7 Tips to Sensibly Invest in Commercial Real Estate
Commercial real estate investing can be drawn-out and complex, so it’s good to have a solid understanding of the process. You can make more sensible decisions if you know the market and how to look ahead.
Dive into the 7 steps
1. Do Your Due Diligence
In real estate, due diligence refers to the steps you take before closing on a commercial site. Usually, it begins when the seller gives you a period to assess the property. It may require a slight additional investment. While you might be familiar with this process, fully understanding its value is essential.
It can be tempting to close quickly on a good deal that you’re sure about, but you should always take the opportunity to investigate the site. It’s similar to purchasing a home — it seems perfect during the initial walkthrough, then thousands of issues pop up once you move in.
Instead of thinking of the potential the property has, try to take it at face value. Think of the due diligence period as an opportunity for you to negotiate with the seller. If you find something concerning or it simply doesn’t meet your expectations, see if you can get a deal.
2. Choose Secure Vendors
Finding a trustworthy third-party vendor is essential, considering they typically handle a lot of valuable information. Since they usually send or store deeds, funds or paperwork for you and the seller, they must have robust security measures in place.
Make sure you choose a vendor that’s secure. They have a direct connection to your investment transactions, so their mistakes can affect you. For instance, a third-party vendor could financially impact you and your partners if they experience a data breach. Even though protecting sensitive documents may primarily be their responsibility, you must ensure their cybersecurity is adequate.
Since it can cost millions of dollars to recover from a breach, you would likely experience long-term effects. It would also compromise your personal financial information, which is the last thing you want happening during a sizeable financial transaction like a real estate investment.
3. Understand the ROI
In commercial real estate investing, your return on investment (ROI) is the most crucial figure you can know. Even though you can only estimate how much you’ll make before you purchase a site, research can help you get an accurate percentage. Location, property purchase history and market trends are useful.
You can also look at how much others make. According to the National Council of Real Estate Investment Fiduciaries — a not-for-profit data service provider — private commercial real estate had a 10.3% ROI over 25 years as of 2021. Understanding your potential profit can help guide you to make sensible investments.
Consider if you want a continuous income stream or if you want to wait for your asset to appreciate. For instance, the rental income from a multifamily property could offset loan and interest costs. However, it likely requires more investment into maintenance, tenant management software or renovations in the long run. Both ROI types are beneficial, so it’s up to you to determine your preference.
4. Consider Your Responsibilities
Your future responsibilities depend on the type of commercial real estate you choose. For example, you’d have to handle maintenance requests, lease management and renter complaints if you purchase a multifamily property. However, you could invest in tenant management software to outsource these duties.
Many available options on the market can organize and control your assets in real time. For example, STRATAFOLIO is a commercial property software solution that covers the four most significant areas of real estate management. You should look for one that meets your needs.
5. Know the Local Market
Knowing the local market you want to invest in is incredibly important. Even though some types of commercial real estate may be trending nationally, the statistics are often different on a smaller scale. The actual figures may affect your decision.
For example, the Covid-19 pandemic permanently shifted many workplace-centric cities in the U.S. In fact, office spaces had 1.3 million empty square feet in the third quarter of 2022, resulting in a 12.4% vacancy rate. Although you’d get a good deal on the property, rezoning it to something with more demand may be necessary.
6. Save for the Unexpected
You should have a contingency fund set aside for any expenses you don’t anticipate. It can protect your investment. For instance, consider a natural disaster hits and the city establishes a rent freeze for your multifamily property. The extra savings could keep your loans and interest paid off while you wait for cash flow to return.
While commercial real estate investing is relatively safe, it still comes with risks. For example, consider you find structural issues with your building’s foundation after closing. The repairs would be necessary, so you’d likely be thankful for the financial safety net you gave yourself.
7. Research Market Trends
As it stands in 2023, multifamily property is the best investment. It topped all other commercial real estate types in the U.S., with a volume of $48 billion in the fourth quarter of 2022. However, the future may present surprising changes. Take COVID-19, for example. It came out of nowhere and dethroned the office sector.
You might not be able to predict something like a pandemic, but you can use current events to inform your decision. Instead of analyzing the real estate market at face value, widen your scope and see what outside factors could influence it. You can make better investment decisions if you look ahead.
Invest Carefully and Sensibly
While commercial real estate investing can be complex, you can make sensible investments if you know what you’re getting into. You should consider setting aside a contingency fund or utilizing tenant management software.
Putting your money into an appreciating asset is one of the most secure ways to ensure an ROI, but you must still approach the decision carefully. You need to understand your potential responsibilities and look at the market to get the most out of it.
