As a residential property investor, negatively geared properties can be the norm. Short term pain for that longer term gain of capital growth. That’s fine for one or two investments, but what if rising rates means that you can’t continue to invest? There’s only so much you can afford out of your own pocket, and there’s only so much a bank will let you borrow. Often investors are left wanting more, especially those nearer to retirement age where cashflow becomes even more important.
Commercial property is often an asset class that savvy investors turn to for their next chapter of property investing. With the promise of higher rents and longer leases, it can often be the holy grail of property investing. In fact, a growing number of investors are switching to commercial properties as their sole choice of investment.
The biggest advantage of investing in commercial property is that compared to residential properties, the rents are higher and come with yearly rent increases. Not only that, it’s the tenant who pays the property expenses such as rates, water and insurance. This winning combination leaves the investor with more cash in their bank account each month.
Commercial property investors with more cashflow at their disposal tend to do one of two things:
1. They use this extra cashflow to fund their lifestyle or even look to replace their day job. Depending on the property, some investors can retire on the cashflow from a single commercial property.
2. This extra cashflow gives them a growing bank balance, fuels the deposit on their next purchase and thus speeding up the investment journey. Banks look more favourably on a portfolio with strong cashflow, and so commercial properties tend to allow investors to grow their portfolios quicker.
There’s often the myth that commercial properties with all their cashflow glory don’t come with any capital growth. This could not be further from the truth with commercial property values rising in line with residential values these past few years. Some as high as 25-30% growth. In commercial property, the value of the property directly linked to the rent. By increasing the rents, the value of the property can go up too. This is what makes commercial property an attractive choice for property investors who want to take it to the next level.
The other common myth with commercial properties, is that they come at a high price or require you to have a big deposit. Again, this could not be further from the truth. To illustrate this point, we take a look at a recent purchase made in current market conditions where any investor could have added this to their portfolio.
Some key points about this purchase
Deposit – 30% deposits are generally the norm for commercial property, however more banks are now coming to the party with 20% deposits for certain purchases. Some investors may still opt for a larger deposit, which in turns provides more banks to choose from, less borrowing and more cashflow.
Risk – This property was purchased with a seven-year lease, and a tenant who had been in business for multiple years prior. Rent increases over the course of the lease are a healthy 3% per year which means cashflow grows every year and because the mortgage is interest only (the norm for commercial property), the debt remains the same. Additionally, this property is situated in the 2032 Brisbane Olympics precinct which bodes well for future capital growth.
Return – In the first year, cashflow is a very healthy 8.58% return on investment. Factoring in a conservative 5% yearly capital growth rate, this adds another $24,250 bringing the grand total in the first year of $34,410 or 29.1% return. These figures are based on a ‘cash on cash’ return, or in other words, the return achieved based on the initial cash deposit put into the property.
These real-life numbers show how choosing commercial property can be an achievable investment option for most. Some investors opt for diversification in both residential and commercial, but more and more investors are hopping into commercial property as their sole asset of choice.