New Blueprint: The Return of Commercial Property Investing
Could This ‘Ugly Duckling’ Of The Property World Be For You ?
A Special Report by Mark Hempshell – Chief Opportunity Analyst
Residential property has become more difficult to get involved in of late. Rising prices, especially in the south east of the UK, have made it trickier for newbies to get a toehold in the market.
But over the last year a slightly different kind of buy to let has started to attract more attention. At first glance this kind of property might seem a bit of an ugly duckling …. there’s not a slick city living apartment or cosy cottage to be seen. But there are signs that it could offer an easier, cheaper investment plus better returns than houses and flats.
So in this report I’ll look at how the small entrepreneur, even one with no experience and little capital, could get started in the commercial property market.
Although the commercial property market is smaller than the residential market it’s still massive. It’s currently estimated to be worth around £500 billion – and it’s forecast to grow briskly as the economy recovers.
Opportunities in the commercial property market
Commercial property is any kind of property which is used by a business as part of its business operations – so there’s certainly plenty of opportunities to choose from. Broadly though it divides down into five main opportunities:
As an investment commercial property is very scalable. It can include everything from a small shop to a vast warehouse and everything inbetween. You can invest in whatever size of property suits your budget, starting from just a few £thousand.
Tip.: Retail, office and light industrial property probably offer the easiest entry point for the new investor. So you might look at investing in a small lock-up shop or office, workshop, railway arch type unit or light industrial unit and let it out to a local business.
- Industrial, such as factories and warehouses
- Hotels and other leisure property
- Commercial land
Reasons to consider getting involved in commercial property
- It’s generally much cheaper to buy ‘brick for brick’ than residential. Often just 20-25% of the price. That means you can get started fairly cheaply. In some locations it’s perfectly possible to buy a small lock up shop or office with letting potential for not much more than £10,000
- The potential returns or yields are much higher than residential. This is one of the most exciting things about commercial property! Residential yields are typically around 3-8% but commercial yields are typically between 10-20%. Imagine making that sort of return on your money! (Yield is what percentage of a property’s purchase price is earned in rent each year. For example, a commercial property which cost £40,000 and earned £600 a month or £7,200 a year in rent would offer a yield of 18%.)
- Commercial leases tend to be longer. Often up to 15-25 years, with periodic break clauses. So once a tenant is in place you can sit back and collect your rent year after year without having to continuously find new tenants. Even better, many commercial leases have built in rent rises so your income increases automatically each year!
- Commercial tenants are usually responsible for maintenance. This includes everything from day to day repairs to regular refurbishment of the property. Unlike with residential property you’ll never have rush out to fix a broken loo or face large, unexpected repair bills. It can make for a very hands-off investment once everything is set up.
- Some commercial properties have potential for adding value with redevelopment. For example, over the last few years many investors have successfully bought closed-down pubs cheaply and turned them into shops. Or empty shops and offices and turned them into flats. So you could buy a cheap, unwanted commercial property and turn it into a more rentable, more valuable one.
- Tax advantages. Lots of tax allowances are offered to commercial investors, many of which aren’t available to residential investors. You can also own commercial property within a pension. (As this is a specialist area do take advice from a qualified financial adviser before buying to find out what you may be able to take advantage of.)
- This still looks like it could be a very good time to buy! Commercial property prices in some locations still haven’t really recovered from the recession. So you can still buy at 2008 ‘credit crunch’ prices, or only slightly above. As the economy recovers there should be good prospects for capital appreciation.
Are there any pitfalls?
Just as commercial property offers lots of advantages there are also a few pitfalls which need to be considered:
- Commercial property purchase is harder to finance. (This is one of the main reasons why, brick for brick, it is cheaper.) The good news is that new, innovative methods of financing are making it easier to finance commercial investments – more details on this coming up.
- Finding a tenant, particularly a good tenant, takes more work. You need to do the legwork before you can sit back and watch the rent rolling in.
- Lastly, recent history has tended to show that commercial property doesn’t appreciate in value as fast as residential property does. Unlike the price of houses it’s very unlikely to double or quadruple in a decade. So, most commercial investors invest for income first and capital appreciation second.
How to find commercial property
So if you’re interested in buying a commercial property, or even building a portfolio, what are the best ways to find property for sale?
- Firstly check for property advertised for sale on commercial property websites and through commercial property agents. Tip. Local residential estate agents also occasionally have smaller commercial properties for sale, which can be ideal for the new investor.
- Next look at property auctions. Buying at auction is probably the very best way to find good value. In particular auctions can be a good way of finding repossessed property or surplus disposals – property being sold off by local authorities and other bodies which they no longer require. This kind of property often has a very competitive guide price.
At the end of this report you will find some useful contacts for agents, auctions and other useful commercial property contacts.
- Commercial property is auctioned both at specialist commercial property auctions and at some mainly residential auctions too. Note. The auction process for commercial property works in exactly the same way as for residential property. You need to inspect the property, check the legal pack, take professional advice and have finance arranged before the auction. The sale is final on the fall of the hammer and the sale completes 30 days later.
Important to know: Vacant and tenanted property
When you invest in commercial property you can choose to invest in either property that is vacant or property that has a tenant in place on an existing lease. There are a couple of important things you need to know about this. Because, in this regard, commercial property is often the very reverse of residential property.
In residential property vacant property is worth more and property with a sitting tenant on a long lease is typically worth less. In commercial property however vacant property is normally cheaper – mainly because there is no ongoing income. In the commercial world tenanted property is usually worth more – because it is regarded as an income-producing asset which is earning money from day one.
