10 Differences Between Commercial and Residential
Navigating commercial real estate requires a unique set of skills and knowledge, different from those needed in residential real estate. While it might seem like a smooth transition from residential to commercial real estate, the two markets are distinct. Understanding property valuation, rent structures, and the various segments of commercial real estate (CRE) is crucial. With this understanding, you'll feel more confident and prepared to achieve your commercial real estate goals.
What is Commercial Real Estate (CRE)?
Commercial properties might refer to:
- Retail buildings
- Office buildings
- Warehouses
- Industrial buildings
- Apartment buildings
- “Mixed use” buildings, where the property may have a combination of uses, such as retail, office and apartments.
1. The Power of Your Commercial Real Estate Network
In commercial real estate, your network is key. Unlike residential real estate, commercial deals often rely on relationships and connections. The larger your network, the more opportunities you'll uncover. Having the right connections can lead to off-market deals that aren't publicly listed.
2. Navigating COMMERCIAL Segments & Markets
Residential brokers considering a move to commercial real estate should take their time and familiarize themselves with the market and its key players. Commercial real estate is divided into four main categories: industrial, office, retail, and hospitality. Within these categories, there are specialized investors who regularly buy and sell properties. Many of these transactions take place off-market.
3. Understanding the Influence of Owners on Residential Real Estate
In residential real estate, the decisions of individual owners can significantly impact sales, rental prices, and property values. Unlike commercial properties, which are primarily viewed as functional assets supporting business activities, residential properties are often influenced by the personal preferences of their owners.
4. Mastering Documentation for Commercial Real Estate Success
In commercial real estate, meticulous documentation of income and expenses is essential. Unlike residential properties, where buyers are often more focused on the property's condition and aesthetics, commercial buyers are interested in the income potential and reliability of the property's revenue stream. This means that you'll need to maintain detailed records of income, expenses, and performance to demonstrate exceptional returns to potential buyers when you decide to sell. Additionally, commercial tenants (lessees) are keen to understand additional costs such as Common Area Maintenance (CAM) charges and utility expenses.
5. Unveiling the Finance Dilemma: Higher Income in Commercial Real Estate vs. Easier Financing in Residential Properties
Commercial properties often offer longer lease agreements and greater rental income potential compared to residential properties. For those representing potential tenants or owners, longer leases with fixed increases benefit tenants, while CPI raises benefit owners. Residential real estate, on the other hand, is typically less complex. Financing for residential properties is generally easier, with commercial properties often requiring more capital upfront and being more expensive overall. In commercial real estate, longer leases and a tenant's strong credit can make financing easier.
6. Evictions: Dealing with Non-Paying Commercial Tenants
In commercial leasing, the key difference is the ease of dealing with non-paying tenants compared to residential properties. Residential tenancy involves navigating various tenant rights, which can sometimes be abused, leading to prolonged squatting at the landlord's expense. However, in commercial leasing, non-paying tenants can be swiftly evicted, especially if the lease includes a "good guy" clause. This clause allows tenants behind in rent to promise to vacate the property without resistance, making them "good guys" and simplifying the eviction process.
7. Winning Together: Commercial Real Estate as a Team Sport
Residential real estate often involves a fast-paced process—viewing multiple houses, making offers, and securing a contract within days. In commercial real estate, success relies on a trusted team of brokers, lenders, and underwriters collaborating closely with buyers. Unlike residential brokers, commercial brokers frequently co-broke, sharing listings more openly. While both types of brokers compete for exclusives, the rush to list properties on MLS is less pronounced in commercial real estate, where knowing specific brokers who can match properties with buyers is often more effective.
8. Understanding Differences in Rent Structure and Tenant Responsibilities in Commercial Real Estate
In commercial real estate, investments are typically based on annual returns calculated from rents, unlike residential properties where rents are advertised monthly. Some commercial rentals are structured as net leases, meaning tenants pay all expenses and maintenance for the property, including insurance, resulting in 100% net rent to the owner. When representing tenants, we negotiate for landlords to maintain key elements like the roof, walls, floors, and utilities, as these are essential for the property's integrity.
9. Valuation Methods for Commercial and Residential Properties
Generally, the primary distinction between commercial and residential real estate investing lies in their valuation methods. Residential properties are typically valued by comparing them to similar residential properties. In contrast, commercial real estate is valued based on its income potential from an investment standpoint. This approach necessitates an understanding of various industry standards and financial metrics. While some investors assess value based on rent multiples, most calculate it based on a specific return interest rate. If you need assistance finding reliable commercial appraisers, we have the contacts to connect you with top professionals.
10. Residential Real Estate: An Emotional Investment
Comparing commercial and residential real estate is akin to comparing apples and oranges. Investing in commercial real estate is primarily a numbers game, focusing on return on investment (ROI). In contrast, residential real estate is often more subjective, influenced by how a property "feels," and is far less straightforward. Residential purchases are typically long-term, personal, and emotional investments, often driven by the sense of a property being right, with ROI being less of a concern. Additionally, residential investors face the risk of a neighborhood appreciating or depreciating over time.
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