Property can be divided into residential real estate and commercial real estate. Residential property includes houses, condominiums and other units where people live. Like the name implies, it is real estate for residential purposes. Commercial property on the other hand is real estate used for commercial purposes.
Commercial real estate spans a wide range of properties. Office buildings, shopping malls, restaurants, hotels and warehouses are common examples of commercial real estate. Apartment buildings with more than four units are also classified as commercial property.
Most people think that residential real estate investing is relatively straight forward while commercial real estate investing is difficult and requires a lot of money. To some extent this is true but investing in commercial real estate does not always require a lot of money.
There are a lot of differences between residential and commercial real estate investing. Compared to residential real estate investing, commercial property has a number of advantages. Just to mention some of the advantages:
– Longer Lease Duration
– The Tenant Pays the Outgoings
– Less Management Overhead
– Less Government Interference
– Contract Terms Are Very Negotiable
But needless to say, commercial property investing has also some drawbacks. The main two problems are lower Loan-To-Value (LTV) and difficulties finding new tenants. Residential real estate values are relatively stable, commercial real estate values are much more volatile. During a recession a lot of companies go bankrupt or downsize which means that the demand for commercial property decreases. That is one reason why banks insist on lower LTVs than for residential property. Demand for residential property is much more stable, also during a recession people need somewhere to live. Since commercial leases are long, it can often be difficult to find a new tenant.
As a commercial real estate investor, it is very important to try to minimize the drawbacks. The low LTV means that you need to come up with a lot of money to close a deal. But since everything is negotiable, a motivated seller may accept to give you a second mortgage or flexible arrangements to help getting the deal through. It is also worth noting that what you pay for the property is not of much interest to the bank, they will estimate its value and lend you according to that estimated value. To be more precise, the value is determined by dividing the net operating income with the cap rate. The value of commercial real estate is dependent on the rent paid by the tenants. This means that if you can find new tenants, the value of the property goes up.
Although commercial properties can cost several millions, you can also invest in much cheaper commercial property. Commercial real estate investing is complex, the wide range of property types makes it almost imperative to focus on just one or two types of commercial real estate.
Investing in apartment buildings is one way of trying to combine the advantages of commercial and residential real estate investing. Your tenants will be the same as in residential property investing, you will just have more of them. Here you can learn more about investing in apartment buildings.