There are many types of real estate investments, all of which have their pros and cons. Commercial real estate is arguably the most complicated type, and involves far more factors than private real estate. If you’re going to be investing in commercial real estate, you’ll want to avoid the common pitfalls that lead to bankruptcy and ended careers. Following are five of the most common mistakes and how to avoid them.
1- Failing to Analyze the Market
When investing in commercial real estate, the market is far more important than the property. This might seem a little backwards, especially if you have invested in private homes in the past, but take this advice to heart. My father, who currently owns five commercial properties, has seen many a wonderful property fail in a poor market with oversupply and under-analyzed demographics.
Make sure you exercise due diligence in looking at the market before investing in commercial real estate. Will this type of property fill a void that currently exists in the community? And will the majority of locals have a use for the type of business it will serve? Asking these questions can help you avoid huge mistakes in your career.
2- Inadequate Property Analysis
A commercial real estate property that looks great from the outside can have a plethora of damage or problems on the inside, and vice versa. Just looking at a building won’t tell you whether or not it will make a good investment, so make sure you have it appraised by the appropriate professionals. Research the title, make sure the taxes are up-to-date, and have a mechanic or contractor prepare estimates for repairs.
It is also a good idea to know of any zoning limitations when investing in commercial property. Will you have a hard time selling it because certain businesses are not allowed? And will the property be conducive to the type of enterprise that is permitted?
3- Crunching the Wrong Numbers
Another big mistake in commercial real estate investing is crunching the wrong numbers when determining whether or not it is a solid investment. Not only do you have to look at the up-front costs of buying the property-including taxes, closing, appraisals and title work-but also the cost of repairs, replacements and upgrades. If it is going to cost more to buy the property and get it ready for use or sale than the income you’ll generate from it, you’ve hit a bad investment.
Investing in commercial real estate involves a certain level of foresight, which means looking into the future. What possible problems could arise that would prevent you from making money? How long is it taking for similar properties in the area to sell? And what unexpected repair costs might put you down in the proverbial hole?
4- Leveraging Too Much Money
Amateurs who pursue commercial real estate investing frequently underestimate the ramifications of over-leveraging their investments. If you’re borrowing too much money to purchase a property, you have to take into account the interest paid on the loan until you are able to generate a profit or sell. Some “real estate gurus” will tell you that 100% financing is a good gamble, but those people probably never use loans to flip properties.
5- Not Considering Alternatives
The commercial real estate market is anything but predictable, which means that if you are buying a property contingent on certain conditions, you’re playing with fire. For example, if you purchase an apartment complex under the assumption that you’ll be able to generate $1,000 per unit in rent, with no alternatives in sight, you stand to lose. Multiple exit strategies are the name of the game here, so make sure you have them.
Consider, for example, selling half-ownership of the apartment complex and lowering the rent by $100 each. This might lower your start-up income, but will actually produce a better investment over time. Foresight and flexibility will help your career enormously when investing in commercial real estate.