Real Estate Talk: Income Property Purchase Promise
Protection conditions when promising to purchase income property
By Joseph Marovitch
Updated December 6, 2018
Income properties are popular for many people as retirement income, since an income property in a good location, in good condition and with a cap rate of 5 or higher is like a bond that pays monthly and consistently. However, income property is not priced the way a residential property is priced, by comparing other sold property prices. The prices that residential homes sell for are based on comparables that are priced with emotion and location. The vendor loved the house and does not want to part with it. The buyer has fallen in love with the house and is prepared to pay more than the market price.
The price of an income property is based on condition, location and capitalization rate. There is very little, if any, emotion involved. It is simply a matter of the bottom line. If the property produces a good rate of return such as a cap rate of 5 or higher, it is worth buying. This is why the process to purchase an income property works in reverse. The current method to buy a property requires that the vendor receive and accept a promise to purchase before the prospective buyer is even allowed to see it. Since the price is based on the return of the property, the buyer is able to determine the fair value before seeing the property.
When an income property comes to market, and if it is indicating a cap rate of 5 or higher, there are corporate and individual buyers searching every morning for these new listings, and when they arrive on market, the buyers scramble to get their offers in. The higher the cap rate, the higher the offer. Sometimes the offers are higher than the asking prices.
The price of an income property is based on condition, location and capitalization rate. There is very little, if any, emotion involved. It is simply a matter of the bottom line.
The only problem is what if the vendors neglected to indicate all the expenses the building has, or they neglected to mention the old windows or balconies, or a crack in the foundation? Because these issues may arise, the offer is designed in such a way as to allow the buyer to cancel the offer. There are four conditions that must be placed in the offer to safeguard the buyer and allow cancelation of the offer:
- Condition of first visit
The condition states that the vendor has usually 5 days from the accepted promise to purchase to allow the buyer to visit. The buyer will view key areas including the roof, boiler room, foundation and several apartments. If the buyers are not fully satisfied with what they find, they provide a written letter stating the offer is null and void.
- Condition of inspection
The buyer usually has 10 or more days to arrange an inspection by a qualified inspector or engineer. If the buyers are not fully satisfied with the inspection, they can either renegotiate the price or provide a written letter stating the offer is null and void.
- Condition of review of documents
This includes the leases, all expenses and sometimes a phase 1 environmental report. If the buyers are not fully satisfied, they can either renegotiate the price or provide a written letter stating the offer is null and void.
- Condition of financing
If the buyer is taking a mortgage on the property and it is stated in the offer how much, at what rate and for how long, and the buyer is refused by the bank, then the offer can be rendered null and void.
- Condition of first visit
If, on the other hand, all these conditions are satisfied, then the buyer has made a wonderful investment.
The concepts introduced in this article are basic. Should you have questions regarding incorporation, cap rates, the Régie, obligations of the lessor or lessee, or anything else, please do not hesitate to contact me.
Next article: The residential selling process
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Have a great week!
State of the market
According to the Canadian Mortgage and Housing Corporation (CMHC), the real estate market across Canada should slow down due to tighter mortgage rules, rising interest rates and a slowing economy, except for Montreal where inventory remains low, demand is high and prices continue to rise. Buyers are scrambling to find property. As at-market priced property, in good condition, enters the market in Montreal, buyers are grabbing what is available. Montreal is seeing multiple offers taking place much more than in the past.
For first time home buyers or anyone searching for a three plus bedroom property, more and more buyers are moving to suburbs such as Vaudreuil, Laval, Dorval, Saint Laurent and even as far as Saint-Jean-sur-Richelieu where buyers can still purchase much more house for the dollar.
This trend will continue as Montreal runs out of space to build and only resale occurs and new construction decreases. If you can purchase property in Montreal for investment purpose, now is the time to do it. Chances are that at some point in the next few years, prices will soar.
Image: Andrew Burlone
Read also: Real Estate: Investing in income property
Joseph Marovitch has worked in the service industry for over 30 years. His first career was working with families from Westmount and surrounding areas, hosting children between the ages of 6 to 16 as the owner and director of Camp Maromac, a sports and arts sleep away summer camp established in 1968. Using the same strengths caring for the families, such as reliability, integrity, honesty and a deep sense of protecting the interests of those he is responsible to, Joseph applies this to his present real estate broker career. Should you have questions please feel free to contact Joseph Marovitch at 514 825-8771, or firstname.lastname@example.org