Residential v's Commercial Investment

Commercial or Residential Property Investment?

Commercial or Residential Property Investment?

Leading commercial agent Simon Russo of Hills Central highlights some important topics for consideration when deciding to invest in residential verses commercial property.

Tenant availability and security

Whilst rental yields may be higher for commercial property than with residential property, finding tenants may not always be as easy. Personally I have seen some commercial properties sit vacant for long periods of time, particularly when the reason for the vacancy is an economic downturn. Finding new tenants may often require remodelling or refitting the premises, which can also mean an additional expense for the landlord. Professional advice is very important to reduce the risk of long vacancies. Often choosing the right tenant match for the location, property and demographics can save a lot of stress at a later time.

With this said, once you have found a suitable tenant for your commercial property, they tend to stay much longer, such as 3-5 years or more. I had leased a property for a client in 1999, and the tenant had only just moved out and had not missed one payment along the way. This is just one example which comes to mind.

Security bonds payable by a commercial tenant are also vastly different. With many landlords often expecting between 3-6 months rent or bank guarantee.

These bonds can be held by a governing bond board, managing agent or even the landlord, depending on your lease.

Capital growth potential

Capital growth potential is an important consideration for investors, and this is one of the key differences between residential and commercial property. It is generally believed that the capital growth potential of commercial property is not as reliable as with residential property. This is because demand for residential property is growing all the time as the population grows, usually at a higher rate than the supply of new homes.

Generally speaking, demand for commercial property tends to be less and it is usually reliant on economic growth, rather than population growth. When the economy is in a growth phase, more new businesses start up and this increases demand for commercial premises and supports capital growth, but this generally occurs at a much slower rate than with residential property.

Currently in North Western Sydney there is a surge in demand for commercial and industrial property, from both investors and occupiers. We believe the key drivers of this is a combination of the very low supply, low interest rates and major infrastructure improvements, such as the Sydney Metro Northwest.

Rental returns

Rental yields from residential property are generally around 3 – 5% per annum, which is commonly much lower than with commercial property. Commercial yields can often return as much as 5 – 12% per annum depending on your choice of investment. Due to the strong demand at the time of this article, yields are currently on the lower end of this scale.

An additional benefit of commercial property is that rental increases can often be written into the lease and may even be tied to economic factors.

For example, a 5 year lease can have a fixed yearly increase of CPI + 2%. This makes it much easier to anticipate the rental returns you will receive on your investment.

Lending Criteria and down payments

Commercial property investment entry price points may be extremely attractive to the smaller investor, however there are some disadvantages when it comes to putting down a deposit. Lenders have tighter perimeters to approve commercial property loans and usually require a deposit of at least 30%. For a residential property investment, you can often get loan approval with a deposit as low as 5%.

Naturally the interest rate offered on commercial assets also attracts a higher rate.

Maintenance and property expenses

Yet another area whereby commercial property investment can often win over residential property investment. As most would know, a residential landlord is responsible for all maintenance costs and expenses such as repairs and operating expenses.

With a commercial property investment, the tenant is usually responsible for all expenses including general maintenance, repairs plus operating expenses such as council rates, water rates, strata levies, land tax, landlord insurance, even property management fees.

Having the right agent to negotiate on your behalf can often result in the landlord achieving a AAA net lease, meaning every outgoing is paid for by the tenant.

So how do investors decide?

Firstly you need to determine your personal investment criteria. A balanced approach should assist in mitigating any risks associated with your investment over a period of time.

When it comes to deciding whether you should invest in residential or commercial property, you should look at each investment opportunity on its individual merits and do extensive research to determine both its capital growth and rental yield potential.

The key is professional assistance. We have professionals in both commercial and residential property and are one of the few agencies in North Western Sydney that can provide a balanced view on these very different property investment vehicles.

If you’re considering a residential or commercial property investment, then don’t hesitate to give us a call as we service both the residential and commercial market place.

As with all financial Investment matters, please seek expert financial advice.