Have you ever thought about switching from residential to commercial real estate investing? Although residential and commercial properties both have proven to be excellent and profitable investments, commercial real estate investing might be a better option for property investors who are willing to undertake a large venture.
Depending on where you live (Dallas and Houston real estate investing market, for example) and your financial situation, investing in commercial properties can prove quite lucrative. Thus, if you’re currently investing in residential real estate properties, here are some of the best reasons why you should consider switching to commercial real estate investing.
Commercial Real Estate Investing – Easier to Obtain Large Sum of Capital
To start investing in commercial properties, you’ll definitely need a large sum of capital. In residential real estate investing, property investors can only obtain money from individual investors such as hard money lenders and private money lenders as well as other traditional methods of financing. Aside from these financing options, there are not many ways for residential properties investors to receive even a small amount of capital.
On the other hand, obtaining a large sum of capital in commercial real estate investing is much easier as there are many financing options to choose from. As a commercial real estate investor, not only do you have the ability to raise capital by using traditional financing options, but you can also use the help of hedge funds, investment groups, and private equity firms. Commercial property investors can also pool capital and have access to more financing to purchase the investment property.
Commercial Real Estate Investing – Higher Return on Investment
Depending on the investment property, commercial real estate investing can provide a higher guaranteed return on investment when compared to residential properties. In general, the average ROI for commercial properties ranges between 6-12%, while the average ROI for residential properties (like single-family homes) is typically only between 1-4%. As a result, commercial real estate investing gives property investors the ability to make more money each year, which will have a positive effect on your overall net worth.
In addition, a residential property investor has many expenses. Residential properties investors are responsible for paying for expenses such as council rates, costs of repairs and maintenance, insurance, real estate property taxes, property management fees, and the list go on. In fact, a residential property investor typically spends a significant proportion of the rent (up to 30%) received as rent for paying these expenses.
On the other hand, the situation for commercial real estate investing is very different. Tenants of commercial properties are the ones who are responsible for paying for the vast majority of expenses including council rates, insurance, property management fees, etc. Thus, a commercial property investor might only need to pay as little as 5% out of the rent received for expenses. This further increases the annual rate of return on investment!
Not only that, but when you invest in commercial properties, your annual revenue will most likely stay the same even when the market drops. On the contrary, residential real estate investors end up selling their investment properties when the market drops. This means that commercial real estate investing can be much safer than residential real estate investing.
Commercial Real Estate Investing – Forced Appreciation
While residential investment properties do increase in value (appreciate) over time, commercial real estate properties can increase in value relatively quickly.
When assessing the values of residential properties, the average of real estate comps that were recently sold in the surrounding area must be taken into consideration. Thus, even if residential property investors decide to upgrade their investment properties with a new kitchen, a swimming pool, or a guest house, they still won’t be able to place the investment property on the investing market at a much higher price than surrounding properties in their area. Therefore, “forcing” appreciation with the residential real estate is practically impossible.
In commercial real estate investing, in contrast, investment properties are valued based on the revenue and cash flow that they generate. For example, if your commercial property has generated a lot of revenue, its value will most likely be high as well. As a result, depending on the cap rates in your area, commercial property investors can force appreciation on their investment properties by finding ways to produce more revenue! Finding high-quality tenants, raising the rent, adding amenities, and ensuring the investment property is being used for the highest and best use are some of the best ways a savvy commercial property investor can force appreciation and increase revenue.
Commercial Real Estate Investing – Less Competition
Because investing in residential real estate properties requires a relatively small amount of capital to get started, this investing market is brutally competitive! More and more people are interested in finding a fixer-upper or a foreclosure to invest in, thus these investment properties go quickly.
Moreover, to make money from residential properties, real estate investors need to keep an eye out for competition and constantly find great deals to add to their portfolio. Eventually, when you have an excellent record of returns, traditional lenders will refuse to finance a new property, meaning you’ll have to sell an investment property or find a private lender if you want to finance and add another property to your real estate investment portfolio.
On the other hand, not only does commercial real estate investing require a large sum of capital, but investing in commercial properties (like office buildings and shopping centers) is a huge undertaking. This is why so many property investors shy away from commercial real estate investing. In addition, there are a variety of commercial property types, such as industrial, retail, office, and apartments, and not to mention that within each property type there are also numerous sub-types to choose from. For an experienced property investor, commercial real estate investing offers less completion and more opportunity to excel.
Moreover, even though commercial real estate investing costs more than residential, banks are much more willing to lend money for a high-performing commercial property than a residential. Additionally, there’s no limit on the number of commercial properties which a property investor can own!
What to Consider Before Switching to Commercial Real Estate Investing
Switching from a residential real estate investing to commercial real estate investing is obviously a big change, and it is definitely not going to be a smooth one. You will need to dedicate plenty of time to understand how the investing market works as transactions in commercial real estate investing work differently than in residential real estate investing.
Having some prior experience in the commercial real estate investing market can help. Thus, if you’re considering a switch, start associating yourself with people within the commercial real estate investing market, including investors, developers, commercial broker employees, and other members within the commercial real estate investing field who could work as mentors. This will definitely sharpen your knowledge of how the commercial investing market works before you enter it.
Final Words on Commercial Real Estate Investing
As compared to residential properties, commercial real estate investing offers property investors far more benefits in the long term. However, not every property investor is advised to make this switch! Make sure you are financially qualified and have enough knowledge and experience in the field beforehand in order not to face a failure.
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