Real Estate Property Investment Due Diligence Period Checklist (Free PDF Template)

In this series consisting of three articles, we’re going to cover the entire due diligence process for real estate investors step-by-step.

We will also include free downloadable property due diligence checklist PDF templates in every article.

We will examine each property type: residential, multifamily, and commercial real estate. Some steps overlap for each property type.

Overlapping steps will be referenced but not covered twice. Generally speaking, the larger the
property, the more time and resources should be dedicated toward the due diligence process.

In my experience of 15 years of real estate practice and property management of real estate investment portfolios, I have seen several investors make crucial mistakes or overlook important factors within the due diligence process.

I want to help other investors avoid those same pitfalls. In my experience, the investors with the greatest success conduct a very thorough real estate due diligence process and leave nothing to chance.

We will break down each property type to see what due diligence steps investors should be taking to ensure a property is going to be an asset and not a liability in their real estate portfolios.

Because the due diligence process can be very detailed and one could practically write an entire book on the subject, we’ll pare down the most important aspects investors should be paying attention to.

Please note that the due diligence process outlined in this article, only covers the pre-offer due diligence process.

The post-offer due diligence checklist is covered in the following guides:

1. Residential Real Estate Due Diligence Checklist
2. Commercial Real Estate Due Diligence Checklist

If you are interested in residential real estate (including 1-4 unit multifamily homes), after studying this article, read also the Residential Real Estate Due Diligence Checklist mentioned above — to learn about the post-offer due diligence.

If you are buying a commercial property, read both of the aforementioned additional articles after studying this guide, and not only the Commercial Real Estate Due Diligence Checklist: all of the steps in the Residential Property Checklist are also included in the commercial property due diligence process.

Now, let’s start with the definition of “due diligence period” in real estate.

The due diligence period is the amount of time after the purchase agreement is accepted and during which the buyer must conduct their research and investigation of the property.

If the buyer walks away from the deal within the due diligence period, their earnest money should be refundable.

Most due diligence periods are 10 days, but the timeframe is subjective. It can be any period if both parties agree to the time frame in the purchase agreement.

If an initial due diligence period is accepted by both parties but more time is needed, the purchase agreement would need to include a new amendment that would allow both parties to extend the due diligence period.

We will operate under the assumption the buyer already has figured out their financing method.

Some items in the due diligence checklist for real estate investors should be conducted pre-offer, and others post-offer.

First, we will get into the due diligence that occurs pre-offer and then the due diligence that occurs post-offer, based on the property type.

Everyone has heard the age-old statement that real estate is about location, location, location. It’s said frequently because the location is key for real estate in general.

From an investing perspective, you must understand the area and neighborhood to understand a property’s true value, income potential, and potential returns on investment.

Not understanding an area well enough is a common pitfall in the world of real estate investing.

An investor may think an area is in higher demand than it really is. This would cause them to overestimate rental demand and thus rental amounts, which could then work into an inaccurate financial analysis of the property.

Knowing the area will tell you what similar properties should be getting for rent. This information goes into the financial analysis which we will cover here shortly.

Some things various types of real estate investors will need to consider regarding the location besides rental amounts would be:

• demographics
• crime statistics
• population growth rates

Investors should be looking at proximity to:

• construction/ planned construction projects
• government buildings or schools
• parks, entertainment or recreational areas
• hospitals or doctors’ offices
• airports or public transportation options
• sexual predators
• potential environmental hazards

Thoroughly read the seller’s disclosure statement and any disclosure alternatives such as any reports done by third parties.

The seller’s disclosure statement is the paperwork sellers complete to let potential buyers know about any known defects a property might have currently or may have had in the past and if those things were ever fixed or not.

This statement should cover information regarding the following:

• appliance, heating and other mechanical systems
• sewage system
• private well
• property tax treatment
• methamphetamine disclosure
• carbon monoxide
• environmental concerns
• water intrusion or mold

Buyers need to familiarize themselves with the sellers’ disclosures so they can investigate any potential risks in higher detail to understand how big of a problem something might be and how much money it will actually take to fix the issue.

Often, new investors heavily underestimate the costs associated with fixing problems from both labor and material perspectives.

Buyers should remember that the disclosure statement may not cover every problem within a particular property.

Sellers in most states are only required to disclose latent or hidden defects that might not be apparent during a physical inspection.

Visible defects are often not required to be documented. In addition, there could be other issues the seller might not even be aware of.

