If you’re new to the world of commercial real estate investing, CXRE wants to help you make the best decisions for your portfolio and your life. Should you buy an industrial property? Invest in multifamily housing? Buy shares of a real estate investment trust? Here, we’re providing tips for new CRE investors, helping you navigate commercial real estate purchases.
- What is Commercial Real Estate?
- Types of Commercial Real Estate Investing
- Commercial Real Estate Investing: Why It’s a Great Idea
- The Challenges of Commercial Real Estate Investing
- Tips for New CRE Investors: How to Invest in Commercial Real Estate
What is Commercial Real Estate?
Commercial Real Estate, or CRE, is any investment property purchased to supply income for the owner by leasing to tenants.
Commercial real estate investing covers a wide range of properties: residential duplexes, large apartment complexes, multi-story office buildings, small co-working spaces, strip malls, convenience stores, medical offices, factories, and more.
Types of Commercial Real Estate Investing
CRE properties generally fall into four main categories:
Multifamily commercial real estate includes two or more residential properties owned by an outside investor. Each unit houses an individual tenant or family. The owner/investor is responsible for maintenance, leasing, and general management of the property.
For investors with limited capital, multifamily real estate is a great way to start a CRE investing portfolio. Investors can secure financing more easily than with other CRE property types, and the closing process is usually faster, too.
Multifamily real estate investors often start with a small number of properties, then use tax advantages such as a 1031 Exchange to trade up to larger, more lucrative investments. Over time, multifamily investing builds wealth that can be passed down to other generations.
Office properties are popular with CRE investors. These properties vary, ranging from a small, single building intended for a startup to multi-story office buildings leased by large corporations.
No matter what type of office property you buy, it’s essential to know how to invest in commercial real estate wisely.
Office Value vs. Residential Value
When you buy residential property, the value is based on comparable sales in the same area. That is, whether occupied or empty, a residential property’s value will be the same. When you buy commercial real estate, specifically office property, it’s a different story.
An office building’s value is based on its earning potential and occupancy rates. Therefore, an office space with a 90% vacancy will have very little value compared to a nearly-full office building leased by a successful corporation.
Types of Office Real Estate
Office buildings come in many sizes. There are low rise, mid-rise, and high rise office buildings, so named because of their perspective sizes and available space. There are also standard office buildings, where one company leases an entire floor. Then, there are “office condos,” where one building is sectioned off into many smaller office areas – “condos” – for small businesses or start-ups.
When investing in office real estate, the trick is to know your investment goals, understand the local economy and projected job growth, and have enough capital to purchase a high-earning property.
Industrial properties are any property used for manufacturing, warehousing, producing, or selling large-quantity goods. Such properties include warehouses, factories, logistical centers, or research and development facilities.
National Real Estate Investor predicts we will see continued growth in the industrial CRE sector. As e-commerce continues to grow in popularity, more companies seek large spaces where they can manufacture, store, and ship products quickly.
These properties are generally less expensive to purchase and maintain thanks to their stripped-down construction. Therefore, investors are flocking to the industrial market as gains increase. The one downfall? Industrial CRE appeals to a very specific tenant, so leasing can be a challenge.
Retail real estate includes any property where a business sells its goods. This might include grocery stores, strip malls, shopping centers, or single spaces for small businesses. Essentially, an investor purchases the retail space, and a business owner leases that space from the owner.
In the age of e-commerce, these brick and mortar stores are becoming increasingly less valuable. But many investors aren’t giving up on retail real estate investing. It’s a diverse market, and as such, has a wide range of potential tenants.
Realtor Magazine predicts resiliency in the retail CRE market. And thanks to the asset class’s high return rate, investing in retail real estate can be a lucrative prospect.
Commercial Real Estate Investing: Why It’s a Great Idea
Simply put, when you buy commercial property, you’re setting yourself up for long-term wealth.
Large Returns and Long Leases
While CRE investing does take significant capital upfront, the returns compared to residential real estate investing are incredible. Plus, commercial property owners enjoy longer lease terms with tenants. It’s not uncommon for a reputable tenant to stay in one location for years, or even decades. Such a lease term would be unheard of in the residential market.
Guard Against Stock Market Volatility
Many investors choose commercial real estate as a way to protect their portfolios from the volatility of the stock market. When the market inevitably faces a downturn, commercial real estate will still provide a steady stream of income. It’s a long-term wealth-building strategy for many real estate investors.
In addition to a steady cash stream and long-term tenants, commercial real estate can also have a high rate of appreciation. If the property sees continually low vacancy rates, profitable rents, and regular maintenance and upgrades, the property should increase in value at a higher rate than a residential property would.
The Challenges of Commercial Real Estate Investing
Like any real estate investment, CRE properties have risks along with the rewards. While CRE properties have the potential for huge profits, they also represent an increased financial risk.
Potential Risks of CRE Investments:
- Significant Financial Investment. Commercial real estate investing requires more capital upfront than residential properties.
- Rules and Regulations. CRE investment is subject to increased government oversight, tax considerations, and complicated regulations for property owners. Working with an experienced broker and property management company can help you navigate these legal considerations.