Tip. Investing in cheap vacant commercial property and then finding a good tenant on a long lease is one way investors can make money, as it can add to the value of a property considerably.
Quality of tenant is also very important in commercial property. Here’s why: The better your tenant the easier it will be to finance or re-finance your property on better terms. The easier it will be to sell and the more it should be worth.
Tip. While lots of commercial landlords make good money by letting to, say, a local fast food takeaway, local small office-based business or local garage workshop, ‘blue chip’ is the holy grail in commercial property. For example, letting property to a national retailer or fast food chain. These kinds of tenants pay strong rents, normally maintain your property well and take long leases.
Choosing and buying commercial property
Here are some points you need to consider when choosing commercial property to buy:
- What’s demand like? Who will want to rent that property from you if you buy it? Is there a good supply of potential tenants for that type of property in that area? (Even if the property has a tenant already, what’s rental potential like when/if they leave?)
- As with residential, location is all important for commercial property. Retail property needs to be in a location that attracts good footfall. Warehousing needs to have good transport links and so on
- Avoid sectors that are struggling – and unusual property. For example, right now it’s very difficult to find tenants for a pub. An old bank building is hard to use for anything but a bank.
- Tip. If you are willing to consider some kind of development project you could make money by buying an unwanted/unlettable property and converting it into a more sought after and valuable one.
- Obtain accurate estimates of current rental value before buying. This will depend not only on the property but on current demand for that sort of property in that area. Commercial surveyors and letting agents can provide an accurate estimate of current rent levels as well as rentability.
- Finance. Whether a commercial property can be financed easily or at all depends on its type, its location and whether there’s a lease in place or not. If you need finance, consult a commercial finance broker on what finance options are available to you. More information on this coming up.
- Check the planning status of the property. This will affect who you can let your property to and so the achievable rent. The main official use classes under planning rules are as follows: A1: Shops. A2: Financial and professional services. A3: Food and drink. A4: Drinking establishments. A5: Takeaways. B1: Business. B2: General industrial. B8: Storage and distribution. C1: Hotels. C2: Residential institutions. C3: Dwellings. C4: Housing in multiple occupation. D1: Non-residential institutions, eg. health, places of worship, public buildings. D2: Assembly and leisure. Sui generis: Anything else!Tip. Some developers make money by converting commercial property from one usage class to another for which there is more demand and better rents. But – you need to check with the local authority if you are considering this. Planning permission is often required and it’s easier to get permission for some usage changes than others.* What potential for future development might there be? This can be an opportunity to make a lot of money in commercial property. For example, an industrial site or commercial plot may have future potential for residential development.Important. In commercial property, always take professional advice when you need it. A commercial agent or surveyor can give advice on rent levels, lettings potential and planning issues. They can also advertise your property, find you a tenant and manage it if you wish. For advice on contracts, leases and taxation take advice from a lawyer and or an accountant who is experienced in commercial property.
How to finance commercial property
It’s important to note that standard buy to let mortgages from high street banks and building societies can’t be used to buy commercial property. These are the main methods of financing commercial property:
- Cash. If you have some savings you can invest with cash. Even at, say, 10% yield a commercial property could earn ten times typical bank interest at the moment.
- Some investors who own residential property mortgage that and use the money to make a commercial investment with cash.
- Commercial finance. Commercial finance and mortgages are available to purchase commercial property. Commercial mortgages are usually much more flexible than buy to let mortgages but have different terms. Loans are usually available for 1-30 years. Interest rates and the loan to value (the percentage of the value of the property that will be loaned) vary depending not only on the applicant and on the property itself, but on the status of any tenant in the property.
- Tip. If you are considering using commercial finance then the usual way to find this is through a specialist agent or broker rather than direct to a lender. They can advise on what products are available and assist with your application.
- Alternative funding. Alternative funding is relatively new, but it is something that is beginning to transform the funding of property.
There are now a number of peer to peer funding platforms where you can link up with lenders directly. More details are in the useful contacts section.
- Alternative funding is any method of borrowing money that does not involve using a bank. Peer to peer or P2P funding as it’s known is a kind of alternative finance which has become more widely used for financing property purchases over the last few years. It is a system where those needing finance and those with money to lend set up loans directly between themselves, on mutually acceptable terms and interest rates, without using a bank.
It’s probably true to say that investing in commercial property won’t be for everybody. It’s a professional opportunity that requires a serious approach. It does require some capital, or the ability to raise capital – although new, innovative methods like peer to peer funding are opening opportunities like this up to many more people. It’s also something that requires a fair bit of legwork in the early days. And who really knows what will happen to the economy and hence the property market in the future?
But there are plus points which ought to make any entrepreneur take notice: It offers an opportunity to get into property at what is by today’s standards a low entry price. It can generate a significant cash return even from day one. And, once everything’s up and running, you can sit back and run quite a sizable portfolio with relatively little management work. So, if you’re looking for a more substantial, longer term way to build wealth – even if and particularly if you’ve considered residential property before and passed it by –then I think commercial property could be worth looking into.
Commercial Property Auctions
Pugh & Co.
Commercial Property Agents – Useful Websites
Commercial Finance Agents & Brokers
White Rose Finance Group
Peer To Peer Funding Platforms
(Specialist P2P property lending platform.)
Contact To Help Find Commercial Property Solicitors
Contact To Help Find Accountants & Financial Advisers