Commercial Vs. Residential Real Estate Investing

Commercial Real Estate
Commercial real estate is generally land or buildings intended to generate a profit. Commercial real estate is frequently referred to as investment or income property. Commercial real estate also includes rental residences or properties housing five or more units. However, most commercial real estate is office and retail space and industrial-type buildings. Commercial real estate investing tends to draw in people with much money and business experience or education.

What Is a “Commercial Property?”
Commercial properties may refer to:
•Retail buildings
•Office buildings
•Warehouses
•Industrial buildings
•Apartment buildings
•“Mixed use” buildings, where the property may have a mix, such as retail, office and apartments.

Positive Reasons to Invest in Commercial Property
Here are some of the pros of buying commercial real estate over residential property.
Income potential. The best reason to invest in commercial over residential rentals is the earning potential. Commercial properties generally have an annual return off the purchase price between 6% and 12%, depending on the area, which is a much higher range than typically exists for single family home properties (1% to 4% at best).
Triple net leases. There are variations to triple net leases, but the general concept is that you as the property owner do not have to pay any expenses on the property (as would be the case with residential real estate). The lessee handles all property expenses directly, including real estate taxes. The only expense you’ll have to pay is your mortgage. Companies like Walgreens, CVS, and Starbucks typically sign these types of leases, as they want to maintain a look and feel in keeping with their brand, so they manage those costs, and you as an investor get to have one of the lowest maintenance income producers for your money. Strip malls have a variety of net leases and triple nets are not usually done with smaller businesses, but these lease types are optimal and you can’t get them with residential properties.

The Downside of Investing in Commercial Property
While there are many positive reasons to invest in commercial real estate over residential, there are also negative issues to consider.
Time commitment. If you own a commercial retail building with five tenants, or even just a few, you have more to manage than you do with a residential investment. You can’t be an absentee landlord and maximize the return on your investment. With commercial, you are likely dealing with multiple leases, annual CAM adjustments (Common Area Maintenance costs that tenants are responsible for), more maintenance issues, and public safety concerns. In a nutshell, you have more to manage; and just as your tenants have to worry about the public eye, you do as well.
Bigger initial investment. Acquiring a commercial property typically requires more capital up front than acquiring a residential rental in the same area, so it’s often more difficult to get your foot in the door. Once you’ve acquired a commercial property, you can expect some large capital expenditures to follow. Your property might be humming along for a few months and wham, here comes a $10,000 bill to address roofing repairs or a new furnace. With more customers there are more facilities to maintain and therefore more costs. What you hope is that the gains in revenue outweigh the gains in costs, to support purchasing a commercial property over a residential one.

Residential Real Estate
All single-family type homes and one-to-four-family rental residences are considered residential real estate. Condominiums and cooperative units are also included in the residential real estate category for investment purposes. Many people invest in residential real estate by buying homes or similar rental properties and then becoming landlords or even house “flippers.” Flipping a house is simply buying it at a low price and selling it at a higher price, usually after fixing it up a bit.

What Is a “Residential Property?”
Commercial properties may refer to:
•Condominiums
•Investment Properties
•Manufactured Homes
•Multi-Unit Properties
•Second Homes (Vacation Homes)
•Single-Family Residences
•Townhouses

Investing in Residential
Relatively low start-up costs make it so almost anyone can go into residential real estate investing. If you’re investing in residential real estate to flip it, you make your income on the profit margin between your purchase price and your sale price. However, many people buy residential real estate and become landlords because it’s relatively easy to find paying tenants. On the downside, residential real estate investing may mean you’ll be experiencing landlord property management responsibilities, deadbeat tenants and other issues.

Depth of Involvement
Your required depth of involvement in real estate investing depends on whether you intend to flip the property or become a long-term investor or landlord. Many house flippers are buying homes, fixing them up on weekends and then reselling them. Commercial real estate investing itself can be a bit exotic, with purchase and leasing deal language that’s equally exotic. Though it usually requires more hands-on attention, residential real estate is easier to not only finance but also to manage.

Seller Financing
Owner financing is available with both residential and commercial real estate. Due to the higher down payment requirements for commercial loans, a buyer may turn to seller-assisted financing to help offset these requirements, or, in some cases, eliminating the down payment requirement completely. With residential real estate, which is typically in higher demand, seller-assisted financing is more common with distressed properties, to provide an added incentive for buyers.

Bank Size
If you are new to commercial property investing, staying with smaller, local banks where you can make a personal case for why the bank should make your loan will make the process easier. Local banks may have more of an interest in investing in your local community, and the economic development that local commercial investment brings.

© 2014 AngMar Realty, an AngMar Company.