Did you know investing in Commercial Real Estate offers advantages and potential benefits to the educated investor? The advantages include; cash flow, lower vacancy, creditable tenants and long-term income potential.
Commercial Real Estate properties refer to retail, office, medical, industrial, warehouses, a mix-use and multi-family buildings.
TIP #1 Investing in Commercial Property is the Right Strategy for You
Unlike residential property investing, commercial will require a due diligence strategy; and careful review of financial analysis, to ensure the property aligns with your investment strategy goals.
- Cash Flow
- Value
- Appreciation
- Hold Period (Buy and Sell Methods)
TIP #2 Determine what type of Triple Net Lease vs Gross Lease
A triple net lease (NNN) refers to a lease agreement when the Tenant reimburses the Landlord; for all the real estate taxes, maintenance, and building insurance on the commercial property, as a prorata share of building. In addition, the Tenant pays for the agreed upon “normal” expenses such as rent, utilities, insurance, business asset tax.
The NNN lease is favorable as the Owner has annual increases, it will be adjusted and absorbed through the Tenant.
A gross lease is negotiated at the time of the lease signing and Tenant pays the agreed upon lease terms. There will not be any adjustments even if the expenses of the building increase for the Owner. The Tenant has an expectation of the budget of the lease term. The gross lease may be more favorable to the Tenant.
TIP #3 Understanding Commercial Financing
Commercial financing usually requires investors to meet higher income or net worth standards. The interest rates for commercial properties depend on the current prime rate. The loan is usually between a 20 to 25 year loan commitments and common for a fixed rate.
The Lender will factor in the Tenants occupying the building space. Is the Tenant’s financial strength add value to the investment of the buildings overall performance. Remember the building assessment if on the cash flow vs the appraised value.
- The Tenant should be evaluated carefully, when an investor determines if they are a suitable fit for their property. Factors are creditworthiness, backed by public company, and total years in business.
TIP #4 What is a Proforma of a Commercial Real Estate Property?
A commercial leased property proforma is a financial analysis of the property. As an educated investor, you will need to review the revenue and operating expenses. It is important to factor in a vacancy percentage when and if a Tenant lease expires.
- Gross Revenue is defined as the amount of total revenue the owner collects if the property is occupied 100 percent.
- Vacancy is typically a percentage of the gross revenue. The investor will generate financial projections based on five (5%) percent less than the current occupancy rate.
- Operating expenses will include property taxes, insurance, utilities, and maintenance, property management fees. Keep in mind the Tenant’s lease terms include NNN, the operating expenses will pay through to the Tenant.
- Net Operating Income (NOI) is calculated by total revenue less operating expenses. It is important to know the NOI does not include your debt service.
- CAP Rate is your NOI expressed as a percentage compared to what the owner paid for the commercial investment property. Ideally, investors look for properties with a CAP rate of 7.5% or greater return.
- Cash on Cash (COC) is your Rate of Return (ROI) after you have reduced it by the debt service. This calculation is not calculated on the purchase price; but rather the down payment when you purchased the commercial investment property.
- Internal Rate of Return (IRR) will show how your investments are performing. It calculates the amount by showing the value of money made in the commercial property investment; as it would compare to comparable investments. In other words, the IRR will determine if your money is properly “growing” with your current commercial investment property.
Investing in commercial properties can be a stressful process for a new investor. However, the advantages include higher income potential, lower vacancy rates, and steady cash flow opportunities and credited Tenants. If you hire an experience brokerage firm to help with the due diligence; you will have a successful commercial real estate investment.
Looking for a professional commercial brokerage firm; Sylvia Pell with Pell Realty Group will be happy to assist your with your real estate transactions.
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