DUE DILIGENCE CHECKLIST
WHAT’S AT STAKE?
The worst feeling as an investor is to buy a property then find out something bad about it later, something that would have prevented you from buying it had you known in advance. What’s even worse is if it’s something that could have been discovered, with ‘a little more digging’. The old expression that “you make money on the buy” applies here as well, because mistakes can be very expensive. Fixing it before you’ve closed escrow makes it the seller’s problem; fix it afterclose of escrow (COE) & its YOUR problem.
Sometimes there’s something hiding in the details that is a deal-breaker, or something that will make the property hard to resell later. It’s very important that you get a true & accurate picture of all aspects of the property. And a good MHP Due Diligence Checklist will make sure you don’t miss anything. BTW, Due Diligence is often abbreviated as “DD”. If you ever hear someone talk about DD, you’ll know what they mean.
BUYER BEWARE
Unfortunately, ‘true & accurate’ isn’t always forthcoming. And unlike Residential 1-4 Real Estate, the Commercial Real Estate seller has no implied obligation to tell you everything he knows about the property…unless you ask. So the shrewd Mobile Home Park Investor needs to take responsibility for asking the right questions & analyzing the results. Once again, this comes down to the Due Diligence Checklist, the Due Diligence Checklist, the Due Diligence Checklist. I can’t emphasize it enough.
DUE DILIGENCE CHECKLIST
HOW DOES DUE DILIGENCE WORK?
Simply put, ‘doing your Due Diligence’ means that you are investigating the Property, looking for problems. A ‘Due Diligence Period’ is a set amount of time given to the buyer to conduct his investigation, during which time, he can back out of the purchase without penalty. At the end of that period, he may elect to stay in the transaction, or walk away. If the Buyer walks, he is usually entitled to his full Earnest Money Deposit back, less any inspection fees that might have been billed to escrow.
THE CONTINGENCY CLAUSE
Generally, when a Buyer makes a written Offer (Purchase Contract) to buy a piece of Commercial Real Estate, a Mobile Home Park for instance, that Offer will include a “Contingency Clause”, giving the Buyer time to investigate the property before being committed to complete the purchase. Again generally, these Contingency Periods or Due Diligence Periods are usually around 30 days in length, but can be any term that is agreed to by all parties. In other words, everything is negotiable. There is no set rule or law on this.
If you’re the Buyer, you want plenty of time to get all the information from the Seller, then examine it & possibly ask for more follow-up info, or perhaps even order an inspection of the property. We rarely see Due Diligence Periods running past 45 days, which is more than enough time to get it done, if you do it right, and if you have an expert in your corner.
TIME IS OF THE ESSENCE
Sometimes Sellers don’t have all the information together that you are requesting. Most standard Purchase Agreements stipulate that the Seller has a certain number of days from Acceptance, usually 7, to get you the info. But, if it takes him 2 weeks, then he’s just eaten into one week of your Due Diligence Period. Therefore it is wise to word the Due Diligence Contingency clause of the Purchase Agreement such that the 30 days (or whatever) commences upon receipt from the Seller of all the information requested. Then the burden is on him & he’ll be motivated to get you the stuff.
Call with your MHP questions (no cost/no obligation)
(925) 413-7704 or email sierralynntallone@gmail.com
DUE DILIGENCE CHECKLIST
LOTS OF THINGS CAN GO WRONG!
As with any type of real estate, things can go wrong. Mobile Home Parks are better than most types of investments here because they are so much simpler. There are often no buildings or complicated appliances, heating & cooling to maintain. Mobile Home Parks are often made up of little more than land, underground utilities, trailer pads, some streets & fences. But even here, things can go wrong. And not all problems are physical.
Many Mobile Home Parks are fine, mechanically, but have problems on the business side (ie: bad managers, non-paying or troublesome tenants, legal problems, vacancies, high expenses, etc.). It’s absolutely imperative to discover & assess these problems prior to closing escrow & becoming the new owner. That’s what Due Diligence, and your Due Diligence Checklist is for.
