Putting money in commercial real estate investing is an excellent way to build wealth. A well-chosen and well-managed commercial property investment can provide a sizeable and reliable income stream.
But if you’re a beginner, the industry can be quite intimidating—from the jargon to the high capital requirement to get things going. This is why we’ve put together this comprehensive commercial real estate for beginners.
In this blog, we’ll answer some of the main questions asked by those just starting. How does real estate investing work? How much capital do I need—and where do I get it?
How do I assess if a specific property is a good deal? If you are serious about growing your wealth and would like to know how to invest in commercial real estate, this guide will be useful.
Let’s start with the most basic:
Before we discuss the mechanics of how real estate investing works, let’s talk about the various kinds of commercial property assets. This can help you start pondering on what asset type you may want to specialize in.
The term “commercial real estate” or CRE typically refers to properties leased out for retail and other business purposes. CRE properties can serve a wide range of purposes, but they are generally categorized into the following
Perhaps the most popular type of CRE property is retail buildings. These range from community retail centers and strip malls to restaurants and banks. They are located in highly populated and urbanized areas, with sizes ranging from as small as 5,000 square feet to 350,000 square feet and more.
Warehouses and large manufacturing sites are categorized as industrial buildings. They are typically leased out or sold to manufacturing industries looking for structures that meet their height specifications and docking requirements, among other needs.
Office properties can be as big as skyscrapers or as small as single-tenant offices. They subcategorized into Class A, B, or C.
Class A offices are either extensively renovated or newly built buildings in excellent locations with access to transport and other major. These properties are usually professionally managed.
Class B offices refer to older buildings that may require minor renovations and other kinds of capital investment. They are generally well-managed and maintained but can benefit from minor upgrades, making them quite popular for investors looking to fix and sell for a higher price.
Class C offices lend themselves to redevelopment opportunities. Their vacancy rates are typically high. Many of these buildings are poorly located and also require major capital investments because of outdated infrastructure.
Multifamily commercial properties refer to high-rise condominium units, apartment complexes, and apartments with more than four units (anything smaller is not considered commercial real estate).
Many investors who start with residential properties eventually expand into larger multifamily buildings, thereby adding CRE to their portfolios. There are many opportunities in this sector, too.
However, residential lease terms are usually shorter than retail and office lease terms. Turnover should certainly be considered when investing in this asset class.
Special purpose commercial properties are built for very specific uses, so it may be hard to repurpose them for another use. Examples include car washes, schools, and self-storage facilities.
A large portion of this asset class is represented by the leisure and tourism industry, too. Hotels, sports stadiums, amusement parks, and airports all fall under this category.
Mixed-use properties have become prevalent in the CRE industry and continue to grow. These assets mix residential, retail, and sometimes even public sector usage. A good example of a mixed-use property is a building with shopping on the first floor and apartment units upstairs.
Raw land purchased for commercial development is also considered a CRE property. This may include vacant land, farmland, or land being repurposed.
Commercial real estate investing involves buying and/or developing properties designed for commercial tenants. Unlike residential real estate investors who lease out to people, CRE investors collect rent from businesses occupying space in their commercial properties.
Learning how to invest in commercial real estate can be rewarding not just financially but also personally. Investing in CRE can grow and secure your wealth while diversifying your portfolio and even allowing you to enjoy tax benefits.
Just as there are benefits to owning a commercial property, there are also some drawbacks. It’s important to be aware of them so that you can take the necessary precautions.
Do note that the disadvantages described below are generalities. Each potential commercial property has unique traits that have to be analyzed on their own merits.
As you can see, CRE investments offer an array of advantages, opportunities, and drawbacks that make it unique from other property classes.
Now that you understand what you can potentially gain or lose from commercial real estate investing, it’s time to dive in. Read on to find out how to invest in commercial real estate.
Due diligence is at the core of any investing activity, and it’s even more important in CRE. Doing your homework is the most critical element in succeeding in this niche.
Commercial properties are evaluated differently from residential real estate. Unlike in residential properties, the income from CRE is typically associated with “usable” square footage.
Moreover, commercial investors need to pay close attention to the type of tenant they will be catering to and the property’s location. The intersection of these two factors determines demand. For example, a building intended to serve as corporate offices will likely perform better in a dense urban center instead of a primarily residential neighborhood.
Analyzing comparable or comps means looking at commercial properties similar to the one you want to buy in terms of size, style, and location and find out how much they sold for, and/or how much they rent for. Analyzing comps is a great way to determine a commercial asset’s current market value and income potential. When comparing, be sure to choose a CRE property whose square footage is no more than 10% lower or higher than that of the asset you want to evaluate.
CRE investing involves a lot of calculations and a good understanding of property finance. There are many CRE financing formulas to study (see our previous blog), but beginners generally have to focus on these three:
The above formulas complement our guide to “Key Commercial Real Estate Investment Terminologies” that every CRE investor should know. Be sure to take the time to read it.
Mitigating risk exposure is easily the single most important thing in successful commercial real estate investing. To lessen the risk, you have to know what NOT to do. Here’s a list of common mistakes beginners make so you can avoid them.
Now that you have an overview of CRE investing and how to get started, it’s time to understand how to finance these investments.
There are several commercial investment loan types, and the right financing option depends on your situation and the circumstances surrounding the property you are buying. Each loan type has its eligibility requirements, including a minimum credit score, down payment requirement, and experience level. They also have varying loan terms and interest rates.
Some investors need a longer-term loan that offers low-interest rates, while others might need a short-term loan that can be approved quickly to bridge a financial gap. We discuss this topic in-depth in our blog, “A Complete Guide to Commercial Real Estate Loans.”
Perhaps like many investors, you are interested in CRE properties but are still hesitant to leap. Ask yourself these questions if to find out if this asset class makes sense for you:
You need open-mindedness and the ability to see the bigger picture to succeed in CRE. It’s important to visualize the finished product early on in the stages of redevelopment, for example. You also have to see beyond the surface and do whatever it takes to boost the bottom line.
It’s not obvious, but the ability to network is an absolute must for CRE investors. You need to build relationships with other investors and private lenders who can help you finance big investments. Most CRE properties cost millions of dollars, so you will likely need funding from people who trust you. Building a reliable network also allows you to see what best practices other investors apply while learning from their mistakes.
Performing due diligence is arguably the most vital task for CRE investors. Choose your niche and learn everything you can about that specific sector. Look for information about financing options online or talk to CRE financing experts.
Ask questions from like-minded investors. You can even reach out to CRE investment advisory firms in advance to find out exactly what they need you to present to them when the time comes. Preparing is half the battle. This is certainly true for any commercial real estate deal.
In short, having a proper business plan, minding due diligence, understanding your financing options, and building a strong network are the keys to success in commercial real estate investing. Don’t hesitate to talk to a CRE financing advisory firm if you have a project in mind. You can contact us here at Capital Investors Direct.
