Stephen A. Sobin’s article “How to Get Started Investing in Commercial Real Estate” offers a quick start guide to popular investment opportunities. President and founder of Select Commercial Funding LLC , he is an industry veteran with over 30 years of mortgage lending experience.
How to Get Started Investing in Commercial Real Estate
What are the best properties to purchase? Which properties will yield the best return? Some investors choose to invest in single family homes while others invest in apartment buildings. Others opt for commercial, retail or office buildings.
The following is an analysis of each type of investment. As an investor, you need to determine your investment time horizon (how long you intend to hold the property), as well as your tolerance for risk.
Single tenant properties
Some investors choose to invest in commercial properties leased on a long-term basis to a single credit worthy tenant such as a national drugstore or supermarket. It is very important that the tenant be financially stable and have a long-term lease.
Lenders are very cautious when asked to finance properties that are occupied by local non-credit tenants or situations in which the lease matures shortly.
In the event the tenant does not renew the lease, or cannot afford to pay the lease, the landlord and/or lender could be left with a vacant building unable to cover the mortgage payments. On the other hand, lenders love to see tenants such as Walgreens, CVS drugstores, national chains, brand name supermarkets etc.
Most investors consider apartment buildings to be a prime investment choice. These properties contain many tenants, thereby limiting the credit risk of a major tenant vacating the premises. Apartment buildings are also easy to rent in most markets. This eliminates the fear of units being vacant for months at a time.
The combination of multiple tenants and ease of rental make apartments a very good choice for investors seeking to minimize their investment risk. New investors should seek apartment buildings in good rental neighborhoods and avoid properties in need of major renovations or restructuring.
Experienced investors, with good net worth and liquidity, may choose to purchase apartment buildings that require extensive repairs and maintenance.
Retail centers and office buildings
Many experienced investors choose to invest in these properties. Retail centers may be local strip centers containing local stores, shopping centers containing anchor tenants, or local and regional shopping malls. Office buildings may be single tenant properties or larger office buildings containing multiple tenants.
All of these properties require significantly more management than the properties discussed above. These properties should be considered by experienced commercial real estate investors only.
Purchasers without experience should only consider these properties if they will be managed with a professional property manager. This will be a requirement by all commercial mortgage lenders.
Special use properties
This category consists of properties that have one specific use, such as restaurants, gas stations, bowling alleys, theaters, etc.
These properties have many associated risks and should not be considered appropriate for new investors. They require extensive experience and have the potential to remain vacant for long periods of time in the event the business fails.
Vacant land and development deals
Again, these properties should be avoided by new investors. Without proper experience, borrowers should not consider these opportunities.
Lenders will only consider these opportunities from borrowers that have a positive track record, sufficient cash flow, net worth, liquidity, and history of development success.
Prior to investing in any commercial property, an investor should determine if his investment will require active or passive management. He will need to determine whether he has the proper time, energy, and experience to manage the property properly.
A new investor should also limit his investment to properties that are close to home. Properties will require site visits and a significant amount of time at the property. This will be unattainable if an investor seeks to invest too far from home.
In addition, new investors need to realize that real estate investments are not readily liquid. This means that real estate is a longer term purchase then say, stocks or bonds, which may be sold easily. An investor needs to understand that a real estate purchase is a long term commitment.
Only after these items are addressed should a new investor decide to make a purchase. A new investor should consult a competent mortgage broker for advice upfront. He will be able to analyze the property and determine if the property meets the investor’s requirements.
The broker will also be able to determine which lenders are appropriate for the transaction.