- Longer Vacancy Times. While tenants tend to stay in a commercial property longer than residential tenants, it can take longer to find a new tenant. That is, if a commercial tenant leaves, your property could sit empty for months or even years.
- High Renovation Costs. When you do find the perfect tenant, you could be facing tens of thousands of dollars in renovation costs to accommodate your tenant’s needs. While you may be able to negotiate renovation costs into a lease agreement, you’ll likely be footing at least some of the bill for any necessary repairs, changes, or upgrades.
Tips for New CRE Investors: How to Invest in Commercial Real Estate
1. Secure Financing
First and foremost, make sure you’re secure financially before you invest in commercial real estate. Several CRE types require significant financial investment, so you must have funding secured upfront. It’s possible to obtain a loan for a commercial property. But these loans typically require large down payments and shorter repayment terms than residential mortgages.
There are ways to invest in real estate without being the sole financier. Options like real estate investment trusts (REITs), limited partnerships, and crowdfunding platforms allow individuals to invest in commercial real estate with limited capital. However, before you invest in any of these options, be sure to do your research and make sure it’s a legitimate source.
2. Do Your Due Diligence
Just as with all real estate purchases, when you buy a commercial property, it’s your responsibility to ensure that property is a good investment. “Due diligence” includes three main aspects: physical inspection, financial review, and legal inquiries.
While some investors choose to perform due diligence on their own, many buyers work closely with a CRE investment expert or CRE broker who can conduct due diligence on their behalf. At CXRE, our experienced and professional experts can identify potential properties, inspect each one, and match you with a property that will be the best fit for your financial and personal goals. We’ll show you how to invest in commercial real estate, and where to find the best properties to meet your financial goals.
- Physical Inspection
Inspect the property for any physical damage. During this process, you’ll discover what renovations, repairs, and improvements need to be made before renting the property. Use these findings to determine whether the building is worth the investment, considering all the renovation and repair costs.
- Financial Review
During this part of the due diligence process, you’ll want to hire an experienced real estate accountant with CRE investment experience. This professional can evaluate a property’s past returns, the potential for future profit, and the tax benefits for owning the property. Make sure the property will be a financial asset and not a liability.
- Legal Inquiries
Legal inquiries should be conducted by a real estate attorney or reputable title company. During this process, your representative will ensure the title is accurate. Your representative will also ensure there aren’t any legal claims against the property, and that there aren’t any special use guidelines that might affect the sale.
3. Know How to Protect Yourself and Your Assets
For commercial real estate property owners – particularly those new to investing – it’s crucial to protect not only your properties but all of your financial and physical assets. Unfortunately, CRE investors are at an increased risk of lawsuits. Because of this, you should protect yourself by forming an LLC or establishing other legal protections. For more information, see our asset protection planning guide here.
4. Focus on One CRE Type at a Time
It’s tempting to invest in assets from multiple CRE categories at one time. But the best way to become an expert is to stick to one type of CRE. As a new CRE investor, you’ll want to master one type of CRE property before moving on to the others. Think about your interests, your goals, and the local market, and choose the investment type that best suits you and your portfolio.
Learning how to invest in commercial real estate takes time and experience. You won’t get rich overnight; investing takes time, patience, and practice.
5. Know the Market
Before you invest, do your research. Most markets have ample data revealing vacancy rates, average rental prices, lengths of a lease, and more. If you can’t find this data on your own, contact a reputable broker who can help you identify properties that will be the most profitable.
Also, examine the economy and job market in your local area. Where is the most significant growth? Is industry ramping up this quarter? Are retail jobs down? Is there a new business coming to town? Does your area need more multifamily housing units? By researching the economic trends, you can make smart decisions that will show substantial returns in the years ahead.
6. Have a Plan for Leasing and Property Management
At CXRE, we manage your investment properties from start to finish.
While some investors make property investing and management a full-time job, new investors are probably years away from quitting their 9 to 5. Therefore, you’ll have to hire someone to help you find high-quality tenants, get them into your property quickly, and keep them there long-term.
At CXRE, we manage your investment properties from start to finish. We will help you identify available listings and navigate the purchasing process. But our expert property management team will also handle tenant applications, leasing terms, and long-term property management.
We work hard to keep your tenants satisfied. And by doing so, we keep your investment performing at its best. Protect your investments by partnering with a professional property management company that always puts your investments and your tenant’s satisfaction first.
7. Be Patient
Patience is critical when learning how to invest in commercial real estate. Just about every part of commercial real estate takes longer than residential investing. It will take longer to identify a property. You’ll also wait longer for inspections, lender approvals, and other due diligence. Renovations take longer due to size and scope. And it could take longer to find a reliable tenant than with residential investing.
Moreover, when your tenant leaves, it could take months, or even years, to find a new tenant or sell your property. Therefore, having an abundance of patience – along with a healthy stock of cash – will increase your chances of success.
8. Consult the Professionals
You don’t have to do this alone. Nor should you. Find a mentor who can walk you through the CRE investing process. Read books, listen to podcasts, and subscribe to blogs and online news.
When you’re ready to invest in commercial real estate, the pros at CXRE can help identify, purchase, renovate, lease, and manage your properties. Don’t take chances with your investments. Let us take the work out of investing, so you can sit back and enjoy the profits without the stress.