A commercial property is a good investment option that can frequently offer higher rewards in comparison to some residential investments. The lease tenures in commercial property are typically longer and can increase by four percent or more each year or as per the consumer price index (CPI). Moreover, when commercial tenants run their business in your property, they clean, renovate, and maintain it regularly.
Though investing in a commercial property offers a world of benefits and opportunities, it isn’t devoid of risks. Therefore, the investor has to be aware of and must analyze a variety of factors before making an investment.
Here are six tips that will help you get a better understanding of the commercial real estate space and enable you to invest sensibly in this domain.
1. Calculate the Return on Investment of the Property
When conducting any type of business, you would ideally like to understand the profits accrued from the deal. Similarly, when investing in a commercial property, check the potential yield it will fetch in the future.
In simple words, the yield is the annual return on the capital investment you make and is expressed as a percentage of the capital value. As the name suggests, the gross yield is the income received before deducting expenses and the net yield is the final return on investment post deduction of the outflow. Real estate firms and financial advisors recommend shortlisting properties that promise a net yield of seven to ten percent.
The gross and net yields of the property can be determined as follows –
- Gross Yield = Estimated Annual Rent/Total Value of the Property
- Net Yield = (Estimated Annual Rent – Functional costs)/Total Value of the Property
2. Get a Grip on Your Local Real Estate Market
It is crucial to have knowledge of the real estate market before investing in a property. Research well and get in touch with other commercial investors and local realtors who can assist you in evaluating the property in question.
For instance, if you reside in Denver and are unfamiliar with the local property market, seek advice from well-known commercial real estate companies in Denver.
Professional realtors are well-versed on the dynamics of the property market. They can guide you on the local regulations and the hidden costs associated with investing in a commercial property.
3. Get a Crash Course on Commercial Real Estate Terminologies
The complicated terminologies used in the field of commercial real estate can baffle even a seasoned investor.
Therefore, apart from acquiring knowledge about the sector, you must get acquainted with terms like cap rate, gross/net operating income, appreciation potential, cost of occupancy, and several others.
When explained properly, these terms are fairly easy to understand and will go a long way in helping you make the right investment decision. You can download real estate dictionary applications that can help you understand the meaning of the commonly used terms in this field.
4. Do a Thorough Background Research
Before investing in a commercial property, research well to make a sensible decision. Gain knowledge about the property transactions done in the area and use this data to gauge the value and future potential of your property. Zillow is a real estate database that empowers real estate investors and realtors with data on properties bought, sold, or leased in a specific area.
Check the property’s permit data online or by visiting the local municipal office. Take a look at the local deeds registry to estimate the last sales price and to check for liens on the property, if any.
Other documents to verify before investing are the sales deed, the building approval plan, and the tax-paid receipts.
5. Weigh the Financial Aspects before Investing
Before investing in a business property, get your finances in order. Talk to banks and private lenders about your investment budget and check the loan amount you qualify for. Banks will generally offer you a loan only on the basis of legitimate financial statements and the evidence that the business will generate profits.
Your business partner too can help you with the amount required to purchase the property. If you and your partner apply for a loan jointly, opt for a non-recourse loan which is secured by collateral and doesn’t hold you personally liable to pay the entire amount.
For instance, if you and your partner decide to part ways and you default in your loan repayment, the bank will seize the collateral (the commercial property), but cannot ask you for any further compensation if the property does not cover the principal and interest amount.
The tax implications in the commercial real estate space can also be extremely tricky. Consult a financial advisor or an accountant who can guide you on tax matters and advise you if the purchase should be declared as a personal or corporate transaction.
6. Pay Attention to the Demographics
Though the location of a property is crucial to a business, other demographic factors also contribute to the success of a commercial real estate investment. The area where the property is located must have a healthy traffic flow and should be easy to locate to encourage an active inflow of customers.
Assessing the spending potential of the people residing in and/or visiting the area will help you decide whether or not the property is suitable for conducting different types of businesses. For instance, if the neighborhood comprises middle-class or upper-middle class families, it makes sense to introduce a restaurant, convenience store, hobby class, office, or even a consultancy firm in that area.
Lastly, check the parking arrangements in the vicinity; inadequate parking space can discourage customers from visiting the property.
Investing in a commercial real estate asset is a costly undertaking. Take time to make a decision. You need not buy the first property you see merely because the location seems good and you have the capital to purchase it. The aforementioned tips will give you the right perspectives on investing in a commercial property and help you strike a profitable deal.