The Advantages of Commercial Property Investment Over Residential
Both commercial and residential property types have their own unique benefits, but many investors choose commercial property investment for several reasons.
In this article, we will discuss why commercial property investment is considered to be a better choice than residential property investment, in the interest of generating a higher return on investment.
Advantages of Investing in Commercial Property
Investing in commercial property can offer several advantages over residential property investment, including higher net rental yields, long-term leases, diversification, and potential for higher capital gains. Let’s explore each of these advantages in more detail.
Higher Yields
Commercial properties generally offer higher over rental yields compared to residential properties because most commercial leases are structured in a way where tenants typically pay for operating costs of the property, as opposed to residential properties, where it is the owner’s responsibility.
Ensuring that rental income keeps pace with market conditions, commercial leases generally include periodic annual rent reviews, allowing landlords to adjust rental rates at regular intervals. These rent reviews are agreed upon at the beginning of a lease and consist of fixed, CPI, market rent reviews, or a combined mix of them.
Maintenance costs to the owner are considered lower than in residential property, given that the tenants are responsible for most repairs and upkeep.
Long-Term Leases
Largely, commercial leases tend to be longer than residential leases, providing greater stability of income for investors.
Unlike residential leases, which are typically set at twelve months, commercial leases can range from three to ten years or more. This longer-term tenant commitment provides landlords with a more reliable and predictable income stream. It also reduces time and costs associated with tenant turnover, which can be a large financial burden and affect the overall return.
This stability in cash flow can provide peace of mind for investors and help them plan for their financial future.
Diversification
Commercial properties offer diversification benefits for investors who may already have residential properties in their portfolio.
Furthermore, different types of commercial properties can also help investors diversify their portfolio, reducing risk and potentially increasing returns. Different types of commercial property investment include:
- Industrial properties: Warehouses, workshops, and distribution centres.
- Office buildings: Professional services firms, government agencies, and corporations.
- Retail properties: Shopping centre properties, shopping strips, and strata retail.
- Healthcare properties: Hospitals, medical office buildings, and senior living facilities.
Potential for Higher Overall Gains
Commercial properties tend to be in areas that are strategically important for businesses and tend to be highly sought after by businesses due to their access to transportation, and availability of infrastructure.
These high-demand areas, market conditions, and current or scoped infrastructure development can provide investors with the potential for higher rental yields, capital growth, and increased asset values, making them an attractive option for those seeking to maximize their investment returns.
Differences between Investing in Commercial Property and Residential
Commercial property differs significantly from residential in terms of investment potential and whilst there are some obvious differences, we’ll address the difference in property types, lease terms, and tenants. Let’s dive deeper into these differences to understand the unique aspects of commercial property investment.
Types of Properties
As mentioned earlier in the piece, commercial property can come in many forms, with each having unique characteristics and investment opportunities. Depending on the market conditions, the area, and the type of property, investment yield can be much higher than residential, given the difference in the tenant and the lease terms.
Lease Terms
Commercial properties typically have much longer lease terms than residential. This long-term commitment from tenants provides greater stability for investors and reduces the risk of vacancy, which can cause a loss of income.
These longer lease terms are also generally coupled with a higher level of overall rental income, with tenants paying the operating costs of the property as opposed to the owner having to pay in residential property.
Shorter lease terms are indicative of residential leases, which are positioned to provide greater flexibility for tenants, in turn resulting in lower rental income for investors.
Tenants
The clear difference between commercial and residential tenants is the fact that commercial property tenants are businesses rather than individuals. In both scenarios, there is the potential that a tenant might default, but a business tenant is more likely to flag challenges, allowing the property manager the opportunity to plan and even negotiate.
Recovery of Costs
In many instances, commercial property leases allow for the owners to recover the costs of maintaining and managing a commercial property, as opposed to residential which are generally borne by the owner. This means the net cash return can be much higher than residential.
There are many reasons why investing in commercial properties is a better option than investing in residential properties. From the higher potential for ROI to lower vacancy rates, stable cash flow, diversification, long-term investment, the potential for tax benefits, and strong demand, commercial properties offer a unique and attractive investment opportunity for many investors.
Of course, investors should carefully consider their options and seek professional advice before making investment decisions.
With a deep understanding of the Perth and Western Australian commercial property market and a technology-driven approach, get expert guidance from Lever Property – your trusted advisor in commercial real estate.
