How to get into commercial real estate investing: A beginner’s guide

Whether you already have dabbled investing in residential properties or this is your first dive into the real estate market, it’s likely that you will have a long list of questions and concerns regarding buying commercial property.

If you have been thinking about investing in commercial investment properties but have been stalled by your own questions and doubts, know that there is a place for you. 

Here are some things you should know to get started in commercial real estate investing. 

1. Know how much money you have to invest.  

Before you start looking up listings of commercial properties, it’s best to have a clear picture of your finances. 

How much money do you have to invest in a commercial property? Do you want to purchase it in cash, or are you looking to qualify for a property investment loan to boost your investment capacity? 

Getting your finances in order is vital in commercial property investing, as financing these types of properties is often more complex than normal residential real estate funding. Some lenders specialise in commercial property finance due to its generally intricate nature. 

For commercial properties, banks and lending institutions will lend up to 70 per cent of the value of the property, but this value often depends on the rent/yields reached by the property. 

If you do plan to take out an investment property loan, you can start by contacting your lender so they can lay down on the table what your borrowing options are. 

You can start by using this basic script as your guide: “I am looking for a commercial investment property loan to buy a property. I currently have this budget; what is the size of the loan I would qualify for if I am interested in buying an investment property?” 

Make sure to ask the lender detailed follow-up questions to have a better understanding of the financing process; for example: 

• Is the property loan personally guaranteed? 
• Is the interest rate fixed or adjustable?
• What is the length loan’s term?
• What percent of the purchase price will be required as a down payment?

These questions will not only apply to your current lender. You can use this process to shop around with other lenders who may be able to offer you a better loan option. 

We’ve prepared a guide on how to choose the right investment property loan in Australia so you will get started on the right footing. 

2. Not all commercial property types are the same.

When people think of commercial real estate, they usually think of an office building or a retail space. Contrary to popular belief, the commercial real estate industry offers a wide variety of asset types. 

While commercial real estate is typically classified into four main sectors: office space, industrial, multi-family and special purposes, know that there are different kinds within each category. For example, under office space, there can be standalone offices, co-working offices, and sublet office spaces. 

The supply and demand, yield, and overall profitability of each type of property greatly vary. Some commercial property types perform better than others based on the supply and demand in the asset’s location. For example, an office space might get better yields if it is near or within CBD areas. 

But even on a macro level, some sectors perform better than others. It is crucial to do your due diligence to identify the asset types that are most profitable or offer the biggest yield opportunity in the current economy. Understanding the fundamentals of each asset class and the associated market is important to succeed in commercial real estate. 

3. Understand the commercial property market drivers

The fundamental driver for commercial and residential property growth boils down to one thing – it’s demand. However, it’s important to note that demand for commercial properties is driven by different economic and social factors. 

A strong economy is key to any successful commercial real estate investment. Historically, booming commercial markets are underpinned by strong international, national and local economies. 

As the economy begins to expand, transport firms see the first indications of growth, fuelled by the boosted demand for materials used in the manufacture of goods for sale, an increase in imported goods and/or an increase in construction. 

Transport stocks usually start to record gains on the back of increased business and earnings while more jobs become available and the demand for office spaces also increases. 

As the economy continues to burgeon, it will start to get the ball rolling as demand for warehouse space, then retail followed by office space will also start to see an increase. 

Other factors that affect demand for commercial property are:

Interest rates

Interest rates are used by the Reserve Bank of Australia (RBA) to control the country’s inflation. Hiking the cash rate aids in slowing growth; this is because the cost of money is higher and the rate at which firms can grow is reduced. 

This, in turn, has a slowing effect on the demand for both commercial and residential property.

Infrastructure development

Major infrastructure changes or implementations both have a good and negative impact on commercial property returns. For example, the opening of the M7 bypass around the western outskirts of Sydney resulted in an increased demand for warehouse properties in the outer ring near the vicinity of the M7. While infrastructure can attract commercial property investment to an area, it has the negative effect of attracting tenants from existing areas.  

Demographics

It’s important to understand that as different segments of the population are motivated to move to different locations, there are new opportunities open to commercial investing. For example, the so-called “sea change” phenomenon among baby boomers has increased the demand for healthcare services, among others, in coastal centres. Meanwhile, new suburbs with young families require greater childcare facilities. As lifestyle becomes higher on the priority list of Aussies, more people want to work nearer to home. Thus, there has been an increase in demand for small offices located in lifestyle suburbs. 

Population growth

It’s generally assumed that locations that have a strong population growth require many services. As new suburbs are established, shopping centres usually follow to service the increasing consumer demand. Grocery stores will be a necessity in the area, then cafes and specialty shops. Usually, the demand for support services and then office spaces will follow suit.  

