residential investors have built sizable portfolios
with only moderate debt and are now looking at the
possibility of acquiring commercial property to
spice up their returns.
property investment does indeed have several attractions;
Gross yields are commonly 12%, and we have seen
yields on purchase price of up to 25% per annum
! Lease agreements tend to be much longer than the
6 or 12 months commonly associated with residential
property. And for the most part, you have much lower
obligations to maintain the property than for your
residential lets. Leases are often known as “FRI”
( Full Repairing and Insuring ) with the onus placed
on the tenant for these obligations.
why don’t more people invest in commercial
property ? Well the general “mystery”
and “aura” surrounding commercial property
and business generally is the main deterrent for
most. And certainly, you have to be careful. The
dynamics around businesses are quite different to
those around individuals.
key points to think about with commercial property
are as follows:
Transaction sizes. Generally they are much larger,
so if anything goes wrong, the numbers are more
scary. So try to start of with something of reasonable
size – perhaps a shop or a small commercial
unit for £100,000 or perhaps £200,000.
Tenant reliance – you may well be reliant
on just one tenant, or a few tenants. If you have
voids, you have a much larger amount to cover on
finance each month than on residential funding.
So try to spread your tenant risk. For example,
you might buy a shop with a flat above to get two
rental streams, or you might buy a commercial unit
that has been split into smaller units within it.
Fluctuations in value. The commercial market has
tended to be much more volatile than residential
values. Recent reductions in values of as much as
50% have been seen compared to, say 15% in mainstream
residential. (Some apartments, of course, have lost
much more value ). It seems possible that in buying
at the present time, you are purchasing at the bottom
of the market. This is not guaranteed however !
Make sure you get opinions from local commercial
valuers before buying. It can be useful to develop
a relationship with one firm of valuers and if necessary
pay them for their advice before proceeding.
“Tenant Covenant” – It can be
more difficult to assess the financial stability
of your business tenants, and therefore their ability
to pay their rents. However, with good advice, a
reasonable assessment can still be made and appropriate
decisions made. Look at how long the tenant has
been trading – many years, or is the business
start up ? Can they supply trading accounts which
show a profit ? Have they been paying rent previously
and for how much and how long ?
Building type & location – is it a modern
unit in a good location, with good access for delivery
vehicles. Or is it an old unit in a dying part of
The economy. A further downturn may well impact
more heavily on tenant demand and commercial property
prices than residential values.
points are a few of the things that you should look
into. Consult your professional advisors –
accountants and solicitors. Make sure your solicitor
particularly regularly deals with commercial property
regards borrowing for commercial property –
several lenders will provide commercial mortgages
for you. For the most part, 70% funding is the upper
limit, but additionally, the lenders will want to
know that you have considered all the above points
before proceeding. They will also want to know that
if you have voids, you can continue to service the
debt, so having some surplus income from other property,
or a good spread of tenants within your purchase
also assume that interest rates are going to go
up at some point. They therefore use a an interest
rate of approximately 7% to “stress”
the affordability of you loan funding, and typically
want 140% interest cover from rents for your loan
interest, using that 7% figure. Their actual rate
charged will be much less than this – typically
around 4% per annum.
to say, most mainstream lenders won’t fund
empty commercial property. If you are getting a
good deal because a property is empty, you can probably
fund 65% of the cost from a bridging company, who
will charge you high rates. You can then move the
lending to a mainstream lender when the property
is tenanted. However, make very sure that you know
what the state of the local rental market is like
before committing !
– there are lots of opportunities and benefits
associated with commercial, and those in the know
certainly seem to be taking advantage of the market
at the moment. But there are risks as well. Our
advice – buy some commercial, but start small
with good advisors around you. Gradual diversification
of your portfolio will eventually accelerate your
yields and provide some excellent opportunities
for future capital growth.