When a Commercial Real Estate Investor is looking to purchase income producing property utilizing any number of creative financing methods, one of the most important keys to their success is that their ability to provide adequate, verifiable proof of funds – P.O.F.- to both the seller and the lender. The verification of funds can enhance the investors credibility with the seller as well as satisfy the lenders requirement to know that the borrower has necessary funds to complete their transaction.
Proof of Funds
There are a few ways acceptable to lenders and sellers to show P.O.F. to close your Commercial Real Estate transaction:
- Bank Statements or Bank Verification
- Brokerage Account Statements or Verification
- Escrow Account Verification
“Bank Verification” This is the most acceptable and widely used method to confirm the investors can complete the proposed deal. As such money must be put into a bank account and confirmed by statements or letter from the banker. This is a “hard” (versus soft) method of verification, because money are deposited in an account in the buyers name to serve as proof the buyer can complete the transaction.
“Brokerage Account Verification” Similar to bank accounts, brokerage accounts show acceptable means to complete a purchase transaction. Likewise, statements or letter from the brokerage house representative will meet the requirement to prove adequate financial strength. This is also a “hard” method.
“Escrow Account Verification” This is the one method that can be hard or soft evidence of necessary assets as the escrow agent simply needs to write a letter of confirmation attesting that the borrower has finances available to complete the transaction. It becomes hard when money is transferred into an escrow waiting for the closing.
Finally, there are companies whose sole purpose is to provide evidence of the financial ability of Commercial Real Estate Investors to complete their transactions. Many of them provide “Proof of Funds” and Transactional Financing. P.O.F. is necessary at the beginning of the deal and Transactional Financing is for the day of closing only. Both of these methods are a necessary part of an investors arsenal when utilizing creative financing.
Commercial Income Producing Real Estate
If you are a real estate investor who wants a long term investment with current income and appreciation of your investment you know the value of income producing property. Now may the best time in your lifetime to invest in commercial income producing properties because the prices are low yet the income and value are high. In today’s market you are able to purchase property twenty percent to forty percent or more less than what it sold for just three years ago while you get the same rents or higher than owners received a short time ago. I call that a bargain. This is how you buy low to maximize your short term and long term return on your investment.
Commercial Versus Residential Income Producing Property
If you what to determine if buying residential properties (4 units or less) or commercial multifamily properties (5 units or more), consider the fact that financing for residential is tougher than ever while there are down payment assistance programs and many other creative financing options available for multifamily buildings. You may be able to purchase an apartment or office building for little or know money down. You must also consider that purchasing one building with many units is much more cost effective than buying many properties. What is better, one 12 unit building or 12 one unit homes? Which is more cost effective? The choice is yours.
Though we discuss which option is best for you everything lies in the value of your investment. Before you purchase any property you must access the value. The value of Residential Real Estate is based on the sale price of similar properties in the same area. This appraisal method is the sales comparison method. Commercial Income Producing Properties also use the sales comparison method, but not as the primary determining factor. The method that is predominant in determining the value of income producing property is the income method. The Income Method simplified is:
- The Gross Potential Income minus a vacancy factor (5% to 10%) equal effective income.
- Effective income minus expenses (not including the mortgage) and repair and replacement reserves
- Divided by the capitalization rate for the property type in the area.
- This gives you a value based on the net income of the property.
The income method and the sales comparison method are reconciled by an appraiser to determine the appraised value of a property. A commercial appraisal can cost you from $1500 to $15,000 or more depending on the size and type of property. So you want to establish a conservative value before you pay for an appraisal to determine your interest in a property.
Investing in Commercial Income Producing Property
As an investor in anything your objective should be to buy low and sell high. This means you will never pay the value of a property based on the income method. Typically you want to pay substantially less. You can in this market now. In doing so you increase your monthly income and open the door for many creative financing options. Once you master estimating value based on the income and sales comparison methods you have taken a very important step to being a successful real estate investor.