Transitioning from Residential to Commercial - Advice Appreciated

Commercial Real Estate Investing
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Transitioning from Residential to Commercial - Advice Appreciated

Greg P.
Los Angeles, CA · Member since 2009 · 717 posts · 50 votes

Hello everyone. I've been doing Residential Real Estate for a few years and been semi successful. I've created enough cash to potentially into Commercial Real Estate, but I'm very cautious.

Few Questions:

1) In the Residential business, you can find a property for cheap, fix up and sell and profit. If it doesn't sell you can rent it and cashflow. It really is that simple. My question is, with Commercial Real Estate, I've been seeing properties that are fully occupied and functioning well, but they do not seem like great deals. If I bought this property I would barely make any cash flow since I would use bank financing, and then I would potentially be "stuck" because my cash is gone. How does a person who is in my situation buy a Commercial Property and keep moving forward?

2) If I buy a property that is in distress, that could mean no tenants for awhile and it would be a "tough" sell. During this time since I would be using bank financing, I would be negative cash flow. How does one get by this? It sounds like a big risk.

Any advice or tips would be greatly appreciated.

Thank you very much.

Greg

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Sean H.Pro Member
Flipper/Rehabber · Pittsburgh, PA · Member since 2010 · 224 posts · 75 votes
15y

The best advice I can give is for you to find a mentor who already does commercial investing. I am fortunate enough to have a relationship with one of the biggest commercial investors in my area. This has led to him throwing deals my way that are too small for him and walking me through lease negotiations, bank proposals, etc.

People are correct when they talk about commercial being an entirely different world. NNN leases, EPA filings, going over business plans to determine a tenant's ability to pay are all a huge part of the game that you would not necessarily have to handle in residential.

Just like any other business, networking is huge. Being able to have a personal relationship with the local congressman as well as the smallest mom and pop businessman has allowed my mentor to create a tremendous, self-sustaining business. Instead of spending all of his time finding deals, people bring them to him or if one crops up, he knows that the local retail store owner has been looking for a bigger place and can put them in it. Obviously it takes some time to get to that point, but if you're serious about going commercial having a huge and healthy network is key.

There is a ton of money to be made in commercial real estate. Lake house and Italian sports car money. However, it is an entirely different animal from residential so the best way to navigate the waters would be to find a mentor. While working to find a mentor, start building and expanding your professional and personal network. Once you get serious and start looking to put deals together, this will prove invaluable.

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  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    15y

    You are very astute, noticing that if there is a dollar on the table, the bank usually takes it. Unless you have cash to put in a deal your cash flow will usually be tight in the first few years.
    An air conditioner on a roof can cost you 5K if it goes out on a commercial unit, if it is not fixed, you can lose your tenant, and since they are business folks, they may even know an attorney to get you to pay their relocation espenses, loss of business and other damages.

    Next, if you can tell me why the property is "distressed" you might be able to cure the problems. Why couldn't the owner keep it? Did it not cash flow significantly to pay the bank? Why would that be......are you sure you want to look at these properties?

    I know that RE gets boring quickly, turning the same 3/2s over and over with an occassional 2/1 or 4/2 1/2.....but if you are making money, stick with it and get a hobbie. Do what you know first.

    When you can answer those questions I posed and have cash for repairs then you might be ready to take that leap. It's good you asked, but as I always say, commercial is another world! I don't mean to discourage you, keep at it! Good luck.

    2Reply
  • Don KonipolBusiness Member
    Investor · The Woodlands TX / Avon, CT · Member since 2009 · 6k+ posts · 10k+ votes
    15y

    Commercial property investing is not the cookie cutter residential investing you refer to.
    Potential profits are much larger, deals much riskier, losses can be much more severe. The best properties with full tenancy will return little more than expenses and note payments.

    A commercial property can go a long time without a tenant. I have purchased properties in which I was able to obtain a tenant almost immediately, and made a great annual return and later sold for a big profit. I have also had deals that went the other way. One in particular that stands out was a 15,000 square foot office/showroom/warehouse I purchased in Bryan Texas. Appraised at $550,000 in great condition, I purchased for $250,000 with no tenant. Three years later I still had no tenant, had paid out $50,000 in property taxes, $12,000 in hazard insurance, $15,000 for repairs, and $5000 for marketing. I sold the property for $260,000.00, which netted me $240,000 after selling expenses, a $92,000 loss over 3 years.

    You can probably collect a steady 7-8% return annually with commercial properties; to go after bigger returns requires higher risk stratagies.

