus in investment purchase contracts are the tax treatment of the property, service charge arrangements, apportionments, and arrears.

VAT is chargeable on the consideration for the property either where it is compulsorily standard rated or where the seller has opted to charge VAT. If this applies then not only will VAT be payable but also any stamp duty land tax will need to be calculated on the VAT inclusive price. This can lead to a substantially higher cost even where the buyer can recover its VAT.

One option to mitigate this is for the transaction to fall outside the scope of VAT as a transfer of a going concern (“TOGC”). Where the transaction is a TOGC, VAT does not apply. While the rules around what is or isn’t a TOGC can be complex, in short HMRC considers letting the property and generating income from the rent(s) as being a business and therefore the sale of a commercial investment property could be a TOGC, where the right steps are taken.

Where heads of terms are agreed but no formal agreement or lease is in place then that isn’t a TOGC , nor would a sale to the sitting tenant (as their lease merges into the freehold interest when it is purchased). Sub-sales also need careful consideration to ensure that tax is mitigated where possible.

Sellers will also often ask the buyer to pay any arrears and for them to then collect from the tenants. Buyer’s should seek to resist this as it transfers the risks of non-payment to them. Apportionments of annual rent will also need to be conducted where (as is almost inevitable) completion doesn’t occur immediately before a rent payment date. If there are ongoing rent reviews the contract should also contain provisions as to how these are conducted and to ensure that the seller gets a due proportion of any uplift. If there are services provided the contract will also need to cover what happens to any employees that may transfer under TUPE, service contracts that may need to be assigned, novated, or terminated, and, if there is a service charge, what is expected to happen to it.

Typically, service charge arrangements tend to be the area where negotiations are often focussed. Unless services are billed to tenants ad hoc or in arrears, there will often be a pool of money that is collected from the tenants and held by the seller to pay for the services as they arise. Whether the pool of money has enough funds to meet service charge expenditure, arrangements for collection of funds from the tenants,, and any balancing payments to ensure that neither the buyer nor seller are left short will all need to be investigated and negotiated and this may need to take into account that the sale will often be during the service charge year – so there may be some time before the accounts are reconciled, which may or may not be commercially acceptable / practicable in the circumstances.

Finally, all of the above is subject to the commercial arrangements between the parties. It may well be that in order to avoid post completion complications, the parties might agree other arrangements. For example, the price being based on an expected outcome of a rent review and the buyer taking the risk of not achieving it and the rewards if it can do better than expected.

A well advised buyer is going to do detailed, and on higher value purchases maybe forensically detailed, due diligence as there are many aspects to an investment purchase, some of which are set out above. The better that the seller and their advisors ready themselves for sale, the smoother and swifter the transaction is likely to progress.

For assistance with your commercial property sale or purchase contact Michael on 01327 316 953, or you can email him at mgoldfinch@rollasons.com.