What Is Commercial Real Estate Investing
This is How-To's, How Comes, And What Are's, where we answer the most common questions about commercial real estate asked around Orange County.
Today's question is:
What is Commercial Real Estate Investing?
This question comes from a first-time investor wondering what it means to invest in commercial real estate, and how it differs from investing in residential properties.
What's The Difference Between RE & CRE?
When you think of investing in real estate, most people tend to consider purchasing a home, sitting on the compounding appreciation for 5-7 years, and then selling. Rinse & repeat a few times, and boom, real estate wealth has been achieved. This isn't a bad way to go about investing in most areas across the U.S., as appreciation tends to grow in increments of 3-5% a year and when compounded, it can add up pretty quickly. However, we don't consider the expenses that inevitably work their way into the costs of maintaining that home. You can already list several recurring costs in your head, so we don't need to go making a list to save us some time there.
Commercial Real Estate Investing operates in a similar way, however, investors keep track of every dollar put in and taken out of the property at all times. That way, at the end of the year, they can discover the true net income generated from their investment. Additionally, investors will be purchasing properties outside the scope of what most people are used to. Office buildings, warehouses, apartment buildings, etc. Each building has its own unique pros & cons, and because this is just an introduction article, we won't go into that for now.
How Do You Make Money In Commercial Real Estate?
Tenants. They are the lifeblood of commercial real estate. You own a gorgeous commercial building and make sure it's up to the standard any working person will expect, and in return, businesses/tenants will rent it out from you. The rental length will vary by industry, but you can expect 1-year leases from apartment tenants, to up to 25+ years for big-box retailers like grocery stores, hospitals, franchisees, etc.
Your goal is to purchase and maintain a prime piece of real estate in high-traffic areas within a city, and/or near optimal transportation routes such as freeways, docks, airstrips, etc. That way, you can charge a premium rent each month, and after accounting for expenses, you can generate a healthy return for your troubles.
On top of generating revenue from rents, you still enjoy the same compounding appreciation you normally anticipate from just owning the property. When executed successfully, it isn't uncommon for investors to pull 20%+ returns from just a few years of holding deals.
Annualized rental returns are known as Capitalization rates or CAP rates. CAP rates can vary drastically, but most investors expect anywhere from 3-10% depending on location & the asset type.
How Do You Finance Commercial Real Estate?
This is the difficult part. You need a lot of money, a good lender, and an understanding of debt leverage. Commercial lenders require you to finance 20% of the deal, minimum. Expect to need 25-30% before going into most deals.
The good news is commercial financing is pretty flexible. You have the ability to obtain loan-to-cost (LTC) financing which is a loan that allows borrowers (you) to add renovation costs into the loan. So, if you were interested in buying that dumpy diamond in the rough property but needed financing to cover the renovation costs, lenders will be more than happy to work with you.
You can also create a fund and allocate money from friends, business partners, or anyone really, and use the combined buying power to finance a property.
You can also invest in a syndication. You would act as a passive investor, allow property managers to run the investment for you, and reap the rewards of their actions until the sale of the property. Your share of the profits would be equal to your stake in the property.
What Else Is There To Know?
A lot. Commercial Real Estate is a very complex industry, and it takes a lot of studying, research, and teamwork to execute a successful deal. Visit the blog to read up on the latest commercial estate tips, news, and ideas.
You can also schedule a free 15-minute phone call with Wyatt to get introduced to one of Orange County's most trusted names in Commercial Real Estate and talk shop, ask questions, and keep in touch with someone who can answer any of your questions.