Buying Commercial Real Estate Can Be a Secure Investment

By: Phoebe Chongchua: RealtyTimes
Buying commercial real estate can be a secure and profitable investment if you take the time to research, get advice from experts and know your risks and benefits.

"There are four main reasons to buy investment real estate: cash flow, appreciation, depreciation and principal pay-down," says Mike McCaffery, Investment Property Consultant, GFS Commercial, a division of the Guiltinan Group Real Estate Specialists.

Owning commercial real estate can be a great way to diversify your portfolio, create tax benefits and build wealth. However, buying commercial real estate can be a risky business, especially these days when many people are getting into real estate without completely understanding the industry.

"There are different kinds of investors. There are some people who are very wealthy and they'll buy trophy properties for example and the returns are very minimal, but they hold them because they want to have a long-term hold. A lot of other investors want the cash flow so they're going to go to other areas that have a higher cash flow or higher return but it's not going to be in the best areas," says Investment Property Consultant Eric Warfield with GFS Commercial.

Use industry experts

Whether you're at the beginning stages of looking for commercial properties or you've closed escrow and already have your tenants in the property, it's a good idea to get advice and seek the help of industry experts such as commercial agents and property management firms, to guide you through the process.

"If you're smart and you hire a good management company and you let them do what they do best, you may get a little less of a return, a little less cash flow. But you're still going to get all the other benefits [of owning commercial real estate] but you also know that your risk is not as high as it would be if you tried to manage something that you didn't know anything about," says McCaffery.

Know the demographics for the surrounding area

Warfield says, "You want to know what the incomes are, for example, within a radius of five miles - what is the average household income, average age, what is the breakdown of ethnicities. Also, if it is a freeway frontage property, how many cars are going past that property per day?"

Study the vacancy or absorption rate

"You have to go back a few years and study those absorption rates to see what they are," says McCaffery.

Also know how long the leases are for the current tenants and if they're under market.

"Initially the return on investment might be very good but then the leases might come up very quickly and completely change the equation," says Warfield.

Leverage when buying commercial

Another thing that is very important, especially in commercial real estate, is leveraging. Warfield uses this example to explain the risk: "One investor might buy a building that only has one tenant in it as opposed to buying, for example, a shopping center that might have 15 or 20 tenants in it."

That, of course, would bring the risk level down unless the tenant is a big name company.

"You could buy a single tenant that's say a McDonald's or a Burger King, a national tenant on a long-term lease, that's a corporate signature, even if [that tenant] walked away from that location [that tenant] is going to keeping paying you even if the building is vacant," says McCaffery.

"But it's a different story if it's not a national tenant and there is only one tenant in the building, if that person goes you're completely upside down," says Warfield.

As with any investment, commercial real estate requires due diligence so that you end up in the best possible financial scenario.