WELL & SEPTIC
Obviously parks with City Water & Sewer will be handled differently than those will a Well and/or Septic, when it comes to your Due Diligence Checklist. Never forget, however, that even City Water or Sewer isn’t a guarantee of trouble-free operations. Most of the problems that occur with these systems happen to your pipes, on your property. In other words, if a water pipe breaks in your park, the City isn’t going to come onto your property and fix your pipes. Same with Sewer. Most of the problems that occur are with diapers flushed down toilets, or lines clogged with lard from cooking, or tree roots invading the lines. Either way, if its on your property, it’s your responsibility, even if the other end of that line is hooked up to a City Sewer.
So, what’s my point? Even if you’re on City Water & Sewer, check all the pipes for problems, it needs to be a part of your Due Diligence Checklist. And if it does have a well or septic, you’ll have more to check. Your best source for this is whoever the seller has been using to service these systems. Call them and have them meet you at the park on your DD expedition. Customize your Due Diligence Checklist if it has a well or septic system.
CONSULT A PROFESSIONAL
In other words, “DON’T TRY THIS AT HOME!” Joking, of course. But unless you’re a seasoned Mobile Home Park Investor, you really should have a good MHP expert, with experience buying, selling, conducting the due diligence on, and operating Mobile Home Parks, and above all, someone you can trust. Trust to put your best interests first, but also trust to do the job right, to know what to look for, and what questions to ask. We specialize primarily in Mobile Home Parks, we buy them, sell them, manage them, including those that we own ourselves. Beyond our services as MHP Consultants we always urge you to seek the advise of a qualified Tax or Legal professional with those types of questions.
DUE DILIGENCE CHECKLIST
WHAT CAN GO WRONG?
With Apartments or other Residential or Commercial Buildings, there are many things to look closely at: roofs, foundations, HVAC systems, plumbing, electrical. Mobile Home Parks offer some unique advantage because of their mechanical simplicity, but there are some key areas to look for, that also apply to most other types of Commercial Real Estate; in no particular order. And this humble Due Diligence Checklist is by no means a complete list, there are always more things to check.
Call with your MHP questions (no cost/no obligation)
(925) 413-7704 or email sierralynntallone@gmail.com
DUE DILIGENCE CHECKLIST
CHECK THE NUMBERS
This is first because it is THE most important aspect of your Due Diligence investigation. Because if the numbers show that the park doesn’t make enough money to justify the price, then it won’t matter what the condition of the pipes are, you probably aren’t going to buy it. Conversely, if the numbers are very strong, you might overlook some mechanical issues. So, check the numbers thoroughly. Specifically, these are:
* CURRENT RENT ROLL (should include tenants’ names, rents owed, utilities & other charges, & actual rents collected This will show you how much the park is actually taking in (GROSS INCOME).
* PAST RENT ROLLS The more the better. Having 2 years worth will allow you to track the rental history. Sure it’s full now, but what about in the dead of winter?
* CURRENT PROFIT & LOSS / INCOME & EXPENSE STATEMENT Depending upon how they keep their books, this might be the last full month’s Income & Expenses, or it could be the Year-to-Date (YTD). This should list the actual income from all sources (which should match the Rent Roll) & all the actual expenses. Examine both carefully. Work your own calculations, do some research, make some notes, make sure the numbers make sense. Do the listed expenses include realistic amounts for Management (salaries), Maintenance, Insurance, Property Taxes, Utilities, Licenses & Permits, Legal (evictions), Advertising, Phones, etc.?
NOTE: Profit & Loss Statements are referred to as P&Ls, & Income & Expense Statements are called I&Es, & while technically there are subtle differences, the two titles are commonly used interchangeably, with P&L generally being the more common.
* PAST P&Ls This gives you an income history over time. Property taxes for instance, are usually paid twice a year & so may not show up on a short term P&L. You should compare the recent P&L to past ones to see if there are any red flags. Has the income and/or expenses generally gone up over time, or gone down, or remained stable? What are the actual annual figures for Income, Expenses & Net
* FURTHER VERIFICATION Sometimes (not necessarily in every case) it is wise & prudent to request further Income and/or Expense verification from the Seller. This is most commonly in the form of BANK STATEMENTS & INCOME TAX RETURNS for the Mobile Home Park. Sometimes Sellers will be reluctant to give away such personal financial information, especially if the Property runs through their personal Tax Return, rather than a separate corporate entity with its own Tax Return.
