Residential Vs Commercial Real Estate Investing
When investing in real estate, there are principally two categories in which you may choose to invest in: residential real estate (RRE) and commercial real estate (CRE). Residential real estate refers to property solely developed to provide tenants housing and includes property types like apartments. In contrast, commercial real estate has been designed to facilitate the operations of a business. Both properties can have tenants that pay rent; however, RRE properties are typically leased out to individuals or families, while CRE properties are leased out to companies.
So which of these two categories is more attractive for real estate investment? There is no right or wrong answer in this case. It varies based on investor preference and goals, risk tolerance, and availability of real estate financing, amongst other variables. As such, the attractiveness will vary from deal to deal. However, some considerations can influence whether you may be more inclined towards investing in RRE or CRE. We’ll go into more detail so you know what to look out for.
Key Considerations For Residential Real Estate (RRE)
Benefits
- Accessible for new investors:
It is generally easier to invest in RRE than CRE due to the usually lower complexity and lower capital requirements when investing in a property. Managing an RRE as a landlord is a straightforward process compared to investing in a CRE.
- Stable demand:
People will always need a place to live, so RRE are usually considered safer bets than commercial properties. Of course, this is still highly dependent on location, property condition, and other local conditions. However, it is usually easier to find tenants to live in a unit, than businesses to operate out of one.
- Appreciation
As with most real estate investments, the potential for appreciation exists, though it depends on numerous factors including: the state of the property, location, economic conditions, and more. As an owner, you can try to force a property to appreciate by adding value through refurbishment and repair projects too.
- Tax benefits
Deducting mortgage interest, property taxes, and depreciation on the property are some of the tax benefits investors can receive from their invest in RRE property.
- The rental market can be competitive
Finding tenants in a competitive market can be a real challenge, and depending on location and market, investors may have to contend with long vacancies.
- Maintenance costs can be high
Depending on the tenant and state of the property, ongoing maintenance costs can be expensive both in terms of finances and time, as they can be a time sink should there be persistent breakdowns. A common strategy is to hire property management companies to manage these. However, it’s only really cost-effective for larger multi-family projects.
- Sensitive to changing market dynamics
An economic downturn can significantly impact rental income for residential properties. Tenants may vacate your property, or you may have to offer lower rent to offset your tenants’ potential unemployment or lower earnings.
- Tenant turnover
Relative to a CRE, RREs risk having long-term vacancies that restrict cash flow, which is particularly dangerous with single-family homes. A vacancy could remove all income from the property until a tenant is found. Also, unlike the usually long-term leases in commercial investments, RRE tenants tend to sign for shorter periods, usually up to a maximum of a year.
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Key Considerations For Commercial Real Estate (CRE)
- Higher rental income:
Generally, rental rates for businesses are higher than for residential properties, which can help generate robust cash flow over time. The rental period is also typically longer, as companies will likely sign up to take advantage of long-term rent conditions. This means that tenant turnover can be much lower than in RRE properties contributing to a steady income.
- Appreciation
In general, they, too, enjoy the same potential for appreciation as RREs, but commercial properties may appreciate faster than RREs in certain conditions.
- Tenant turnover
CREs have the benefit of signing long-term leases with their tenants. While filling an existing vacancy can be a challenge depending on property type, layout, location, and more, as the tenant pool is relatively more limited than for RREs. However, once they have found a tenant, it is uncommon to have a tenant vacate in a short period so owners can expect stable, predictable rent.
- Higher upfront capital investment and costs
Purchasing or investing in a commercial real estate property can be significantly more expensive than residential properties. This can be due to the larger purchase price, including the down payment requirement, complex transactions, renovation needs, and maintenance costs.
- Maintenance costs can be more complex and expensive
Certain CREs have specialized or industrial tools or equipment that needs to be maintained. Additionally, the heavy footfall to commercial properties can introduce a lot of wear and tear, necessitating continuous maintenance and repairs.
- Harder to finance
Due to the more sizable investment required, finding a financier can be more difficult. However, it is still possible to secure funding as long as you have an attractive project proposal that has been drafted with care. And should you find yourself stuck at any point with raising funds, whether for commercial or residential property, consider contacting our team at RE Investor News. We specialize in securing real estate investment funding for various projects to enable investors’ ambitions.
- Sensitive to changing market dynamics
While generally not immediately impacted by an economic downturn, should the recession prove extensive enough, these properties may face vacancies with businesses closing down or consolidating their physical locations centrally in another property.
- Complicated agreements
The purchase and lease agreements can be complicated and detailed, with a lot of fine print to parse and negotiate. Spending the time to review all agreements can set the stage for a successful purchase or tenancy period.
Conclusion
When deciding on your next investment, give some thought to the type of property you would like to invest in based on the above pros and cons. Either one stands to be a potentially lucrative real estate investment deal. It depends very much on the investor’s goals and preferences, along with standard variables like location, market conditions, property condition, etc. Once you know the road you want to go down, you may be scouting for financing options. If you’re at that stage in your investment process, consider talking to our RE Investor News team. We’ve built a strong reputation as reliable specialists in the real estate funding domain and can assist in finding you reliable financing options that are specific to your needs. Get in touch with us to find out how!
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