Retail spending

Increased consumer spending boosts demand for products, so the requirements for warehousing and retail outlets proportionately rise.   

4. Understand the risks.

If you do your due diligence and check all the right boxes, a commercial property investment can be a very lucrative venture which can require little attention for some time once you find a tenant. 

However, knowing the risks associated with commercial property investing will allow an investor to be ready for adverse circumstances.

Here are some of the risks to be aware of: 

Long vacancy periods

If you’re getting into commercial real estate, you must be aware of how lease terms can make or break your investment. Long-term leases of three to five years or more can have their upsides (as it can help ensure a positive cash flow), but it will take longer to find a tenant if the property is vacated. Investors sometimes find it difficult to repay debt due to income reduction caused by a vacancy. It’s not uncommon for commercial properties to have long vacancies, which means you will need to be able to handle the carrying costs during this period.

Vulnerable to change in supply/demand

Changes in supply conditions can create issues for commercial property investors. An increase in new property becoming available on the market in the same location creates a threat to existing tenancies as tenants may look to upgrade or expand their space. Increased supply can also lower potential yields. 

Commercial property size matters 

Larger commercial properties can be harder to lease compared to smaller ones and will cost a lot more to hold or maintain. 

Changes in infrastructure can hurt your pockets

As we’ve mentioned, major infrastructure changes in the area can attract commercial investments. On the one hand, it can also lure tenants away from existing areas and older commercial premises. This could result in your property becoming vacant.

Greater costs involved compared to residential investing

The greatest hurdle for people who want to get their foot in the commercial property market door is the upfront capital required, with some lenders needing deposits that are sometimes double that of residential properties. Simply put, higher investments can mean higher losses. 

Not to mention capital works are required to upgrade the building (e.g. facade, roof, services). There are also capital gains tax and transaction costs that investors should be aware of. 

To gain deeper insight about the pros and cons of investing in commercial real estate, read here. 

Commercial property values can sharply decline 

The value of commercial properties corresponds with the lease on the property. If a commercial property becomes untenanted, or the lease is about to expire, its value is generally expected to decline. Conversely, a decline in prices associated with residential properties is usually less dramatic and usually transpires progressively over a longer period of time. 

5. Know what to look for in a property. 

It’s not uncommon for new real estate investors to get so excited at the prospect of buying their first commercial investment that they miss something in their research. 

Having a firm understanding of what needs to be investigated, carefully analysed, and inspected before you buy will prevent you from potentially making costly mistakes.

Here are 10 things to look for when buying a commercial property.  

6. Know how to buy a commercial property.

At the heart of it, you might be asking, how do I buy a commercial property? 

Typically, commercial properties are sold through an expression-of-interest (EOIs), auctions or private sales. 

If you’re not familiar with the process, EOIs allow prospective buyers to submit usually non-binding confidential bids by a closing date with a seller. From that point, the seller will select one or a shortlist of offers to continue negotiating with confidentially to then move on to a formal offer and contract with one selected buyer.

Meanwhile, commercial property auctions are held in the same manner as with residential, usually in a public setting (or these days, online is the way to go) with all parties aware of the other bids. 

Generally, purchasing terms at an auction are set by the seller rather than the buyer. In some instances, a seller may give way for some flexibility to the bidding and purchasing terms, which the auctioneer will announce to prospective buyers and approve before the auction.

With a private sale, the seller will put their desired price tag on the property. Afterwards, the real estate agent will negotiate with prospective buyers to close a sale with the purchase price as close to the set price as possible. 

It’s recommended to work with commercial real estate agents so you will have insider knowledge of the process of buying and selling commercial real estate.  

7. Take advantage of online resources. 

It’s generally advised to talk to an expert in order to gain more insight into the local commercial real estate market. You will want to find a mentor, someone to work with, someone who is engaged, responsive and experienced, and who you can trust to guide you to make important commercial property investment decisions. 

However, if you’re more inclined towards a DIY approach, you learn everything you can about your market through online research. 

There are a plethora of online resources that are specifically made for audiences that want to know how to invest in commercial real estate. 

E-books, podcasts, videos – there is an endless amount online you can consume to make you a well-informed commercial investor. No matter which aspect of commercial real estate you’re interested in – whether it be office space all the way to industrial or retail commercial properties – there’s a blog, e-book or podcast out there for you.

As you do your homework, you will begin to start to understand what your investment will buy in a particular market. For instance, you may find you don’t have the capital to buy a multi-family apartment building, but a single-tenant industrial property may be within your price range. 

Good thing is that you don’t have to look too far to get started. Check out our Inside Commercial Property with Rethink Investing podcast series, Australia’s largest and most comprehensive podcast covering all things commercial investing. You can also look into our other amazing podcast series, which covers all topics related to property investing.