Commercial Investing guide
Commercial property can be a great investment for those looking to build passive income—with the potential for impressive returns in the long run. However, before you dive in, it’s important to understand the basics. In this commercial investing guide, Rethink Investing explains how to get into commercial property investment.
Why invest in commercial property?
Commercial properties offer the highest cash flow in Australian real estate—offering higher yields when compared to residential property. Here are the main reasons for this:
The basics of commercial property investing
What is a commercial property investment?
A commercial property investment is specifically used by an investor to generate a profit. In Australia, commercial property generally takes the form of a building which fits within a certain property type: office space, retail, industrial, and specialty. However, there are many other sub categories such as medical, hotels, short-term accommodation and more.
What are the main types of commercial real estate?
Commercial real estate properties generally fall into one of four distinct asset classes: office spaces, retail properties, industrial facilities, and specialty assets. Each asset type comes with its own set of risks and rewards, influenced by economic trends and market dynamics.
As an investor, it’s important to familiarise yourself with the basics of each type and understand how they relate to current market conditions. This knowledge will help you make informed decisions and position your investment for success. Explore the characteristics and considerations of these asset classes to identify opportunities that align with your financial goals and maximise your returns.
1. Office space
Office spaces range from towering CBD office buildings to smaller suburban offices. When investing in office properties, consider key factors like employment growth, business confidence, and shifts in workplace dynamics, such as increased remote work post-COVID-19. High-quality office investments typically:
2. Retail
Retail properties vary widely, from expansive shopping centres to small storefronts. Market drivers include consumer confidence, interest rates, tenancy mix, and income growth. Investor demand in this sector is often influenced by broader economic health. Quality retail properties tend to:
3. Industrial
Industrial properties cover a broad spectrum, from small facilities to large distribution centres. These investments hinge on proximity to transport infrastructure, such as freeways, ports, and cargo docks. Key factors for high-quality industrial properties include:
4. Specialty Properties
Specialty commercial properties encompass assets like childcare centres, service stations, hotels, and pubs. These properties are often influenced by the economic climate and sector-specific confidence. High-performing specialty properties typically:
What to look when investing incommercial property
Location
When it comes to investing in commercial property, location is vital. It could make or break your investment. Depending on the type of commercial investment, you will need to satisfy different criteria each time.
Vacancy
Vacancy rates can be used as a barometer for what’s going on in the area. A lot of vacant shops, warehouses and offices could indicate future difficulties in securing a new tenant, should you lose yours.
But don’t forget—commercial properties are still available even when vacant! The reason? There’s an owner occupier market, just as there is with residential property. Many businesses buy the property they occupy. When they sell, the building goes to market again.
Building
Pursue a modern building with a well-maintained exterior and interior, where minimum upkeep is required.
Tenants
The value of an investment property is often closely tied to the strength of its lease, and tenants with previous long-term leasing arrangements are highly desirable. It’s a sign that the business is performing well, and that they’re unlikely to move if they’ve built up a certain customer base in the location. For example, a dental surgery, veterinarian or beauty salon.
Property fitouts can also run into the hundreds of thousands of dollars. Such investments mean that tenants will be reluctant to leave, even if they find cheaper rent down the road. It’s in their best interests to stay long-term.
How to add value to your commercial investment
Buying under market value immediately increases the value of your investment, as it’s already worth more than the purchase price.
Some tenants occupy industrial assets and build mezzanines as a way to create more space, or to provide an office for their business. Many are built without council approval and cannot technically be added to the square footage of the building by law. Do your research here: there may be a chance to secure a lower sale price and retrospectively approve the add-on through council—equalling an instant increase in the property’s value.
By adding more square meterage to the property or dividing up space, you can add significant value to your commercial investment property.
Add highly desirable assets such as storage or parking. Both are highly sought after by tenants, and could result in a long-term lease and higher rental returns.
Rental increases can have a huge effect on your investment portfolio, as it increases cash flow and capital growth.
Increasing the length of your lease will increase the security on the property, which will mean investors will value your property at a higher rate.
Learn more about how to add value to your commercial investment in this article.
How to add value to your commercial property
How to invest in commercial property in Australia
For those starting on their investment journey, the expertise of commercial buyer’s agents can pay dividends. A commercial buyer’s agent can help introduce you to the commercial property market, acting as a guide as you navigate the investment process. Here’s how to invest in commercial property in Australia, with the help of an investment property expert.
Undertake due diligence
First, your buyer’s agent will research the tenant and their business — past and present. How long have they been on the premises? Are there any risks associated with the tenant? They will request an arrears report and establish whether the tenant has paid their rent on time, as well as whether they’re paid up to date. Remember: in commercial property, the tenant is everything. It’s important to purchase a property which will generate interest from quality tenants. Your buyer’s agent can help you conduct a complete analysis of potential tenants.
Share expertise on the various commercial investment types
A good buyer’s agent will educate you on the different types of commercial properties, including the associated risks and benefits (or you can undertake our Commercial Education course). Each asset class exists within a certain stage in a broader cycle; a knowledgeable buyer’s agent can advise you on the solidity of your investment for years to come. Or, they’ll have rental income calculator tools at their disposal to assist you.
Understand the locations you’d
like to buy in
It is vital that your buyer’s agent understands the market value of the areas you’re interested in, including what similar properties in the area lease and sell for, upcoming infrastructure development, and population growth prospects. Depending on your personal criteria as the client, a buyer’s agent will have the connections to find a property that suits your needs: whether you’re looking for high growth areas like capital cities, high cash flow, or a more diverse portfolio.