Bank statements can be particularly useful in tracking expenses. But nothing is guaranteed, not with Bank Statements or even Taxes. They can be ‘fixed’ by unscrupulous sellers who will run extra money through the park’s accounts & even pay taxes on it, just to make it appear as though it makes more money than it actually does. In the end, nothing is 100% foolproof.
Call with your MHP questions (no cost/no obligation)
(925) 413-7704 or email sierralynntallone@gmail.com
DUE DILIGENCE CHECKLIST
THE PARK’S PAPERWORK
Every Mobile Home Park has several key pieces of documentation that are critical. The nature of these documents may vary from area to area, or state to state. But generally, these are the important documents you want to examine that pertain to the park:
* OPERATING PERMIT – Most States have an agency that governs Mobile Home Parks in its borders. These agencies issue Operating Permits for each park that shows how many approved sites it has, how many are for Mobile Homes, how many are for RVs, etc., and when it expires. Get a copy, check the expiration date, then compare the approved spaces on the permit to those actually present in the park.
* PRELIMINARY TITLE REPORT – Some states use Title Companies to handle real estate transactions & some use attorneys. Either way, each issues some form of title report (in some states you may have to request it) that will show all matters of public record pertaining to the property, such as easements, liens, loans, past due property taxes, lot lines, & who owns it. Always look near the end of the report for any “exceptions”. These are the things that the Title Company would not be willing to assure in a policy of Title Insurance. Pay close attention to them, because you won’t be protected on these items.
* EMPLOYEE & CONTRACTOR INFO – You need payroll history & all workers comp info (& any insurance or other benefits provided) for all employees or independent contractors. Get copies of all Employment Contracts & other contracts with suppliers, service providers & vendors.
* ARE THE LAUNDRY MACHINES LEASED OR OWNED? – If the Mobile Home Park in question has a laundry room, you need to determine who owns the machines. Some are owned by the park (are they included in the sale?), some are leased from outside companies under a variety of arrangements (some charge a monthly rental fee & you get to keep all the money; others charge nothing monthly but they keep all or some portion of the money). Also, who collects the money? It’s cash remember, & very hard to trace.
* UTILITY BILLS – Utilites are HUGE in a Mobile Home Park. It’s critical that you know & understand who pays these & how. The best possible arrangement for you as a Mobile Home Park Owner is what’s called ‘Direct Billing’ in which the Utility Company bills your tenants for all their utilities, leaving you completely out of it. This is very common in the Southern States. More common however, is what’s called ‘Sub-metering’, in which the utility company sells the park electricity, gas, or water in bulk on a ‘Master Meter’. These parks have their own ‘Sub-Meters’ at every space which are read monthly & the tenants are billed for their share of the bill. The park will also have some utility usage of its own, especially if there are amenities such as a pool, laundry or club house. Get all the Utility Bills for the past 2 years.
* WELL REPORTS – If the park has a well (instead of City water), make sure to get the last 2 years of monthly Water Quality Reports. Check to see if the water quality failed to pass at any time & how it was remedied. Call the company that does the tests & talk to them about the park. Most states now require small water systems to have a Licensed Water System Operator oversee things & you should get his name and/or any company that does work on the well. If they fail a test, it will either be because of the presence of chemical contaminants (lead, arsenic, nitrates, etc.), or bacteria (usually coloform). Bacteria can be treated by adding bleach to the water system & giving it time to work, then flushing it clean, then retesting.
Contaminants are another thing altogether. About the only way to treat them is with an expensive water treatment system. Bacteria or chemicals, it could be signs of expensive problems. And when you’re dealing with peoples’ drinking water, County & State agencies can be very vigilant.
* INSURANCE POLICY – Check it out, see what they’re paying, what is covered or excluded.
* PROPERTY TAX BILLS – Get a year or two of past property tax bills & if they have it, the upcoming bill. This will show you what the actual property taxes are, what the assessed value is & how the county calculates the tax.
