6 Key Questions You Should Always Ask Before Investing in a Commercial Real-Estate Property
Before investing in any kind of commercial real estate, make sure you have all of the information you need to make an educated buying decision.
Commercial real estate is one of the most reliable investment opportunities.
Many people build long-term wealth through their property investments. Cyrus McCormick, one of the wealthiest Chicagoans in history, made his fortune early by inventing a useful tool, but he grew his wealth to massive proportions by buying properties in Chicago and waiting for the city to be built up around him. He grew his fortune to what would be $215.9 million today.
McCormick is an early example of the wealth-building model that many of the wealthiest people in the world follow today. One commercial real-estate investment funds the next, and the wealth quickly snowballs into a fortune.
While it's reliable, you need to know many things to achieve the highest ROI possible. Before moving forward with your latest investment, be sure to do your research and ask yourself the important questions.
1. Are you looking for cash flow or appreciation?
There are two ways commercial real-estate investors typically hope to make a profit. Investors make their money back either through cash flow or appreciation. In some cases, investments with the highest ROI can create value through both appreciation and cash flow.
It's important to know if you're planning to achieve a strong ROI through cash flow or appreciation. This distinction affects the type of properties you choose. There are pros and cons to each type of investment.
Cash flow investment brings in regular rental income. If you're using a loan to pursue a cash flow investment, you'll need to find a property that brings in rental income higher than your monthly payments and any maintenance costs.
This will require research into the local market rates for rent and a thorough understanding of the condition your property is in. Cash flow investments are convenient, but they take more work to find. It usually means looking for a low-cost property that also drives high monthly rent.
If you're able to wait for a return on your investment, achieving a positive cash flow is less necessary. With a little bit of patience, you'll make your money back as the value of the property appreciates. This takes more time and has slightly more risk, but it allows for more flexibility.
2. Do you need liquidity in your investments?
Real estate is one of the least liquid types of investment. This means it's difficult to exit the investment if you realize you'd like the money you invested back. While it's possible to exit a real-estate investment early, it's not always easy and can mean taking a loss on the investment.
If you're worried about having your money tied up for years to come, you may want to consider more liquid investments than commercial real estate. Investing in stocks is typically a much more liquid investment.
3. What is your risk tolerance?
While commercial real-estate investing is reliable, there is some risk involved. It's important to know your risk tolerance before entering an investment. If the market goes south for a while, will you be able to remain afloat financially while you wait for the market to recover?
If you wouldn't be able to support yourself in the event of a market downturn, you should consider low-risk investments. Look at low-cost properties in reliable locations. However, if you're able to handle some risk, you may see higher returns.
4. What are the market trends?
Understanding market trends is the most important part of being a successful investor. While you can look at global trends, it's also essential to look at the trends in your specific area.
Commercial real-estate company CBRE performed market research and found that the commercial real-estate market is on the rise. According to its analysis, multifamily investment volume should reach $191 billion next year, a 33 percent gain from last year's volume.
The type of area you're investing in will have a significant impact. Be sure to research global and local trends before making your final investment decision. You'll achieve much higher returns when you take the time to be an informed investor.
5. Which industries will you enter?
There are many industries you can target within commercial real estate. Are you hoping to own retail space, medical offices, hotels or mixed-use space? Each industry has its own needs and market trends.
This year, data centers and storage space facilities have been red hot markets for commercial real-estate investors over the past year. Real-estate investment trusts saw returns higher than 20 percent for data centers in 2020. Investment in self-storage properties had similar returns and is also expected to grow tremendously in the coming years. The annual growth rate is forecasted at a whopping 134.79 percent through 2025.
Look into industries with high returns and high growth rates when choosing the type of commercial property you want to invest in. Not all investments are equal, so do your research before moving forward.
6. How will zoning regulations affect you?
Investing in real estate requires knowledge of the regulations in your area. Zoning regulations can impact your investment because they may determine how you're able to use your property.
If you're hoping to own a mixed-use space that combines retail and residential spaces, you'll have to know if the zoning allows for that. After you look into zoning regulations in the area you'd like to invest in, you'll have a better understanding of how you can use the space and how that will affect your finances.
Still concerned about making your first (or fiftieth) commercial real-estate investment? The nerves aren't likely to go anywhere anytime soon, but armed with the above six questions, you can at least take comfort in knowing that you're making the kinds of inquiries that will help you make smart, educated investment decisions.
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