When
buying commercial real estate, an investor takes on unique risks in
return for a unique reward. One way that a buyer or lender might
mitigate some of those financial risks is to use a special purpose
entity. What is a special purpose entity? And why might it be a good
choice for your transaction? Here are a few answers.
What
Is a Special Purpose Entity?
A
special purpose entity (SPE) is one type of a group of business
entities that may be created and used in order to own, protect, and
manage a specific asset. An SPE generally can be structured as many
types of businesses, including a trust, limited liability company, or
corporation. Such an entity would be separate from other businesses
you own as well as yourself as an individual.
What
Benefit Does This Offer the Lender?
Many
commercial real estate buyers are asked by the lender to form a
special purpose (or single purpose) entity. Why does the lender want
this? The answer largely comes down to protection in case of
bankruptcy.
When
the property they lend against is owned by an individual or company
with other assets and obligations, a bankruptcy filing could affect
that property. Its value may be grouped in with other assets for use
in satisfying unrelated obligations. Other creditors could also try
to come after the property to satisfy their own debts.
On
the other hand, a property owned by a separate entity is not useful
for the debts of a different individual or company. Even if those two
entities share the same ownership, they are designed to be legally
protected from the actions of one another. This reduces the risk of
loss by the lender.
What
Benefit Does This Offer the Buyer?
If
the lender wants a SPE in order to boost bankruptcy protection for
themselves, what benefit does that you? To begin with, you also get
some bankruptcy protection. Separating the property from yourself or
your other business endeavors means that you may be able to continue
to own it even if you do have to declare bankruptcy for other
entities.
Forming
certain types of business entities is also a good idea to protect
yourself from other hazards. Real estate investment can be somewhat
risky. If your investment company faces bankruptcy, your personal
assets will be separated by many business entity types. If the SPE is
sued for damages, such as by an injured tenant, your personal assets
are once again protected from seizure.
Certain
business entities are also conducive to raising new capital. Both an
S corporation and a C corporation can sell shares of interest in
order to bring new money into the venture without additional debt.
Partnerships can split up responsibilities, bring in new money, and
add to or reduce ownership. Conversely, an individual has limited
options to raise capital — usually only by borrowing from others.
Finally,
an SPE can streamline both the buying and selling processes. Because
the owner is a separate entity — rather than part of a larger
business or yourself individually — you will likely have fewer
contract complications as well as lending delays.
What
Should You Know?
While
an SPE could be the perfect match for your commercial real estate
purchase, you shouldn't enter into one with professional assistance.
In order to gain the benefits, you need to create a business
structure that meets the lender's requirements but also protects your
own interests.
At Donald
B. Linsky & Associate PA
,
we know real estate law. Let us help you craft the right SPE and
ensure that your real estate transaction fits your needs. Call today
to make an appointment.