However, the seller’s disclosure statement is a good starting point to begin considering how many issues there might be and the costs they might need to plan for.

This information will obviously go into negotiations and the offer price.

Income

Once a buyer understands the area and the seller disclosures, they can then conduct a basic real estate financial analysis.

This will help the investor better understand return on investment and if the projections match against their expectations and allow them to compare the deal to other potential investments.

1. Gross Rent (Total Rent) Multiplier or GRM

GRM = total purchase price/ total annual rent. The lower the number the better the property is at producing income.

For example, a property with a 500k purchase price and 50k annual rent would be a GRM of 10. A property with a purchase price of 900k and annual rent of 75k would be a GRM of 12

The deal with the GRM of 10 would be preferable.

2. One Percent Rule

The one percent rule is a basic measurement where the monthly gross rent should be equal to or greater than 1% of the total purchase price.

For example, at property priced at 330k has a monthly gross rent of $2,800.00

2,800/ 3,300 = .84

.84 < 1 and therefore does not meet the one percent rule.

Buyers can use this basic calculation to determine if a deal should be investigated for further analysis.

3. Capitalization Rate

Cap Rate= NOI (net operating income) / Purchase price

Total annual rent minus all operating expenses (not including debt payment) / Purchase price.

The higher the cap rate the better the ability of a property to produce income.

For example, a property produces annual NOI of 18,000 and the purchase price is 220k

18,000 / 220,000 = 8.18% cap rate

For example, a property produces annual NOI of 25,000 and the purchase price is 420,000

25,000/ 420,000 = 5.9% cap rate

The cap rate is important because it represents the opportunity costs associated with making a real estate investment compared to other investment vehicles.

4. NIAF — Net Income After Financing

NOI – financing costs

This calculation displays roughly how much money will be leftover after the debt is serviced. Again, the higher the number the better investment a property might be.

For example, an 8 unit building produces $7,000 monthly and has a mortgage of $4,000 per month.

$7,000- $4,000= $3,000 NIAF per month or $375.00 per door.

Costs of debt finance can be calculated by using a mortgage calculator.

You would simply plug in the purchase price, the down payment amount, and the interest rate, and any mortgage calculator would give you the cost of debt service on a monthly basis.

5. Cash-on-Cash Return

This calculation helps to determine the return on investment regarding the total amount of cash it takes for the investor to enter the deal.

This amount goes beyond the down payment amount and should include all costs including expected costs of repairs and any closing costs.

Again, the higher the number here the better.

This again is why it is important to understand the costs of repairs: if costs are underestimated, the cash-on-cash return will look higher than what it will be in reality, and therefore look like a better return on investment than the deal is actually capable of producing.

So going off the last example, suppose a property has a NIAF of $3,000.00 per month or $36,000.00 annually. The deal requires the buyer to put a total amount of $280,000.00 down.

$36,000 / $280,000 = 12.85% cash on cash return

This calculation may also be misleading if a buyer is using more debt to finance the purchase and only uses a small % of money to enter the deal.

Therefore, multiple calculations should be used to better understand the overall assumed benefit of the revenue capability of a property.

Equity

Sometimes opportunities may be present within a potential investment property by identifying ways additional equity can be gained.

1. Can additional equity be achieved by purchasing the property at a price below asking price or below the ARV (actual retail value)?
2. Can you make low cost improvements to increase the ARV and force equity through those improvements?
3. Can equity in this property expect to increase faster than other properties? Again, a lot of this comes down to location as properties in better areas tend to experience faster appreciation than those properties in less desirable areas.

For conducting financial analysis easier, professionals often use investment property analysis software such as DealCheck.

Depending on which state you live in, some things may not be required to be disclosed.

But they might be able to be found in a public record search conducted either online, in local libraries or other public information centers such as county or city courthouses or zoning departments.

Does the property have any hazard potential or history? Buyers should consider looking into the following:

1. lead plumbing
2. methamphetamine production
3. radon gas
4. formaldehyde insulation or other chemical foam insulation
5. lead based paint
6. flood zone
7. previous toxic spillage
8. previous landfill site
9. previous fuel storage history
10. previous mining history
11. earthquake history
12. underground pits or ground stability

Are there any neighborhood nuisances?

