Beyond Inspections: Multifamily Due Diligence Documents
The due diligence process of a multifamily property purchase allows buyers to learn more about the property’s physical and financial conditions. Read on to discover which documents to expect and how to use them to confirm your underwriting assumptions to ensure that the property fulfills your investment goals.
Physical Condition Reports
Expect much more than the quick inspection that usually happens during a single-family home transaction. When purchasing a multifamily property, several reports address various components of the physical condition of the property to give a complete picture of the property and associated costs to plan for.
Property Condition Assessment
The property condition assessment (PCA) details the condition of the property, emphasizing the cost to maintain it and replace components as the building ages. Government-back loans like those through Fannie Mae usually require a specific PCA. Additionally, other lenders may have particular PCA requirements because it can help you calculate the reserves needed to operate the building.
During a unit walk, the buyer gets the chance to access every unit on the property. Take advantage of this opportunity to understand the condition of the whole property and not just the select units you may have entered when viewing before purchase. During the unit walk, use a critical eye to evaluate whether the property’s needs fit within your budget.
Environmental Site Assessment
When purchasing a property, the new owner often assumes legal liability for conducting environmental cleanup or mitigation, so the environmental site assessment is crucial for limiting unexpected expenditures and realizing the intended use of the property. Properties with any concerning findings during the first ESA will need a more detailed Phase II assessment.
Financial Condition Reports
Financial reports during the due diligence process give buyers the chance to take a closer look at the business created by the income-producing property. Not only do the reports demonstrate the current and profitability if the property continues to operate as-is, but they should also be analyzed in conjunction with the buyer’s business plan to assess the viability of the endeavor further.
Financial Audit Report
At minimum, buyers review the property’s income and expense statements and profit and loss statements for the past three years. For a more complete picture, buyers can engage a real estate consulting firm to further analyze and make projections using the historical financial data for the building.
Lease Audit Report
The third parties who prepare the lease audit report carefully comb through the records of each unit to identify both the potential and actual income from each unit. The report will also note the lease terms and any other important lease details so that the buyer may consider them when creating an operation and renovation plan.
A professionally prepared market report analyzes the property in specific relation to the market in which it sits. This detailed report gives buyers a more accurate projection for occupancy and absorption rates. Overall, it sheds light on the property’s place in the market, such as whether it fills an untapped need or is one of many similar properties in a saturated market.
Other due diligence areas may be more legally oriented and vary based on location and property. For example, a title or survey report to ensure proper chain of title is the best practice for any purchase. In some parts of the country, seismic reports verify the building’s durability in the event of an earthquake. Upon request, green reports provide suggestions for energy efficiency upgrades and include a cost analysis for the improvement cost versus money saved.
Takeaways for Investors
When working in the multifamily industry, buyers and owners must know which reports are customary and arrange them. But, just as importantly, know the data that each report yields so that you can best understand the newfound data and better ensure the property meets your investment goals.