* TENANT INFO – Copies of all Leases and/or Rental Agreements AND Rental Applications. A list of all Security or other Deposits being held (these must be credited to you in escrow). A detailed list of any delinquent tenants, tenants who are in violation of the Park’s Rules & Regulations (trouble-makers) or any Government Ordinance (usually building code violations), any Tenants who are currently being evicted, or are going to be evicted, and/or served notice.
* POLICE INFO – Call the local Police or Sheriff’s Dept., give them the Property Address & ask them what sort of calls they get on it & what they think of the area/neighborhood. They can give you a wealth of information. And while you’re at it, call the City/County & ask them about it. But, try not to raise any red flags with them that could come back to haunt you later.
* ANY VIOLATIONS, LAWSUITS OR PENDING LITIGATION – Ask the Seller or his Agent if there are any violations with any public agency, local, state or federal. Is anyone suing anyone? Are there any lawsuits pending, or even being talked about?
* RULES & REGS – Get a copy of the Rules & Regulations for the park. Every tenant should sign them at the same time they sign their Rental Agreement, before moving into the park. Some Rental Agreements are comprehensive enough to contain all the Rules & Regs. If not, get and/or make up a good set & get every tenant to sign, at the same time you should get all new Rental Agreements signed by all Tenants, naming your ownership entity as Landlord.
* LIST OF PARK-OWNED HOMES – If the park has POHs included, you need a list of them that includes their Space #, Tag or VIN#, Size, Bedrooms/Baths, how much it rents for, if it’s vacant or occupied, its condition, and whether or not they have the title for it.
Call with your MHP questions (no cost/no obligation)
(925) 413-7704 or sierralynntallone@gmail.com
Not what you want to see, as a Mobile Home Park owner. As a potential one, this is a very telling sign of the way the park has been managed. Either there are no rules, or no one is obeying them. This guy is not only doing major work on his car (which could keep it on jacks for weeks), but this isn’t the first time he’s done major repairs, or the last. Note the subframe from a car chassis in right of the picture (Red Arrow). This kind of thing has no place in a Mobile Home Park.
DUE DILIGENCE CHECKLIST
INSPECTIONS
There are a wide variety of inspections that can be ordered by the Buyer. The Buyer generally pays for all inspections. However sometimes the Seller will have some inspections already & this can save you some money. Just make sure you can trust them. Inspections can include, but are not limited to:
* GENERAL PROPERTY INSPECTION – by a licensed Property Inspector.
* PEST CONTROL INSPECTION – Termite inspection of all buildings. (Only applies to those MHPs with buildings)
* ELECTRICAL INSPECTION – A licensed electrician examines the electrical systems. (optional)
* PLUMBING INSPECTION – A licensed plumber examines the plumbing systems. (optional)
* WELL INSPECTION – Absolutely necessary on properties with wells.
* SEPTIC/SEWER INSPECTION – If the park has septic, have a licensed septic operator, hopefully the one who has been servicing the park in the past, inspect & evaluate the entire system for you, in writing. (a must)
* SEWER LINE CAMERA INSPECTIONS – These things are the coolest. They run a camera via a long snake through all the sewer lines to make sure they’re clear & don’t have any problems. You can watch on TV while they do it & they’ll give you a DVD for your later enjoyment. Not cheap, but maybe worth it, depending on the age of the park & its history of problems. (an extravagance in most cases)
* ENVIRONMENTAL INSPECTIONS – Imperative, these days. A Phase 1 environmental inspection is a very comprehensive, and expensive, physical inspection of the property along with the usual review of all pertinent records. This may be more than is required. For under $100 you can order a basic Environmental Hazards Report online that will tell you if there is anything to worry about, as determined by the public records. But, if the property has buried fuel tanks, oil spills or other nasty things that don’t show up on record, a physical inspection is the only way to go, even if you do it yourself. But, hiring a pro is always advised. (only if something shows up on public record, or you have reason to believe there’s a problem)
* YOUR PERSONAL INSPECTION – Of course, nothing beats driving there, getting out of your car & walking the place. Look at everything, ask questions, look behind stuff, under stuff. Talk to tenants, take notes. Go there unexpected & at different times of the day. What does it look like in the morning as people leave for work? What about after 3:00 when all the kids get home? What does it look like when everyone gets home from work? (only you can decide if you should go or not)
* ASK THE SELLER – We have to assume that the Seller knows more about his property than just about anyone. Ask questions, ask for more info, more documentation, match is up with what you already have & what you’ve found yourself, just to make sure it all adds up. Most Real Estate Boards publish a “Sellers’ Property Questionnaire”, which is in fact a Sellers’ Disclosure, similar in effect to the Transfer Disclosure Statement (TDS) used on most residential transactions. Remember, in Commercial Real Estate, it is presumed that the parties are more financially sophisticated, and so the law does not put the same burden of disclosure on the Seller. He doesn’t have to tell you anything about the property that you don’t ask. SO ASK!