1. noise
2. odor
3. smoke
4. airports
5. military posts
6. prisons

Did anyone die in the property, or does it have a negative history? In some states sellers are not required to disclose a death if it occurred via:

1. suicide
2. accidental death
3. paranormal activity

It should be noted that natural death is not required to be disclosed in any state. The sellers would only have to disclose if a death occurred within their time of ownership.

Previous deaths or suicides or past histories of paranormal activity from other previous owners would not be required to be disclosed in most states.

So searching public records from multiple sources would be the best way to ensure a buyer is not missing anything from previous owners.

When conducting the physical showing, buyers should be actively looking for issues that might increase their leverage at the bargaining table as well as provide information that might be used to inform a third-party inspector or property appraiser.

There are multiple home inspection software apps that help you carry out the process in an organized and efficient way.

Buyers should look for the following.

Water Staining

Any signs of water staining should be noted whether it be on ceilings, walls or floors. Water intrusion could cause bubbling in the paint or discoloration in the paint.

Cracks

Any signs of cracking in walls or especially foundations. Cracks in foundations especially could be a signal of major foundation issues which are very expensive to repair.

The larger the crack the greater the chance of complications, especially if there are large horizontal cracks or large vertical cracks.

Plumbing

Test the faucets, tubs, showers and toilets to check for proper usage and any signs of leakage or non-performance.

Windows

Test the windows to make sure they all open, close and lock property. Look for signs of condensation between window panes (not between window panes and storm windows).

Freeze Damage

Look for any signs of past freeze damage such as heat tapes or added insulation around pipes in areas that might not be heated.

HVAC

Test HVAC and or heat systems if possible. Listen for any loud noises while systems are in operation.

Roof

Look at the roof for any signs of roof damage or wear that may indicate a roof is older than stated by the seller.

Look for levelness as well. If a roof appears to be sagging down in a certain area, this could indicate a structural issue or past damage due to something like a tree or heavy object hitting it or past ice dam issues or perhaps the roof was not constructed with a proper roof pitch for the area.

For example, in geographical areas with large snowfalls in the winter, a flatter roof might encounter more problems compared to a more pitched roof.

Unpermitted Additions

Look for unpermitted additions because if something was done without a permit, you might be the one that has to fix it and get things back in code with the local municipality.

Musty Odors

Smell for odors as musty smells could mean mold or water leaking issues.

If you smell a chemical smell and the home has spray foam insulation, you’ll want to make a third-party property inspector privy to investigate the odor in more detail.

Try to identify the areas that smell the most and point those things out to the inspector.

Levelness

Check for levelness in the floors and ceilings. If the floors are noticeably not level, this could indicate a foundational or ground settlement issue.

Sagging ceilings with staining could indicate water leakage issues or roof structural integrity problems.

Ground Level

Check the ground level around the property to ensure that the ground level is higher against the property and then slopes away from it.

If the ground slopes down towards the property, this could be a sign of potential water pooling, which could result in flooding or ground saturation around the foundation.

This could also cause foundation issues over time.

Dryness in Exterior Walls

If the house is a stucco exterior, be sure to check for dryness in exterior walls. Sometimes stucco exteriors experience moisture issues which could be very costly to repair.

A third-party inspector can check for dryness and integrity in stucco exteriors if the sellers agree to allow the inspector to conduct an invasive inspection.

You need the owner to allow you to drill several holes into the stucco exterior to test for moisture inside the wall cavity. It’s done with a moisture meter, one of the basic professional home inspector tools.

Go next door and talk to neighbors. Be honest with them and tell them you were considering the purchase of the property near them and let them know you’d appreciate any feedback they might be able to give you.

How has their experience been living next to the property? Do they know anything about the history of the property?

If they owned it, would they change anything about it? Really the more information you get the better.

The neighbors often know a property better than what the current owners can tell you, so be sure not to miss out on this potential treasure trove of information.

PESTLE is an acronym that stands for:

1. political
2. economical
3. social
4. technological
5. legal
6. environmental

Let’s go over each of these stages.

Political

Buyers of investment real estate need to consider the political risk associated with potential investment properties. Each municipality tends to grant different rights to landlords and tenants.

To put things simply, you would rather invest in areas where politics are more pro-business, pro-private property rights and less likely to create red tape, new regulations and hamper profit potential.

What would happen if a municipality might impose rent caps? What would happen if taxes increased drastically?

What are regulation efforts like and how frequently would you be subjected to inspections?

