Imagine you own a piece of commercial real estate that you are looking to sell to a developer. After several weeks on the market, you are approached with two offers. One is an all-cash offer while the other will utilize hard money. Is one offer better than the other? Not necessarily.
Both offers will eventually result in cash exchanged for your property. On the day closing takes place, the only real difference is the source of the funds. An all-cash buyer will pay you with funds from his own bank account. A hard money buyer will fund the purchase with money loaned by a private lender.
Again, none of this really matters on closing day. However, it does matter in the days and weeks leading up to closing. Salt Lake City’s Actium Partners says it is important that sellers understand both cash offers and hard money loan offers in order to know how to proceed with a sale.
Verifying the Offer
An offer on commercial real estate is more than just a piece of paper declaring a buyer’s willingness to purchase. Offers have to include details about financing, among other things. Such details are used by the seller in doing his own due diligence. Financing is the first area in which the differences between cash offers and hard money deals is significant.
In the case of an all-cash offer, the seller has to determine that the buyer’s cash is real. Generally, that means looking at bank statements or other documentation. It means verifying that the buyer has the cash – and has had it for some period of time.
In the case of a hard money deal, sellers are generally looking for some sort of pre-approval from the lender. The seller wants to know that the buyer has a funding commitment before signing the deal.
Property Appraisal
It would be foolish to purchase a piece of commercial property without first appraising it. Here is the curious thing: cash buyers do not always attach appraisal contingencies to their purchase offers. And when they don’t, there is no legal requirement placed on the seller to allow an appraisal. Hard money loans are quite different.
Hard money loans are offered only when they are secured by some sort of collateral. In most cases, the property being purchased is the collateral. Thus, the sale is contingent upon the lender’s appraisal. A property has to be worth the price being asked or the lender will not bite.
This may or may not be an issue for a seller. However, sellers do have to be concerned about getting a low-ball offer after an unflattering appraisal.
Equity Investment
Finally, the principle of equity investment may sway a seller toward an all-cash offer. Buyers making cash offers are making a 100% equity investment simply because they are funding the purchase with their own money. You cannot get a greater equity investment.
Hard money buyers also have to have make an equity investment, which is typically 35% or less. This should tell sellers to look more closely at down payments. The more a hard money buyer is willing to put down, the more skin he has in the game. Larger down payments are sometimes an indication of how serious a buyer is.
There is no right or wrong in terms of choosing a cash buyer over a hard money purchase. Both types of funding have their pros and cons. For the seller, it boils down to making a deal that brings in the highest price while simultaneously protecting his own interests. Nothing else matters on closing day.
