With a strongly performing economy, relatively low unemployment and an increasing population, Melbourne continues to perform as an economic powerhouse in Australia. Combine these with low-interest rates and suitable demographics, and Greater Melbourne continues to present as a great investment destination for commercial real estate.
Commercial real estate investment is vastly different from residential real estate investment. The only real commonality they share is that they both deal with property.
So, what are the reasons for a smart investor to consider investing in commercial real estate?
- Commercial leases offer rental yields between 5% and 12% – considerably higher than residential property at 3% to 4%. Consequently, they are generally cash flow positive, assuming you have invested in the right property in the correct location.
- Commercial property leases tend to be much longer than for residential leases, offering greater security for your cash flow and returns.
- Rental indexation generally operates at 3% to 4%, well above recent inflation figures which have struggled to exceed 2% in past years.
- Commercial tenants are mostly responsible for the majority of property-related costs such as rates, repairs, and maintenance as well as insurance and land tax.
- Because commercial tenants are on long leases, operating a customer-facing business, they are considerably more inclined to take care of the property.
- Commercial property investment can be highly taxing effective, whether because of the ownership structure of the investment (e.g. SMSF, discretionary trust or partnership structures) and significant opportunities for depreciation.
- The wide range of price points, mainly if an investor is prepared to look outside of a central business district, means that there is likely to be an investment opportunity for most.
Like any investment, there are things to watch out for, and as a savvy investor, it always makes sense to take advice from an experienced real estate agent in the area you’re looking to invest. Some things to consider include:
- Because of the perceived higher risk in commercial real estate development, finance terms tend to be stricter – deposits, interest rates, and administrative fees are all higher than for residential property investment.
- Sensitivity to economic conditions is increased – economic shifts can have a real impact on the viability of the investment. A great current example is the combined impact of lower consumer spending and increased online purchasing for primary and secondary retail currently.
- Vacant properties can take much longer to lease than for the residential market, which can be a significant pull on cash. And if that means you need to sell, that is likely to take longer as well.
- To secure a suitable tenant the landlord may need to provide rental incentives up-front, such as extended rent-free periods or fit-out assistance.
- Commercial leases are complex and subject to substantial negotiation, which means increased involvement and expense with lawyers and accountants.
What this means in practice is that if you are looking to enter or expand in the commercial real estate investment market, it is critical that you work with an experienced and reputable commercial real estate advisor with a deep understanding and knowledge of the location and investment type you are considering. This will help you to identify the right property servicing the right commercial sector for your investment location, ensuring you can tenant the property, building practical and serviceable budgets and making sense of advertised returns.