What if a municipality creates an eviction moratorium and you have people not paying and you can’t get rid of them via an eviction?

Economical

The economic situation at the micro neighborhood level is a very important factor to consider when buying investment property.

These factors affect only local markets, which is why real estate investors know every market is different.

Other economical factors are external to the local market and affect all investors nationally.

• What is the median salary within the area where you are looking to purchase your investment property?
• How many businesses are operating in the area?
• Are businesses expanding or contracting?
• Are economic opportunities increasing or decreasing?
• What is the current interest rate direction and how is that increasing or decreasing the weighted average cost of capital?
• What is the unemployment rate of the area?

Social

Social constructs tell you a lot about what is going on in a local market and who is in that local market.

What is the demographic makeup of the area? What is the education level, what is the age makeup and what is the population growth rate? Are there any cultural barriers?

Technological

Technology is always advancing and progressing. This applied to real estate also. Some more than others obviously but technological risks need to be considered.

What is the overall level of technological surveillance in the area? Is it low or high and why is that?

Does the property have any advanced technological factors to consider? If so, what might be the costs of maintaining or repairing that technology?

Is there a security system within the property? Does the property have a solar panel or is it a geothermal capable property?

Legal

There are always legal considerations within any real estate investment purchase, and investors need to make sure they are using a real estate lawyer to help them in the due diligence process.

Are there ordinances that provide restrictive covenants or conditions? Are zoning laws in place that may affect the future use of property?

Are things like fire sprinklers or fire systems required? Are there caps on rental amounts or percentage increases on rents in the future?

Are there any new laws that might soon be passed that would affect the usage or desirability of the property in question?

Environmental

Investment properties exist all over in different geographical locations which have different weather patterns, temperatures, specific indigenous wildlife, and environmental hazards.

Better understanding these factors helps the investor identify potential risks and which ones can be avoided and where to stay in compliance with certain environmental laws or protections.

What is the weather and climate like within the market or investment property in question? How might weather or climate affect the property?

Are there specific environmental policies in place that should be considered? Are local municipalities or non-government organizations influencing decision making regarding environmental concerns and if so, how?

Does the property face any previous environmental issues such as past toxic spills, or fuel storage or a previous landfill site?

Are there any policies that protect certain nearby agricultural areas or wildlife? Are global warming policies in place or are there considerations of carbon tax policies now or in the future?

Have there been previous seismic activity or other natural disaster types of incidents in the area? Is the groundwater clean or polluted?

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We have now concluded the pre-offer real estate investment due diligence checklist. We will assume your offer has been accepted, financing is secured, and loan applications are complete.

The post-offer due diligence steps occur within the due diligence period based on property type.

To learn about the post-offer part of the property due diligence process, read the subsequent articles mentioned in the introduction to this guide.

To help you memorize and avoid missing any of the steps explained above, we prepared a property due diligence checklist .pdf template for you to download for free.

Note that the checklist below contains the post-offer steps too, depending on the type of property you are buying — the ones explained in the articles mentioned in the introduction to this guide.

Download investment property due diligence checklist (PDF template)

After studying the subsequent articles, you may find this process overwhelming and perhaps too detailed. Indeed, some of these steps may not fully apply depending on the property type.

However, if you want to skip any of these steps just for the sake of saving time, I don’t advise you to do this.

As I learned from my over 15-years of experience working at Laker Real Estate Services with residential and commercial real estate investors, trying to make the due diligence process quicker or more affordable often results in discovering problems you can’t afford after closing.

If you find that due diligence requires too much work and time you don’t have, consider hiring a professional.

For a fee, professional local real estate investment consultants will take care of the whole process for you.

Yet, the information given in these articles will serve you: it will help you to make sure the specialist isn’t cutting corners by skipping any of the important stages.

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About the Author

Nate has over 15 years of real estate, asset management, product management and project management experience. He is a licensed Realtor in the state of Minnesota and also owns his own property management company, Laker Real Estate Services.

Nate has an undergraduate degree in Economics from the University of Delaware and an MBA with an HR concentration from Capella University. Nate is also a certified Project Management Professional with the Project Management Institute. He also does volunteer work serving as a board member of his local neighborhood organization where he was selected to lead fundraising efforts.

Nate Morris is a husband to his wonderful wife and a father of three amazing children. His family is his world, and he considers his clients an extended part of his immediate family. He’s thrilled to help his clients however possible and loves creating value for clients where others won’t.

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