When people consider investing in property, they eventually limit their scope to single residential properties. However, considering just residential property investment, people tend to miss out on a potentially huge opportunity. The income and equity benefits of Commercial Real Estate is much larger, although the risks being involved seem to be higher than that is involved in dealing with residential properties.
Commercial Real Estate – An Overview
Commercial Real Estate (CRE) refers to all the property used exclusively for business purposes to provide a workspace rather than a living space. According to recent trends, commercial real estate is leased to tenants to conduct business. This category of real estate ranges from a single gas station to a huge shopping hub. Commercial real estate includes retailers of all kinds, office spaces, hotels, strip malls, restaurants, and convenience stores.
Categories of Commercial Real Estate
Commercial Real Estate is categorized into four classes depending upon the function:
- Individual spaces are also classified. Office space, for instance, is characterized as Class A, Class B, or Class C.
Class A represents the best buildings in terms of design, age, quality of infrastructure, framework, and location.
Class B buildings are usually the ones that were built much earlier than those of Class A and not as competitively priced as Class A buildings. Investors often target these buildings for restoration.
Buildings grouped under Class C are the oldest, usually over 20 years of age, located in less attractive areas, and need maintenance.
Investing in Commercial Real Estate
Investing in commercial real estate can be a fruitful endeavor, and it serves as a barrier against the ever-changing nature of the stock market. Investors can make returns through property appreciation, but it is to be noted, that most of the returns are reaped through rents.
Investors can use direct investments where they become landlords through the ownership of physical property.
A popular form of indirect investment is investors investing in the commercial market by establishing the ownership of various market securities (collaterals) such as Real Estate Investment Trusts (REITs), exchange-traded funds, or by investing in companies that cater to the commercial real estates market such as the banks and realtors.
Benefits of Commercial Real Estate Investments
Attractive Leasing Rates
One of the most significant advantages of commercial real estate is attractive leasing rates. In the areas where either land or law restricts new construction amounts, commercial real estate can still have appreciable returns and considerable monthly cash flows. Industrial buildings generally rent at a lower rate.
Cash Flow Stability
Commercial real estates also benefit from comparably more extended lease contracts with tenants than residential real estates. This long lease length gives the commercial real estate holder an appreciable amount of cash flow in a stable and consistent period, given that long-term tenants occupy the building.
Excellent Capital Appreciation
In addition to offering a stable and rich source of income, commercial real estate also offers the potential for capital appreciation, as long as the property is well maintained and kept up-to-date.
More Tenants, Less Risk
In a multiple-occupancy building, there is less risk of income loss when it comes to vacancies as other tenants are still contributing to covering the operating costs. This is opposed to vacancies on a single-family residential, which equals a hundred percent income loss.
Unlike stock, bonds, and other forms of investments, commercial real estate promises value both the land itself and its improvements, such as structures, infrastructure, and landscaping. In addition to this, commercial real estate properties are fairly stable: housing, service industries, or storage and production.
Pride of Ownership
Commercial real estate has a pride of ownership element that is nearly impossible to value but is one of the highest among all asset classes. There are great joy and pleasure in knowing that one owns an income-producing property, a piece of the commerce and business activity that drives the economic engine of the nation.
Maintaining a commercial property is a hard, sometimes expensive, and difficult task. The Internal Revenue Service recognizes this, which is why they offer tax incentives to its owners, especially on expenses related to upkeep and maintenance.
Superior Hedge Against Inflation
According to a recent report published by the Global Real Estate Strategy, commercial real estate investments had the highest correlation to inflation compared to other asset classes such as treasuries and corporate bonds. When inflation occurs, the price of real estate will suffer, particularly in properties with multi-tenant assets that have a high ratio of labour and replacement costs.
Another thing that people do not appreciate in residential property investment is the fact it has a lot of competition. Due to their bigger structures, competition can be expected to be less in the commercial real estate market. What is more, is that commercial real estate offers a great variety of different establishments.
Speaking of upkeep and maintenance, people will be pleased to learn that these chores are significantly more comfortable compared to residential property for two reasons:
Clients are also business owners; therefore, more professionalism can be expected from them.
Since most of them are establishments that offer products and services, they will be concerned about maintaining their image and will surely try hard to keep the premises as clean and well-kept as possible.
Like all real estate, commercial real estate often moves in the direction opposite to that of the stock market, thereby making it an effective diversification option to equities in a portfolio.
Investing in commercial real estate is a huge undertaking. But it also offers a lot of benefits. Not only does it have a faster rate of investment, but it also has only fewer risks. The best thing about it, though, is that it is fairly easy to triple its value with just a few tweaks.
CRE Benefits FAQs:
If the investor has available and ready money and if he has the option to invest in both, residential and commercial with his amount of investment, then taking ROI – Return of investment ratio, lower vacancy rates, steady opportunities of cash flow, high grade tenants and much higher income potential into consideration, one must invest in commercial real estate. With the help of a team of experts, Due Diligence can be conducted on the property that he is interested in and proper investigation and verification can be processed before he invests a huge chunk of money in it.
The return of investment of a property entirely depends on the demands that existing the market at that point of time. If the demand for a particular property is, higher will be the return will be much higher. On the other hand, if the demand is low, the returns will be lower too. But the cash flow remains high. To conclude, the strategy used, risk involved, and risk taken will have a direct impact on the return of investment made towards a multi-family or retail property.
The interest rate increase and inflation will be directly compensated with the escalations in the rent of the commercial real estate. This will adjust with the steady flow of cash and income and thus save the investor from any losses and the potential increase in the rates of interest.
Absolute Net means that the tenant who uses the commercial real estate pays for all the incurred expenses. In such a situation the gross value of the CRE will be the same as the absolute value of the CRE which is termed as ‘Absolute Net’.
Yes, there is a downside to investments made into commercial real estate like:
- Time commitment and investment – To invest in CRE is a highly time-consuming process. So, the inconvenience of time and money spent on a thorough look out for the CRE property is quite a lot.
- Professional Help Required – it is not like buying a home, wherein the family looks at the residential property and things are settled, instead this is for commercial purposes which means a number of legal, personal, professional, administrative and infrastructural causes need to be verified and investigated which needs professional help and the burden of it is carried by the investor
- Bigger initial investment by the buyer for which he either needs to partner with many other investors or avail feasible loans and other finance options which increases his debt.
- Risky – As compared to buying general property, buying a Commercial Real Estate is quite risky as it is not for private but for public use. It will be professionally carried out so the costs and risks pertaining to the structure is much higher.