Are you a familiar and confident investor in residential properties, but now turning your sights hesitantly towards the commercial property market? Here's what you need to know regarding the differences between commercial and residential property.
Residential properties are commonly used to bring in revenue as a rental property (to be used as a home for the tenant). Commercial properties are used primarily for business purposes, and are categorised as office, retail or industrial. Some properties are mixed use, and these can either be better or worse than either of the other options based on location, demand, and a variety of other factors.
Residential loans are easier to get, require a lower down payment and don't involve coming up with a business plan. Commercial properties are considered higher-risk investments, demand a much heftier down payment and may require you to create a business plan for your loan to be approved. You may also be subject to a higher interest rate when investing in a commercial property, and could be made to take out mortgage insurance.
Residential leases are typically shorter, but when a tenant leaves it's easier to replace them. Commercial leases have much longer lease terms, but may also remain unoccupied longer, as it can be harder to find the ideal tenant.
Residential leases can be fairly basic, and the landlord is liable for much more responsibility that cannot be shuffled onto the tenant's shoulders. Commercial leases can vary widely, and almost everything can be subject to negotiation.
Residential properties typically offer around 3-4% yields. Commercial properties typically offer rental yields between 5% and 12%. This can mean a highly positive cash flow – assuming the commercial property isn't vacant for an unreasonable period of time.
Residential leases typically don't include automatic rental increases. In contrast, most commercial leases include fixed annual rent increases in the range of 3-4% (typically well over inflation).
In the residential market, costs for maintenance and repairs are borne by the landlord. Commercial leases are more likely to be "net leases," meaning the tenant will be liable for paying council rates, insurance, land tax, maintenance and repairs.
One might think that a residential property would be less expensive than a commercial property, and this is commonly true if the commercial property is a high-end one, like an office, a big box retail unit or warehouse in a desirable location. However, commercial properties also include carparks and storage units, which are much less costly than a typical home.
Most of a residential property's value is tied up in its potential for capital growth. Many residential investment properties start out as owner-occupied situations. Commercial properties, on the other hand, tend to experience less capital growth and you'll be better off determining their value by basing your calculations on projected rental income.
People will always need places to live, and rental markets for homes are traditionally strong. Commercial properties are much more vulnerable to economic shocks and downturns, and can end up being a liability if months of non-tenancy stretch into years, or your tenant's business goes under.
Are you new to property investment, or cash poor? You'll probably want to stick with residential property investments. If you have the capital for the higher down payment – and particularly if you can find a good commercial property with a tenant in place – it could be time for you to dip your toe into a new side of the market.
Ready to start looking at commercial properties with an eye to invest? Contact Ray White Surfers Paradise, and one of our experienced team members can assist you in finding just the right property for your commercial investment needs.
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