What is Proof of Funds?
Proof of Funds (POF) refers to documentation – typically in the form of a letter – confirming that a buyer has sufficient funds to complete the transaction.
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How the Proof of Funds Letter Works in Real Estate
The proof of funds document verifies the legitimacy of a purchase offer by demonstrating that the potential buyer has sufficient funds to execute the deal.
To provide a simple illustration, imagine that you are purchasing a house and need to secure a mortgage.
Upon expressing your interest in buying the home, the subsequent step is to provide certain documentation requested by the seller.
Sellers often request a POF letter to ensure the buyer has enough cash available to cover the purchase costs of the home, which can include:
- Down Payment
- Escrow
- Closing Costs
Unless the buyer can prove it has adequate cash, the seller is unlikely to proceed with the sale process.
Here, the buyer would likely share documentation such as:
- Recent Bank Statements
- Letter of Recommendation from Previous Landlords
- Signed Letter from Bank on Liquid Funds Available
- Background Check from Credit Agency
The buyer’s credibility can be assessed by the seller using these documents to eventually determine if the purchase offer is viable.
What is the Role of a Proof of Funds Letter in M&A?
In M&A transactions, a proof of funds letter is conceptually similar but can be much more complex with more moving pieces.
When purchasing a home, a POF letter can be as simple as a bank statement showing the buyer’s account balance. However, in M&A deals where entire companies are purchased, funding often comes from third-party lenders of debt financing.
Hence, this process is much more formalized and time-consuming compared to simpler residential real estate deals (e.g. single-family homes, multifamily homes).
In practically all M&A transactions, there will be an investment bank providing advisory services to the seller – which is called sell-side M&A.
Moreover, upon compiling a buyer list (i.e. the potential acquirers that have expressed interest in participating in the sale process), the investment bank is also responsible for vetting each buyer’s profile, namely its ability to pay.
Similar to the seller of a home, the investment bank seeks to trim the list and filter out any buyers with:
- Inadequate Funding (e.g. Minimal Deployable Capital)
- Bad Creditability (i.e. History of Incomplete Deals)
- No Tangible Progress in Proof of Financing (e.g. Commitment Letters)