Investing in commercial real estate: 9 essential tips for success
Real estate is considered a lucrative investment for foreign buyers — particularly in times of the crisis, as it is an excellent vehicle to protect funds against inflation, devaluation and other currency risks. According to the 2014 study by Tranio, investment appeal is the second most important element for these buyers. However, building a balanced investment portfolio can be tricky as commercial property comes with higher risks and stricter legislation. In order to save time and avoid costly mistakes, nine essential features will determine the success of your investment.
1. Location, location, location!
The location of the property essentially determines its earning power, risks and liquidity. Easy access, proximity to transport and urban hubs will add value while selecting a stable country will ensure you do not incur losses due to political or economic changes. Austria, the UK, Germany, the USA and France are considered the safest investment destinations In particular, commercial property in Berlin is popular with investors thanks to
Aim to invest at least €500,000 for optimal yields — any lower and yields will suffer. At 4% on average in central Europe, investments under half a million will bring home less €20,000 per annum. Niche property segments can be particularly lucrative: hostels yields
|Property type||– Apartments
– Hotel units
– Hostels (to be renovated)
|– Apartment buildings
– Mini hotels/hostels
– Street retail property
|– Large hotels
– Shopping malls
– Retirement homes
3. Acquisition and maintenance costs
The total fees can range from 5% to 20% of the property value when you include registration duty, notary and broker fees, tax as well as due diligence costs. In order to prepare realistic revenue forecasts, consider maintenance costs, utilities and repairs as well as insurance and taxes when studying yield forecasts. Each country has developed tax benefits and deductions so it is worthwhile consulting a local specialist to establish the most
4. Tenants and lease agreements
When buying commercial property to lease, occupancy rates should be ideally at least 90%. For property with tenants in it already, it is imperative to consult the lease terms and make sure there are no clauses or amendments that could restrict further development opportunities. You should also find out whether current tenants are reliable and pay on time every month. If there are alternative plans for the property, interested investors need to investigate if and how it is legally possible to terminate the agreement with tenants. In terms of lease contracts, triple and absolute NNN leases are the most beneficial for investors as they incur minimal responsibility and maintenance costs.
|Type of lease||Specifics|
|Gross rent lease||Property owner covers utility bills, repairs and operational costs, insurance and (often) taxes.|
(Single net lease)
|Tenant covers utility bills and their part of property tax in proportion to the area occupied.|
(Double net lease)
|Tenant covers maintenance costs, utility bills or minor repairs. The owner is responsible for major repairs such as roof and structural faults.|
(Triple net lease)
|Property owner imposes a triple charge on the tenant (contained in the contract): taxes, insurance and maintenance costs.|
|Absolute NNN lease||Tenant bears all expenses even if the building is damaged by an external event.|
Revenue comes from rental yields, capital growth, IRR, ROI, etc. Traditionally, returns are higher if you manage the property yourself, rather than outsourcing to a management company.
|Rental yield||The average rental yield in Europe
|Absolute return||Absolute annual return is the return generated by an asset during the year.|
|Capital growth||Capital growth expresses the increase of property value over time|
|IRR (Internal Rate of Return)||IRR takes into account the net present value of all cash flows to show the percentage earned on each euro invested.|
|ROI (return on investment)||This ratio encompasses total returns for the investor after deduction of associated costs.|
Risk is the possibility of loss caused by certain changes. An investor seeking higher yields should be ready to shoulder higher risks. For instance, demand for office property in the central London exceeds the supply, which reduces yields (to about 4%) for investors in the segment. Office space in less popular areas generates higher yields say, Liverpool for example, where it is about 7% because it is not an international business hub, which increases risks linked to occupancy.
Using a loan to leverage an investment can boost yields. For example, a borrower buying an investment property for sale in Germany can expect to get financing for 60% of the property value at 2% interest per annum. If the standard rental yield on this property is 6.5%, a leveraged investment could generate up
8. Property management
“Good property management is like a gourmet meal that has great presentation, tastes amazing, and completely satisfies you. And the best of all, you never have to be concerned with any of the details. It’s just there for you to enjoy,” says R. Craig Coppola, a US commercial property broker in his book How To Win In Commercial Real Estate Investing. The owner can certainly manage the property independently but often it is more convenient and efficient to outsource this service. To learn more, check out our article on property management companies.
9. Exit strategy and term of investment
There are two ways to exit the investment project: bequeath it or sell it.
- Bequeathing property to a relation will see its value increase organically over time (barring a devastating market crisis) as long as it is in the family. Hire a local specialist to structure the
hand-overso as to keep taxes as low as possible. For instance, in France it is better to register property in the name of a property vehicle (Société Civile Immobilière or SCI) as it avoids inheritance and gift taxes.
- Selling a property: it is common to hold an investment for
10–20 years. When investing, liquidity is a major consideration and not least for this reason: a liquid asset can be sold quickly ( 2–4 months) without a significant depreciation, thus freeing up funds for other projects or needs. The most liquid property is in prime locations or multipurpose real estate.
Property remains one of the best investment vehicles available today. Not only does it protect your assets from inflation thanks to steadily rising prices, it is less volatile than the stock market. As opposed to securities, real estate prices don’t drop too low during downturns and hard times. For instance, European property prices lost 4% on average and no more than 10% across most of the region in 2009 according to OECD data. During the same period, all the major share indices lost
Investing in commercial real estate is not as daunting as it may seem, it just demands rigorous research and an eye for detail.
Yulia Kozhevnikova, Tranio