Commercial Real Estate has blown up recently and offers a wealth of opportunities in expanding investors’ portfolios everywhere. Now more than ever, it has become more accessible and easier to get started with real estate since the only main hurdle to entry is having the capital to invest. However, we do not recommend jumping right into investing in property without conducting plenty of legwork. Any good investor will tell you that, before you do anything, there is a decent amount of research you should do.
Due diligence is the first step of any venture into commercial real estate. To make worthwhile investments, you must do your research, develop a strategy, and determine your vehicle for investment. These vehicles refer to the methods of investing, which we’ll cover in this article in addition to defining commercial real estate.
What defines commercial real estate
Commercial real estate is a blanket statement that covers a wide range of properties. Commercial real estate investing, as defined by FNRP, is any property that is purchased with the intent to lease space for a profit. These “properties” fall under four main categories: retail, industrial, office, and multifamily.
Those four property types are categorized even further by class. These classes span from Class A to Class D and distinguish each property based on factors like newness, location, quality, and potential risk. For example, a Class A property is a newly constructed building in a good location near transit options, is high quality, and is guaranteed to attract good tenants.
Methods for investing in commercial real estate
A REIT or Real Estate Investment Trust is a company that acquires and manages commercial real estate properties. The main distinction that differentiates a REIT from a private equity firm is that the shares of the REIT can be publicly traded. In this model, the best UK REITs ares formed like a corporation would, entitling it to taxes, governance, and oversight requirements.
Profits from REIT investments are paid out to the shareholders as dividends from profit. By their design, they are required to pay out a minimum of 90% of their taxable income annually. For some investors, this shorter-term way of investing in real estate can be appealing. However, for long-term investors, this model has difficulty growing due to its requirement for paying dividends. That being said, this method is one of the more liquid options on this guide.
A REIT ETF (Exchange Traded Fund) works in almost the same way as a REIT except that it combines the ability to invest in a REIT while incorporating the ability to make transactions on a significant stock market exchange. Simply put, this version is highly liquid, comes with the same high dividends, has the appearance of passive income, but is highly vulnerable to price volatility.
Private Equity Firms
Similar to a REIT, a private equity firm collects money from investors where the combined funds are used to invest in real estate. The securities offered by a private equity firm are available for accredited investors and high net worth individuals. Typically, these firms are more difficult to gain access to but do not come with the same rules as a REIT.
Alternatively, you can invest in the private equity firm itself by choosing to buy shares in the best listed private equity firms.
While the profits one receives in a REIT come from the profits of the real estate, in a private equity firm, these dividends are paid from capital gains and interest. For investors, this model has a great deal of opportunity for growth since they are not required to pay out a significant amount of their profit. The best property investment books are frequently including chapters dedicated to private equity as the influence of PE increases in the commercial real estate space. The appeal does not stop there; in addition to the other benefits, this model allows investors to reduce their taxable income through depreciation.
Unlike the previous two methods, Fractional Ownership is a much more hands-on approach. In this model, investors can group their funds into an SPV (Special Purpose Vehicle) used to acquire real estate. In the other models thus far, the firm or trust maintains the responsibility for the management of these properties; however, this responsibility falls to those in the SPV.
To compare this to a business model, consider fractional ownership as a partnership. The “partners” have free reign to purchase any commercial real estate they see fit, and their dividends can be determined based on the desires of the “partners.”
While the other topics in this guide are companies, crowdfunding refers to the method in which money is sourced for purchasing commercial real estate. Currently, there are crowdfunding platforms online that collect investments from individuals who want an opportunity for exposure in commercial real estate. The most common sites for crowdfunding allow their users to view the properties they offer and will enable you to choose where your investment goes.
There are many benefits to crowdfunding in addition to its ease of access online. They allow you to invest at your own pace and are a liquid way to diversify your portfolio. However, depending on where you invest, there can be higher minimum investments. It can also be a risky endeavor, considering that investments in this model are usually for a single property, unlike the other models where your investment is used for ownership in a company that owns many properties.
While all of these methods can more or less accomplish the same goal for you, each has a different way of doing it. While each model has its advantages and disadvantages, no one model is objectively better than another. Ultimately, we recommend taking the time to do your due diligence. Consider taking the time to determine your own investing goals before making a decision.