By Tenant Advisory Group · Updated
Short answer
A sale-leaseback carries the costs of selling a commercial building plus the cost of negotiating a long lease: brokerage, legal fees, title and escrow charges, survey, environmental and condition reports, transfer taxes, and any prepayment charge on your mortgage. Amounts depend on the property and the deal. Who pays each item is partly custom and partly negotiable, so settle it in the letter of intent.
Two transactions, one set of closing costs
A sale-leaseback is a building sale and a new lease signed on the same day. The cost categories are the same ones any commercial seller faces, with added legal work because the lease is negotiated from scratch and will govern your occupancy for years.
We do not quote dollar amounts or percentages in this guide. Fees vary with the size and complexity of the property, the location, the professionals involved and the terms negotiated. What follows is a map of the categories, what each pays for and where you have room to negotiate. Ask each provider for a written estimate before you go to market.
Brokerage, legal, tax and accounting fees
The broker or advisor who values the property, identifies investors, runs the process and negotiates price and lease terms is typically paid a commission at closing, calculated on the sale price. The rate and structure are set in a written agreement signed at the start.
- Confirm in writing who the broker represents. In a sale-leaseback you are both the seller and the future tenant, and your advisor should be working for you on both the price and the lease.
- Ask whether the fee covers lease negotiation as well as the sale, or only the sale.
- Ask whether a buyer's broker is expected to be paid and by whom.
- Understand what is owed if the transaction does not close.
You will need a real estate attorney to negotiate the purchase agreement and the lease, clear title issues and handle the closing. Lease negotiation is usually the larger part of the work. A lease that is thoroughly negotiated costs more in legal fees up front and often saves far more over the term.
Your CPA should estimate the tax on the gain, advise on how the lease will be recorded in your financial statements and review any effect on loan covenants. If your company reports under US GAAP, the accounting analysis for a sale-leaseback is specific and may involve your outside auditors. Some companies also need corporate counsel for board or shareholder approvals.
Each side normally pays its own attorneys and accountants. Some purchase agreements ask the seller to reimburse part of the buyer's costs if the deal fails for specified reasons; read that clause closely.
Title, escrow, survey and recording
The buyer will require a title insurance policy insuring its ownership, issued by a title company that also usually acts as escrow agent for the closing. A current survey meeting the title company's standards is typically required as well.
- Owner's title insurance premium. Which party pays is a matter of local custom and negotiation.
- Endorsements and any lender's policy the buyer's lender requires. Commonly a buyer cost.
- Escrow or closing fee. Often shared.
- Survey. Either party may pay; providing a recent survey can speed the process.
- Recording fees for the deed, releases of your old mortgage and any memorandum of lease.
- Cost of curing title defects, such as obtaining releases of old liens. This falls on the seller.
Environmental and property condition reports
Buyers order a Phase I environmental site assessment and, usually, a property condition report. The buyer customarily pays for its own reports, though some sellers commission their own in advance so they know what a buyer will find.
The reports themselves are a modest part of the budget. The findings are what can become expensive. If the environmental assessment identifies a concern, further sampling may follow, and if contamination is confirmed the parties will negotiate cleanup, a price adjustment or an escrow held back from your proceeds. If the condition report identifies a failing roof or system, expect a request for a repair credit or a commitment to do the work.
Budget for what the inspections may reveal, not only for the inspections. A contingency for repairs and environmental work is prudent for any older building.
Transfer taxes
A sale-leaseback is a real sale, so the deed is generally subject to the same transfer taxes as any other commercial conveyance. In Illinois these can be imposed at the state, county and municipal levels, and in some municipalities part of the tax falls on the buyer and part on the seller. Rates and the paying party differ from one municipality to the next.
Because the rules are local and change over time, we do not restate rates here. Your attorney or title company can calculate the exact amounts for your address, and our guide to Illinois transfer and property taxes covers the topic in more detail. Whatever the local rule, the purchase agreement should state plainly who pays each transfer tax.
Costs of retiring your existing loan
If the building has a mortgage, it will be paid from your proceeds at closing. Three items deserve attention.
- Prepayment charges. Many commercial loans, particularly fixed-rate loans, charge a fee for early payoff. Depending on the loan this may be a declining percentage, a yield maintenance formula or a defeasance requirement. Read the note or ask your lender for the calculation.
- Swap termination. If your loan rate is fixed through an interest rate swap, ending the swap early can produce a payment owed by you or to you, depending on rates at the time.
- Lender legal and release fees for preparing the payoff and releasing the lien.
These costs can change the economics of the whole transaction, and they are knowable on day one. Ask for a payoff estimate before you market the property.
Costs that are easy to miss, and how to budget
- Income tax on the gain. Not a closing cost, but often the largest single reduction in what you keep. Have your CPA estimate it.
- Security deposit or other credit support under the new lease, if the buyer requires it.
- Repairs or compliance work you agree to complete before or after closing.
- New insurance requirements under the lease, which may differ from the coverage you carried as owner.
- Internal time. Gathering records and answering diligence questions takes real hours from finance and operations staff.
- Do we have written fee terms from our broker, attorney and CPA?
- Has our lender provided a payoff figure, including any prepayment charge?
- Has our attorney or title company calculated transfer taxes for this address?
- Does the letter of intent state who pays title, survey, escrow, transfer taxes and each side's reports?
- Have we set aside a contingency for repair credits and environmental findings?
- Has our CPA estimated tax on the gain so we know our true net proceeds?
TAG builds a net proceeds estimate with the owner's attorney and CPA at the start of an engagement, so the decision to proceed is based on what the company will keep after every cost on this list.
Frequently asked questions
Who pays closing costs in a sale-leaseback, the buyer or the seller?
Both. Each side pays its own advisors, and items such as title insurance, survey, escrow fees and transfer taxes are divided by local custom and negotiation. Set the split in the letter of intent.
Are sale-leaseback costs higher than the costs of a loan?
Often, because a sale involves brokerage, transfer taxes and possibly tax on a gain that a refinance does not. A loan has its own costs, so compare net proceeds from each option.
Can closing costs be paid out of the sale proceeds?
Yes. Most seller costs, including the mortgage payoff, are deducted from the proceeds on the closing statement. Fees for professionals engaged earlier may be billed separately.
Is a prepayment penalty negotiable?
It is set by your loan documents, so the lender is not obligated to reduce it. It is still worth asking, and the timing of closing can sometimes lower the charge.
This guide is general information, not legal, tax or accounting advice. Have your attorney and CPA review any sale-leaseback before you commit to it.