Commercial Property Risks

It is crucial to properly understand the risks involved in expanding your portfolio, especially if you want to invest in commercial properties.

Often, commercial real estate significantly differs from residential space. While it’s true that commercial properties offer higher income returns, the acquisition cost is considerably higher, and there are much more risks at play.

Commercial assets are more economically vulnerable

Government policy changes and unexpected economic recession affects both residential and commercial real estate. However, commercial properties usually take more damage from these downturns.

For instance, the pandemic took a blow on the economy where unemployment rates skyrocketed while spending plunged.

As a result, the retail industry and restaurants were heavily affected, causing them to close and stop expanding into newer commercial properties.

The local demographics could affect your property

We recommend that you keep the following factors in mind when scouting a commercial property:

• Accessibility to relevant businesses and material suppliers for your future tenants
• Distance from busy transport stations, business districts, and shopping centres

Most of the time, people who fail to understand the commercial market and conduct planning and research usually end up in financial trouble.

We advise not settling with finding a good commercial area. Taking a few steps further and consulting what the local council plans in the future can help you leverage unknown opportunities.

Block zoning developments

A commercial area may undergo development and change into a residential block or part of an expanding suburb.

While you can convert office space to accommodate residential use, you may have to look for a developer to purchase the property. Otherwise, you could spend more money renovating it to comply with residential property standards.

Both will hurt your financial strategy if you’re aiming for long-term returns from commercial tenants.

Reduced yield from surplus

Buying a commercial property in high-competition areas reduces your chances of attracting high-yielding tenants.

Aside from that, you may also struggle to keep your current leases if you have competitors with newer facilities and more features to offer to tenants. In other words, a surplus of supply negatively affects your yields as tenants will have more options and will find the best rates.

Infrastructure and development projects

Ongoing and fully-developed infrastructure projects will attract tenants and businesses faster than anticipated.

So if you want to invest in commercial property while minimising risks, consider looking for properties near infrastructures such as retail centres and transport stations.

Maintaining commercial spaces can be expensive

Before pushing through the investment, have a professional look into the building’s current structural integrity.

While a few exterior and interior redesign can be affordable, repairing major issues such as electrical wiring, plumbing, sewage, and structural deterioration can break your bank. If that’s the case, you’re better off looking for commercial properties in better condition elsewhere.

Some buildings may require costly renovation

First, you need to ensure that the building is in pristine structural condition and can accommodate interior renovations for many business types.

But while your tenant will shoulder most of those costs, you should make sure your space is functional enough to attract tenants and businesses.

That means you might need to draw from your own pocket to keep the building up to standards.

Massive entry costs

Commercial spaces generally cost more than residential properties, and that gap significantly increases in areas near Sydney’s central business district.

Aside from commercial properties, industrial spaces far from prime locations can also cost more. That’s because most industrial properties are considerably larger than most business spaces.

Hence, you may need to consider your options and target clients since larger spaces can sell longer than smaller suites and office spaces.

Don’t forget the goods and services tax (GST)

You mustn’t overlook the GST from the equation since it applies when you buy the property, receive rental income, and other expenses relevant to the property.

Potential vacancies in the long term

Regardless of your location, you might have more tenants leaving the property than coming to rent a spot. In other words, you become more dependent on your tenant than they are on you.

For people owning commercial spaces in tight economic environments, you may find yourself constantly trying to win tenants over.

Presenting attractive offers for tenants

If a residential property isn’t getting any tenants, the worst you can do is decrease the rent price by a couple of dollars.

But for commercial spaces, you’ll need more than that to make a strong offer. You might consider offering a rent-free period of about 5-6 months, along with assistance in fit-out costs and other expenses.

Keep in mind that this poses a significant risk since you’re offering a lenient lease term for a tenant that might move to another area or drop out of business any time soon.

Lower vacancies

Commercial tenants may take several months up to years before vacating the property. Compare that to residential properties with vacancies of a few weeks; you can infer that the vacancy rate in commercial properties is significantly lower.

Furthermore, a commercial property’s value will reflect in its lease. That’s why establishments with vacated premises drastically drop in value, presenting an opportunity to leverage better prices in commercial turnarounds in the long run.

How to venture into commercial property with minimal risks

Keeping commercial property risks at a minimum requires committing to your investment and keeping your due diligence in mind.

Always stay up-to-date with market changes and commercial trends to keep yourself seven steps ahead of the competition.

Seeking professional help from specialist mortgage brokers is also a smart decision. Aside from that, consider having a professional team to back you up, including:

• A property manager monitors your tenancy and supervising leasee to keep prompt rent payments and inform you of any renovations in the property.
• A solicitor helps you make better decisions in purchasing commercial property and ensure that the property agreement is in your best interest.
• A commercial property agent assists you in winning over major tenants by putting strong offers on the table.

Expert tips to reduce commercial property risks

Here are some tips from our commercial mortgage brokers to help you minimise the risks of investing in commercial property for the first time:

• Consider the potential businesses in your vicinity and whether they match with your commercial property perfectly.
• New investors should consider smaller properties than purchasing larger commercial spaces right off the bat.
• Don’t miss opportunities that come at an inevitable risk. That includes long-term advantages such as ongoing infrastructure projects or shopping districts.
• Consider the vacancy risk when purchasing multi-tenanted units or properties.
• Ensure that you understand the lease agreement cover-to-cover and know your responsibilities and rights as the property owner.
• Before approving or winning over a tenant, review their financial strength first. Government and corporate tenants are usually your best clients.
• Review all your options to maximise property value so you can attract reliable tenants and property buyers with less effort.
• The development of new suburbs presents a goldmine of opportunities for commercial property investors. That includes potential ventures such as childcare facilities, cafes, or small office spaces for people who love working closer to home.

The commercial space and future of the market may change unexpectedly. However, making reliable decisions based on proper research and market study will help you lay your foundation in the industry and live through the risks of venturing into a commercial property.