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Despite the serious effects of the COVID-19 pandemic on the hospitality industry, the purchase and sale of hotel, resort and other hospitality properties continued apace during the pandemic and has shown no sign of slackening to date. However, the pandemic complicated some aspects of the acquisitions market for hospitality properties. For instance, there was increased uncertainty about the future cash flows and profitability of hospitality properties once pandemic restrictions were lifted and customers could travel again. The prolonged closure of hospitality properties created questions about the physical plant and workforce of hotels and resorts, including issues of deferred maintenance of the facilities. And the proliferation of plans to convert all or portions of hospitality properties to other uses led to increased risk awareness on the part of buyers in how they approached negotiations.
Because of this increasing uncertainty, potential buyers of hospitality properties face a larger share of unknown risks in acquiring hotels and resorts than was the norm prior to the pandemic. Motivated buyers try to mitigate those risks by using escrow arrangements in the course of the purchase and sale transaction. Typically, this involves withholding a portion of the purchase price from the seller at closing and placing the funds into an escrow account with a third-party agent, such as a title insurance or trust company. The funds remain with the escrow agent for a specified period and are used to cover general or specific post-closing liabilities associated with the property. Any escrowed funds remaining after the expiration of the post-closing escrow period are released to the seller.
During the past several years, purchase price escrows have been used in the following kinds of deals involving hospitality properties:
- Properties that need post-closing repairs due to pandemic-related deferred maintenance or new governmental regulations
- Situations where the purchaser assumes obligations relating to formerly furloughed employees and cannot be certain of the costs of such obligations
- Instances of property being transitioned to a different, non-hospitality use when the potential liabilities from the transition are unclear to the parties
The principal benefit of such escrow holdback arrangements is that they can facilitate closing where the parties to an acquisition are unsure of the actual risks associated with the property. For a buyer, an escrow arrangement allows them to close and implement their plans for the hospitality property with a dedicated fund established to cover potential expenses or liabilities. For a seller, an escrow arrangement allows the property to be transferred with a portion of the purchase price set aside for future claims. In either case, closing escrow arrangements have helped parties close deals for hospitality properties in a still-uncertain time for the industry.
- Various scenarios in the purchase and sale of hotels may require a portion of the purchase price to be placed in escrow.
- Common escrow situations include the need for post-closing repairs, addressing unknown liabilities and covering potential employee claims.
- Depositing a portion of the purchase price into escrow can facilitate closing the purchase and sale of a hotel property by better allocating the risk between the parties.