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NGExpert financial copywriter
Page written by Chris Godfrey. Last reviewed on August 29, 2024. Next review due October 1, 2025.
While there are few sure things with anything, putting your money into commercial property – where returns can be high and cash flow strong – may be a successful investment strategy.
The term ‘commercial real estate (CRE)’ refers to properties that are utilized for business purposes and are primarily leased out to tenants who use them for income-generating activities. The scope of commercial real estate is very broad and can encompass a wide range of property types, from small individual storefronts and large shopping malls, to factories, office blocks, gas stations, theaters and more.
Investing in commercial real estate requires thorough due diligence and careful analysis of the factors that may determine success or failure. Of these factors, location is paramount, as this can significantly affect property value and utility. For instance, a plot in a major city center may be ideal for an apartment building or retail space but will be unsuitable for a factory.
Understanding zoning laws is also crucial, as they define permissible property uses and may limit the number of units in an apartment complex or the required parking spaces per unit. Market trend analysis will help you to determine need and rental potential – a growing population in the targeted area indicates rising real estate demand, while a declining demographic could hinder investment success.
Lastly, your financial assessment should include detailed calculation of initial capital requirements, ongoing expenses, and revenue strategies, whether from capital appreciation or rental income. Consider tenant turnover and interest rate changes. Above all, pay attention to the small stuff. Detailed financial planning and strict adherence to a budget are key elements of any successful investment strategy.
It can be. Commercial real estate has the potential to generate good returns on investment (ROI) and strong monthly cash flows. However, investing in commercial real estate comes with risks, especially for entrepreneurs who invest directly by buying or building commercial space, leasing it to tenants, and managing the properties. Sudden changes in the real estate market, a slow economy, or the default of a major tenant could leave investors on the hook for large debts and limited or no rental income to pay them with.
A good ROI depends on your investment options, financial goals, tax situation, and risk tolerance. Higher risk can yield higher returns, while cautious investors may prefer lower, more certain ROIs. Many CRE investors aim to meet or exceed the performance of a major stock index such as the S&P 500, where the historical average annual return is approximately 10%.
To attract external investment to your CRE project, a minimum of 8% annual cash-on-cash return (CCR) is essential, although 10%-12% would be much better. More important is the annual internal rate of return (IRR). Calculating IRR includes income from operations and appreciation combined. Commercial properties almost always earn more from appreciation (their rising value) than they do from operations.
Investing in commercial real estate has advantages and disadvantages:
Pros:
Cons:
Commercial real estate often may have different tax implications than other investments. For example, in the US, commercial properties depreciate over 39 years, compared to 27.5 years for residential properties. This means smaller annual tax deductions. Additionally, selling commercial property will often incur capital gains tax in the sale year without the option of deferrals.
On the plus side, some states and jurisdictions may offer tax incentives for commercial properties. This can include lower rates or tax credits that are designed to encourage business development, especially in designated areas.
Like most other financial strategies, tax rules and regulations for commercial property investment can be complex for anyone other than an accountant. Talking to a tax professional is therefore strongly advised before investing in commercial real estate.
It rarely makes sense to buy commercial real estate with cash. Instead, most business owners, investors and real estate developers will use a mix of cash and a commercial mortgage to buy the property they need. The benefits of this strategy are multiple – it reduces strain on cash flow, protects cash reserves, and may give the borrower the option of buying more property if they can meet lender credit requirements and demonstrate their ability to meet scheduled loan payments.
Commercial mortgages can be obtained by approaching banks, credit unions and online lenders one by one, or you could use the services of a loan marketplace that will immediately introduce you to a choice of real estate loans from different lenders. Some marketplace platforms can also give you advice and help you with the application process. This can be especially useful for borrowers who have never taken out a commercial mortgage before.
For a commercial mortgage or any type of business loan, working with business finance experts can make all the difference when applying for funding. Contact Swoop to discuss your borrowing needs, get help with your application and to compare high-quality commercial mortgages and business loans from a choice of lenders. Stake your claim to US commercial real estate. Register with Swoop today.
Written by
Chris is a freelance copywriter and content creator. He has been active in the marketing, advertising, and publishing industries for more than twenty-five years. Writing for Wells Fargo Bank, Visa, Experian, Ebay, Flywire, insurers and pension funds, his words have appeared online and in print to inform, entertain and explain the complex world of US consumer and business finance.
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