Source properties on your behalf
Experienced buyer’s agent tend to have larger networks, delivering more off-market properties to investors. Off-market properties are extremely valuable to you; it means less competition.
Support you through the whole sales process
A buyer’s agent can be an important source of support for investors, helping you through the entire sales process. From assisting with financing requirements to negotiating the contract’s terms on your behalf, a commercial buyer’s agent is an invaluable asset. Learn more about our dedicated Financing team at Rethink Financing.
Link you up with the best property management options
Not only do commercial buyer’s agents have connections with off-market properties; they have a wealth of contacts in all aspects of the commercial field.
Provide long term
support
After settlement, they will continue to support you with your property, ensuring you maximise cash flow for the duration of your ownership.
Learn more about our expert team of Commercial Buyers Agents.
Pros of commercial property compared to residential investment
You generate passive income sooner
High quality commercial property has the potential to pay itself off in ten years, rather than the typical thirty years a residential property may take. After the debt is paid, all that cash flow goes straight into your pocket rather than to the bank.
Higher rental income
Commercial property has always offered higher yields than residential. With commercial demand increasing and interest rates stabilising, yields have reached levels you would never see in residential. In the post-COVID climate, commercial yields are circa 6-7.5% for quality assets.
Negotiable lease terms
Because contracts with tenants are incredibly fluid, you can use this to your advantage and secure a great deal—if you know what you’re doing. This is where a buyer’s agent can step in to help maximise your lease terms.
Tenant pays outgoings
Unlike residential property, where the landlord often pays for outgoings like water usage, council rates, repairs and maintenance, most commercial tenants sign ‘net leases’ which require them to pay all outgoings.
Longer leases
A commercial lease term can span anywhere from two years to as long as twenty years depending on the asset class and tenant.
Higher quality tenant
Tenants have a vested interest in the property because it’s their livelihood, which means they are more likely to look after it. Businesses that have a reputation to uphold, so they are also more likely to pay their rent on time; it’s not a good look to the public if a large company doesn’t pay their rent accordingly. For these reasons, commercial leases can hold fewer risks than that of residential.
Annual rent increases
Most commercial property contracts have fixed annual rent increases built in. This is often around 3-4% or is linked to the Consumer Price Index (CPI).
Diversification
By holding both commercial and residential properties in your portfolio, you are better placed to mitigate risks if either of these markets stagnate or pull back.
Tax benefits
Commercial investors have the opportunity to claim thousands of dollars in tax benefits, due to depreciation.
Variety of ownership structures
You can purchase through a variety of entities including self-managed super funds, discretionary trusts, a company, or individuals in a partnership.
Highly accessible to all investors
Commercial property is available at multiple price points, from a small warehouse in the five figures to a large shopping centre in the millions.
Cons of commercial property
compared to residential
Higher deposits needed
Commercial property loans require a minimum deposit of 30% due to lower loan-to-value ratios (LVRs) compared to residential properties, which often allow 90-95% LVRs with deposits as low as $50,000. At Rethink, we recommend a minimum deposit of $250,000 to secure an entry-level commercial asset and access quality investment opportunities.
Complicated lease terms
When you purchase a commercial property, unlike residential, you are entering into an agreement with the tenant and their business. Every term could be up for negotiation and you will need a seasoned lawyer and negotiator in your corner to make sure you understand what you’re signing up for.
Sensitive to economic conditions
Commercial property is directly linked to what’s happening in the economy. During COVID for example, our specialists saw a decline in demand for certain office assets and retail assets. This has been the result of more people working from home and shopping online. However, where consumer demand for these assets has fallen, others have fared incredibly well.
Industrial assets such as warehouses have flourished, with growing demand for online companies needing storage to park their goods. At the same time, smaller offices, coffee shops and local supermarkets in suburban areas have done incredibly well as people are staying close to home.
Reduced capital growth
This is tied to a few different variables. Business confidence, the strength of the lease and the state of the economy are just a few examples.
Potential for longer vacancies
Signing a commercial lease is a huge financial commitment for tenants, and commercial property has increased exposure to economic cycles. For these reasons and the management that the end of a lease requires (where you may need to conduct repairs or maintenance), you need to be able to handle longer vacancies.
Harder to sell
Commercial property is traditionally seen as riskier; it requires a deeper understanding of economics and business compared to residential. The best time to sell is at the beginning of a lease, with a tenant who is doing well.
How much money do you need to get into commercial property investing?
You can get into the commercial property market with around $250,000. So that’s a 30% deposit, plus stamp duty, solicitor fees and your building and pest inspections. That figure is based on a $600K property boasting 100 square feet (perhaps a small physiotherapist or office or warehouse located in a capital city with high population growth).
These properties are good quality with smaller tenants and could still offer three-year lease options, so they’re a great investment all around. As for finance options, some banks are offering 80% leases now.
See recent commercial properties we've purchased on behalf of our clients.
Commercial Property Investing Checklist:
- Always check for competition. You wouldn’t purchase a pharmacy if there’s two more being leased right around the corner.
- Check demand in the area you are considering investing in. If there’s a lot of nearby vacant space, there is an elevated risk of future vacancy.
- If you are purchasing a retail asset, make sure it is located near key operators to attract customers. This goes for both strip shops and those in malls.
- Always consider how long it would be to find a new tenant should your current one leave. Checking comparable rentals on the market is a handy start.
- Never pay too much for the property. Check rental and sale square metre comparables to confirm.
- Always check the payment history of the tenant to gain confidence in the business itself. Make sure there are no issues with the building or the strata (if applicable) by carrying out due diligence via building and pest reports, as well as strata reports.
- Speak with local lease managers to find out any market trends that might affect your property.