Why do you invest in commercial (instead of residential)?

2 Replies

I just wanted to get people's opinion here.

Residential has numerous advantages - easy to find tenants, Fannie Mae offering long term loans, etc. It's fairly hands off if you find a good property manager. 

Why do you invest in commercial real estate? I assume you believe returns will be higher - why? 

One thing I see is a lower downpayment, since many deals include seller financing. 

Hey Alex,

Great question: For me, I started out investing in commercial real estate. I had looked at SFR and M.F for a fair bit of time and when I got into commercial real estate (retail specifically), I realized a few things:

1. There is way less competition.  There is also less product in general, but due to the lack of competition, I found I could take my time, find great deals and learn as I went without being in as high pressure of a situation. 

2. Retail tends to lag behind MF and SFR in the market, so as the market got more and more difficult in those markets I felt I could still find great assets in retail.

3. IMO, it is as difficult to find 1 SFR as it is to find 1 commercial deal; with the commercial deals being so much bigger I can do less volume and be more successful.

4. Management of a single commercial deal is quite simple IMO.  If the deals are big enough, you can pay for professional management and professional leasing services.  This enabled me to focus on buying properties rather than collecting rent checks.  I am a very active manager and am involved in ever decision, but the implementation of decisions, collections of rents, repairs, etc. are all done by my team.  This is a huge advantage in growing a portfolio. 

There are lots of other reasons, but these are a few from my perspective.  I don't really agree with your comment on lower down payments or lots of seller financing.  This might be true in small commercial deals, but not very common in $1MM and over.  Interestingly enough, as my portfolio has gotten bigger, I have moved out of the projects in the $2MM and under range as I feel again, they are as much work as a larger deal that has more total cash flow.  This again isolates me from smaller investors. By staying under the $15MM mark I also tend to isolate myself from institutional money.  My entire strategy is based on finding a niche market that is slower moving.  You need to understand the downsides of your market if you want to do something like this and ensure you don't go in over leveraged, etc. 

For me, the simple way to explain it is the road less traveled. 

Good personal reasons Tim, all RE is local, the niche aspect I so true.

In any economic transaction, higher profits go with higher perceived risks, it's also going to be limited as to entry in higher profit alternatives, when higher profit potential is there, so will be the barrier to entry, knowledge, expertise and legal aspects.

Do I buy a $120, 000 home and rent it out with a return, say of 14% on my money or do I go with a $1,200,000 office warehouse with a 10% return? If both are good properties, what appreciates faster, which builds equity faster? Pretty obvious that commercial is top dog, IF you have the knowledge and expertise.

Commercial is not just real estate, it is a business requiring, often, in depth business knowledge of various types of businesses. Industrial can become very involved and you need to understand the business, to some extent that you lease to in order to identify your risks.

I'd say Tim has a good grasp of retail operations of smaller retailers, he's not just operating in real estate he is serving retailers and must be aware of their risks, operations and potential to succeed in order to assess his risks.

Commercial takes in a large swath of government and business activities, much is beyond the scope of small investors on BP, not saying no one can't go there, but it takes knowledge and expertise in a much broader arena than residential properties. Those beginning in business and real estate simply are not prepared to go commercial outside of commercial residential or perhaps small mixed use properties, but even there, a good business background is important.

Now, all that said pertains mainly to those with limited means, knowledge can replace capital requirements, that's why folks should learn rather than work offshoot deals trying to make the capital required.

But, if someone is 22 years old, has common sense, wins the lottery, then by all means, jump into commercial, you can afford an attorney or 2 or 3, a good CPA, a CCIM will certainly assist you and you can hire management, buy a good deal and go sailing on your yacht! Your barrier to entry has just been reduced. :) 

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