Buying Somebody Else’s Problem

We are frequently asked what happens when a buyer takes title to property that is occupied by a tenant. The answer: the new owner takes ownership subject to any rights that the tenant may still have to continue occupying the property, and also receives any rights that the seller had (for instance, the right to receive rent, or to evict the tenant if they are in default). As a result, there are a few issues that agents should consider when dealing with tenant occupied property. For purposes of this article, we’ll focus on buyer-side issues.

Start at the Beginning. A buyer needs to understand the nature of the tenant’s existing rights, and this requires a review of the lease that is currently in place. A review of that document will reveal the remaining lease term, the monthly rent due, whether advance rent or a security deposit was paid, and what maintenance responsibilities the landlord has, among other issues.

If there is no written lease in place, then the buyer needs to communicate with the seller and the tenant to gain an understanding of the above issues. Sometimes there is no formal lease agreement in place, and the tenant is occupying property on a “month-to-month” basis – other times, a tenant may be occupying property without paying any rent at all. In any case, these facts should be investigated before the expiration of any due diligence period in the purchase contact that allows the buyer to cancel for tenancy-related issues.

The Art of Negotiation. If the buyer doesn’t like the terms of any lease that is in place, or if they simply want to take possession immediately, all is not lost. They can attempt to negotiate a termination of the lease with the existing tenant directly. Obviously, there is likely to be some cost associated with that termination, and the buyer may want to try to pass that on to the seller. Again, this must be done before the contract has “gone hard,” or the buyer may find that they are stuck with a tenant, or with lease terms they aren’t happy with.

Removing Pesky Tenants. Sometimes a buyer decides to move forward with a purchase with full knowledge of the fact that there is an uncooperative or defaulting tenant in possession. That may be a good business decision or personal decision, but the buyer should have an idea of what it will take to end the tenancy. This scope of this article is not broad enough to discuss the mechanics and cost associated with removing unwanted tenants – a real estate attorney should be consulted to discuss the pertinent facts and assist in that process. Suffice it to say that this is a conversation that should be had before a buyer agrees to purchase the property, and take on the problem tenant.

What’s an estoppel anyways? Remember Ronald Reagan’s old adage “trust but verify?” An estoppel is the embodiment of that sentiment. In short, it’s OK to trust what the seller tells you about a tenancy, but only if you also verify information with the tenant. So, as a matter of course, a buyer should obtain an estoppel from a tenant which sets out the terms of the lease (remaining term of the lease, monthly rent, any escalations, etc), whether any security deposit or advance rent has been paid (the seller doesn’t get to just keep that, after all), the fact that the tenant is not in default of the lease, the fact that the tenant does not have any pending claims against the landlord, and the fact that the tenant does not have any right of first refusal. This document has practical importance because it affirms information that the buyer needs to know to make an informed decision, and it has legal importance because it prevents the tenant from later taking a position different than they represented in their estoppel.

Reinventing the Wheel? Smarter people than me have already thought of all of this stuff. In fact, they put a lot of it in both versions of the FAR/BAR residential contracts (see Paragraphs 6(b), and 18(D)). Those contracts, however, don’t cover everything that a careful buyer should consider – for instance, the tenant estoppel required by Paragraph 18(D) does not require a tenant to confirm that it has no pending claims against the landlord (and no buyer wants to buy a ticket to being named as a party to a lawsuit). Commercial contracts vary wildly in terms and requirements, and may not directly address tenancies at all. An up-front review of the buyer’s contract rights relating to tenants is necessary to ensure they are sufficient, and that they are followed through on.

Tenants can be great for a buyer or they can be an expensive hassle. In either case, consulting with a real estate attorney will ensure that a buyer’s purchase contract will properly protect them and that the due diligence that is needed in closing the deal is properly performed.

Sincerely,

Berlin Patten Ebling, PLLC

Article Authored by Daniel C. Guarnieri, Esq. dguarnieri@berlinpatten.com

This communication is not intended to establish an attorney client relationship, and to the extent anything contained herein could be construed as legal advice or guidance, you are strongly encouraged to consult with your own attorney before relying upon any information contained herein.

All rights reserved. This copyrighted material may not be re-published without permission. Links are encouraged.

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