    Private Mortgage Financing Partners, LLC
    WebsiteView Page
    1Reply
  • Sean H.Pro Member
    Flipper/Rehabber · Pittsburgh, PA · Member since 2010 · 224 posts · 75 votes
    15y

    The best advice I can give is for you to find a mentor who already does commercial investing. I am fortunate enough to have a relationship with one of the biggest commercial investors in my area. This has led to him throwing deals my way that are too small for him and walking me through lease negotiations, bank proposals, etc.

    People are correct when they talk about commercial being an entirely different world. NNN leases, EPA filings, going over business plans to determine a tenant's ability to pay are all a huge part of the game that you would not necessarily have to handle in residential.

    Just like any other business, networking is huge. Being able to have a personal relationship with the local congressman as well as the smallest mom and pop businessman has allowed my mentor to create a tremendous, self-sustaining business. Instead of spending all of his time finding deals, people bring them to him or if one crops up, he knows that the local retail store owner has been looking for a bigger place and can put them in it. Obviously it takes some time to get to that point, but if you're serious about going commercial having a huge and healthy network is key.

    There is a ton of money to be made in commercial real estate. Lake house and Italian sports car money. However, it is an entirely different animal from residential so the best way to navigate the waters would be to find a mentor. While working to find a mentor, start building and expanding your professional and personal network. Once you get serious and start looking to put deals together, this will prove invaluable.

    3Reply
  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    15y

    Some second thoughts too, with the good advice given by Sean and Don. It boils down to money. Having enough forthe down payment and perhaps repairs that gets you into a residential unit simply is not enough to carry most commercial deals,

    To say commercial takes in alot of territory. The field is so broad that most successful operators specialize in certian types of properties. Strip centers, C-Stores, grocery stores, retail shops, office, etc. There are books written about investing in these categories. You really need to be familiar with the types of businesses or operations that will occupy your properties, at the very least be aware of potential risks associated with those occupants.

    As Sean mentioned, you need to be able to review business plans. In some areas you need to be able to evaluate financial statements, market data and evaluate business risks of potential tenants. Commercial ownership is also very political, as someof the ploys used by other investors may under cut your efforts through political means. Having building inspectors, zoning boards, health departments, environmental regulators and other officials to satisfy can be difficult and ultimately make any owner decide to dump a property. The bigger the property, the more friends you need.

    IMO, your net worth should be about four times the value of a commercial property. A 250K building your net worth should be 1 M, this is to sleep well. Having less than that just puts you closer to the edge. As Don pointed out, you may need to carry the property for years, not months. The tax advantages need to provide enough benefits to help cut these losses.

    The bset transition for residential investors is to go to multi-family, IMO. Next is to be an owner occupant of your business operation, could be a small office center for realty types. Going commercial is certainly a good thing, but it's no place to cut your investor teeth. Understanding these issues before you sign that contract is paramount.

    1Reply
  • Darryl Dahlen
    Commercial Loan Officer · Southern Maine, ME · Member since 2009 · 782 posts · 415 votes
    15y

    There is a lot of good advice here. I would also add that you need to spend some time determining what your niche is going to be.

    Just because you can buy distressed property from a bank at a severely reduced price doesn't mean you should. Meaning, there may be a good reason why the property is bank owned. If you don't understand the market you could be setting yourself up to fail just like the previous owner.

    My suggestion would be to spend some time getting to know what is going on in your market. As suggested, a mentor may be your biggest asset here since the commercial sector property spans so many different types properties. Once you understand the short-term needs of the local market, you can then start planning the next step.

    Since you are looking to fix-n-flip, you are "probably" going to find the largest pool of buyers in multi-family projects. Perhaps you could look at buying failed condos and converting them back to apartments? Even in multi-family scenarios, you need to understand the market in order to ensure you are providing a desirable end-product (not only for the renters, but buyers too).

    Example, it doesn't make sense to convert condos to high-end apartments if there is already a lot of existing inventory available when real the need is for Section 8 units. Nor would you be best served by buying those condos and converting them to Section 8 units.

    I guess I should mention you also need to address your capabilities. If there is a need for extended stay hotels, I don't know as I go and look to convert a failed Best Western. The financial needs of a project like that may be a prohibiting factor right now, but my point is you need to know your limitations and not take on something where you get in over your head. That might eliminate projects like strip malls for now.

    You also made a comment about bank financing. I don't know as I'd plan on bank financing for a non-performing asset. If it isn't performing, it won't debt service so there is little chance of financing. Unless, you were talking about the bank who is selling the property carrying paper on the property until you sell it. That "can" happen, but I wouldn't expect it to.

    In my experience, these types of transactions are done with cash, not financing.

    2Reply
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