A commercial property investment can be lucrative if you purchase the right property. While the residential property market tends to be more stable, commercial properties can round out a portfolio and offer new opportunities. But don’t expect to sit back and watch the money pour in.
Commercial spaces tend to be more expensive, with higher rents and longer leases. However, if their business fails your tenant may default on the rent or close up shop and leave. The most successful investors in the commercial property sector know to do their due diligence and research the business thoroughly before they buy.
If you’re looking to get your feet wet with your first commercial property investment, there are a few things you should consider. Keep these five things in mind if you’re planning to invest in a commercial property.
1. Expect Everything To Take Longer
Everything takes longer with a commercial property investment. Due diligence on a commercial property purchase is months instead of the typical days on residential properties acquisitions. There is more paperwork involved which takes longer to process.
If you’re looking to build, expand, or renovate your commercial property investment, prepare for setbacks. There will undoubtedly be challenges that slow down progress and cause delays. New systems take substantial time to install and introduce before they can start to pay for themselves and permits as well as other government permission can slow down the entire process.
Finding new tenants on a commercial property takes longer too. However, leases are also longer. A commercial lease tends to be from three to five years, generally with the option to renew at the end. On the other hand, a residential lease is typically only for one year after which it usually becomes a month to month lease.
2. Different Property Types Pose A Unique Risk
Commercial properties are typically classified into one of the five main segments which are industrial, office, retail, multifamily, and special purpose. However there are many more typical uses which include farms, medical centers, storage, hotel, or vacant land. When assessing the risk of a commercial property investment it’s important to keep the property type in mind and understand the risks which are inherent to the business.
Two comparable residential properties in the same neighborhood will typically produce the same results. However similar commercial properties can yield dramatically different results even if they are in the same area. The supply and demand can vary greatly from one property type to another and affect the profitability of the investment. Do your research on the performance of business in the sector and be particular as to the property type you would like to invest in.
3. Understand Market Trends And Their Impact On Demand
It’s important to understand the dynamics that affect the demand for the property you are choosing to invest in. Factors such as the economy, unemployment rate, consumer trends, and seasonal changes can affect the profitability of a commercial property investment. Understanding the market trends and cycles can help you make better choices.
Business such as restaurants, grocery stores, bars, and hotels can be greatly affected by seasonal factors. Be prepared that there may be times when such tenants are unable to pay their lease when they are supposed to. Have a plan in place to cover those months while you wait for your tenants to bounce back again.
Consider both the short and long term impacts of e-commerce and telecommuting. These trends are already affecting the profitability of retail and office spaces. Understanding what effect such factors are having can help you avoid buying high and instead allows you to identify opportunities to buy when the market is low.
4. You Might Have To Take A More Active Role
Residential real estate is a fairly passive investment, especially if you’re using the right tools to manage it. If you’re just branching out into your first commercial property investment be ready to take a more active role than you’re used to. If you want to get the most out of your investment you will have to work at it.
The most successful investors in commercial real estate are very active in their role. They are always watching market trends and economic drivers that may affect their business. They keep an eye on new developments, competitors, and supply and demand to ensure that their property is reaching its operational potential and highest yield.
5. A New Take On How You Manage Common Areas
The common areas of a property are the shared spaces and amenities that tenants and visitors share. Residential and commercial property investments may both have common areas for tenants to enjoy. The difference is in how they are managed and who bears the responsibility for the cost of common area maintenance.
For residential properties tenants generally pay a fixed amount which is their monthly rent. Landlords set aside a portion of the rent for renovations and improvements which they feel are necessary. The common areas are viewed as the perks to attract and retain good tenants.
In commercial properties the common areas are often a necessity of conducting business. Many commercial leases include provisions for common area maintenance. The CAM charges can include items such as landscaping, keeping lobbies and hallways clean, or snow removal. Tenants share the responsibility for these charges based on the square footage of their unit and the charges may fluctuate from one month to another.
Commercial properties can be a great investment with good returns but it all starts with the right property. Consider the property type and market trends and do your due diligence on any property you’re thinking about adding to your investment portfolio. Be on the lookout for trends that can affect the return on your investment and stay ahead of the curve.
If you’re new to managing commercial properties, be prepared to take on a more active role than you may be used to. Adjust how you manage common areas and how expenses are allocated. Remember that things take longer in the commercial property business so use the good times to prepare for the less profitable periods. Purchase carefully, manage actively, and enjoy the many benefits of a commercial property investment.