One of the best ways to do that is with a standard Seller’s Disclosure or Questionnaire, because they ask all the right questions & a few more (like: “Material facts or defects affecting the Property not otherwise disclosed to Buyer”). It is very thorough & there is no honest chance for the Seller to “overlook” or “forget” anything, it’s all covered. Then he signs it, and it’s pretty iron clad. Request this for right up front, you want to walk the park with this in hand. (some sellers get intimidated by them, so be gentle)
DUE DILIGENCE CHECKLIST
THERE’S MORE TO THE STORY
There are always more things you can check or verify or inspect. It can drive you crazy sometimes. But worse, it can cause you to walk away from a very good deal. Some investors are so frozen with fear that they never actually buy anything. Somewhere there is a proper balance, and of course every property & every transaction is totally unique.
Some Mobile Home Parks will require more intense Due Diligence, and others will not. Ultimately, the decision is yours, as you will be the one who lives with the outcome, perhaps for a very long time. So take this Due Diligence-thing very seriously. But, don’t let it drive you crazy either. At some point, the merits & drawbacks of the property should become pretty clear. Choose the best path for you & don’t be afraid to walk away. But, don’t let a home run get away over a technicality. Like everything in life, it’s a balance.
WHAT IF INFO IS LIMITED?
This is a very important point that was illustrated to me recently. A client who had read this page on my website, was ready to walk away from an incredible deal (a 12.8% Cap Rate going in + upside) because the seller didn’t have every last shred of documentation that I outlined above. There are exceptions to almost every rule in the MHP business, and this is one of them. We generally look for MHPs that aren’t on the market, and in some cases the owners weren’t even thinking of selling. In situations like that, it’s hard to hold them to the same standards as sellers who planned to sell and listed their park with a realtor.
In many cases today, these MHPs are turning over for the first time, being sold either by the original owner who literally built the park out of a corn field, or his/her heirs. Many of these folks ran their parks for decades ‘by the seat of their pants’. They put their rent in one pocket and paid the bills out of the other, without ever keeping records, and often not paying taxes on it either.
Should you turn and run away from situations like these? That depends on the deal. If it offers a better return than most, then it may be worth considering. The way I look at it is that ordinary deals yield ordinary returns. Extraordinary returns come from extraordinary properties or situations. To get an extraordinary return like 12.8%, there must be something extraordinary about the situation or it would have sold by now. In this case, it was that the seller had not planned to sell, didn’t have a full package put together, and in fact was a lousy bookkeeper who wasn’t actually keeping any books. One buyer may see that as a red flag. Another (like us) sees it as an opportunity.
So, how do we sleep at night buying MHPs that don’t have good records? We’ve done enough parks that we have a good idea what everything costs, and we know what to expect (more or less). If the deal is good enough, and all the basic pieces are there, we estimate what we can make there, and what we can run it for. What the seller gives us (or doesn’t) is history, and while knowing history is valuable, it doesn’t guarantee the future. We won’t run it like he did anyway, we’ll run it our way, and we know what to expect, based on all the other parks we’ve run, over the years.
Again, if the deal is good enough, and worth the risk, even if we’re off by a little, it may slip down to a 10%-Cap instead of the 12.8% advertised. But that’s still a killer return, and may still be a deal that is worth considering. Always look at the whole picture.
Call with your MHP questions (no cost/no obligation)
(925) 413-7704 or email sierralynntallone@gmail.com
