Confessions of a “wanna be” commercial real estate investor
Everyday I look at commercial real estate transactions in Vancouver, Calgary and Toronto. In the middle of my daily grind at work, I see the frantic pace of the the real estate markets, I understand how capitalization rates are calculated and what an IRR (Internal Rate of Return) is, and I know how to calculate the residual value of a piece of land. But when I started to get involved in some deals my parents were working on (like the one pictured here – their Retail/Office Building in Medicine Hat, AB), I quickly realized that I have barely scratched the surface of what is involved in a commercial real estate transaction.
The sheer number of documents involved would sink a small ship. The list of things you need to have or need to pay for in order to qualify for a mortgage is long. Only a few of the items include inspections, environmental surveys, lender commitments, and leases.
Despite the daunting nature of things involved in a purchase, I am fascinated by commercial real estate investing. I admire people who have started with little and made a lot. I am intrigued by the vision that some developers have to buy in areas that I won’t even walk through. And, most of all, the financial proposition it offers is appealing. Let’s face it, $500,000 is not buying much in terms of residential real estate now. In Vancouver $500,000 may get you a decent townhouse which you might be able to rent out for $2400/month. Once you are done paying your mortgage, strata (condo fees), maintenance and possibly a property manager, you are lucky if that investment doesn’t cost you more than $1000/month. So when you start looking at commercial real estate where you can buy a property for $1,000,000 and have it generate $10,000/month in lease revenue then the numbers start to look appealing.
But, before you list your house for sale and start shopping the commercial listings, let Dave take you through our personal pro/con list of commercial versus residential real estate investments.
The Nitty Gritty on Commercial Real Estate Deals: The grass is always greener on the other side….right?
by Dave Peniuk
Julie and I often wonder if commercial real estate investing is the way to go. My parents previously developed, owned, and managed a mobile home park along with owning a variety of residential properties. Julie’s parents have owned (and still own) a variety of commercial properties. We are often pulled towards the commercial side of things, not only because of what our parents have been involved with, but also due to our fascination with all things real estate. So, what’s better – commercial or residential investing? Below I have noted a far from exhaustive list of pro’s and cons for both types of real estate investment. One type of investment may be better suited towards your own objectives and goals.
For the sake of simplicity, we’ll consider commercial as office/retail/light industrial vs. residential which are smaller properties with less than 10 units used for the purposes of living only (not conducting business).
Residential Real Estate Investing – Pro’s
- Simpler, easier to understand (we all have to live somewhere);
- If it’s a quality property (especially single family home) that’s moderately priced, it will have a larger market of willing buyers
- Generally, don’t require a large down payment to own;
- Lots of tax-write-offs (It’s Taxing)
Residential Real Estate Investing – Con’s
- The Residential Tenancy Act, formerly the Tenant Protection Act in Ontario – the title says it all;
- It takes months to evict problem or non-paying tenants;
- Little recourse to obtain non-payment of rent;
- Generally speaking, positive cashflow is not the norm when it comes to single family residential properties;
- Cannot charge landlord expenses back to tenants including management, taxes, insurance, etc.;
- 1 year leases are the norm – thus not as stable/secure.
Commercial Real Estate Investing – Pro’s
- Can have Triple Net Rent – tenants pay rent plus landlord expenses (tax, insurance, management, etc.);
- Long-term leases (3-5 years) are common;
- No rent increase restrictions;
- Non-paying tenant, in many cases, can be locked out swiftly;
- Less emphasis is placed on person to qualify for financing. More weight is placed on the building quality, tenants, and leases (revenue from the leases).
Commercial Real Estate Investing – Con’s
- Generally require a larger % towards down payment (25-35% of the purchase price down is fairly standard);
- If financing a commercial property, there are many hoops to jump through, and with that, many associated costs;
- Not dissimilar to residential properties, if a unit becomes available, you may need to spend considerable dollars renovating it to suit your new tenant – just to a larger scale than with residential (in some cases);
- Often takes much longer to fill a commercial unit than a residential (may take months vs. only weeks);
- Vacancy rates are traditionally higher for commercial properties.
Unfortunately, the above lists have probably just left you with more questions and not enough answers. I know that’s what it does to me when I consider them!
However, every investment vehicle has it’s good points and bad points. This goes for stocks, bonds, and real estate. The thing to do is figure out what vehicles suit your objectives, do your research, and you’ll be well prepared to make the most of it and put the Rev N You with Real Estate!