Pocket commercial gains

Mir Jaffer Ali

Armstrong Williams, a popular American political commentator and an entrepreneur once said, "Real estate provides the highest returns, the greatest values, and the least risk." Indeed. Since time immemorial, real estate has been a crucial part of a typical Indian investor's portfolio. While residential sector always score over its commercial counterpart, financially the latter is more rewarding.

Commercial properties are the properties that are intended to generate profit, either from capital gain or rental income. These include office space, hotels, restaurants, service apartments, shopping malls, retail stores, Industrial warehouses, hospitals, amongst others.

Advantages of investing

Higher income potential: Commercial properties garner better returns than residential properties. While an array of factors define the ROI, on an average one can expect double digit returns on an annual basis. For premium locations, the annual returns may even inch closer to 15 per cent or more.

Better maintained property: Commercial properties are better maintained as the tenants have their own interests and prejudices. Be it an office space or a retail store, sound maintenance of the property is something that one can be sure of. This improves the quality of the property and ultimately, the value of one's investment.

Longer lease: Unlike residential properties, where the agreement is usually for eleven months, tenancy of commercial properties can vary anywhere between three to 12 years or even more. Since a good number of tenants invest in customising a property, they tend to stay longer. Thus, as long as the building is occupied, one can be sure of constant cash flow.

Low or no furnishing cost: In commercial properties, the concept of furnishing is not very popular. If there is a furnished property, well and good, otherwise, one can even rent out an unfurnished unit to the tenants for them to design. Branding being a crucial aspect for any organization, tenants often prefer to design or furnish the property themselves to reflect their ideologies and social standing.

Know the downside

Bigger initial investment: Acquiring a commercial property typically requires more capital up front than a residential one. Thus, at the outset, it might burn a deeper hole in one's pocket.

Buying process: Buying a commercial property requires efficient planning and very thorough research. One needs to think about the location and kind of business the property is conducive for. The future growth of the area will decide the returns a property can fetch.

Professional help:  Maintenance of a commercial property is a bit difficult than a residential one. Thus, often people opt for professional help, which comes at a cost.

Not easy to sell or find a tenant: For large commercial properties, it might take longer durations to sell or even find a suitable tenant.

Is loan an option?

Yes, but the loan route for commercial properties comes at a higher rate.

• Most banks do not offer loan at a fixed rate. It often depends on the risk assessment by the banks. Normally, the rate of interest is two to five per cent higher than the home loan interest rate.
• Additionally, the Loan to Value (LTV) ratio for commercial property is 60 per cent while it is 80 per cent for the residential property. Therefore, one needs to arrange remaining funds from other sources or from one's own pocket.
• Unlike home loan, loan for commercial property does not have any tax benefits.

—The writer is the founder & CEO, PropUrban

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Points to check

• Make sure to check if the property has adequate parking space. This will impact your property value significantly especially in case of retail.
• While investing, do not  overpay. The golden rule is to invest based on cash flow, and not on speculation.
• Do have an exit strategy planned in case things don't go the planned way.
• Lastly, make sure to do thorough due diligence. 

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A word of caution

Planning to enter real estate market to diversify your investment portfolio? Well, then commercial property should not be your first pick.

• In real estate, a lot depends upon the prevailing economic scenario. While the subdued conditions may impact the residential sector too, usually the commercial sector is impacted severely.
• While commercial properties may fetch higher rental returns, the capital appreciation is relatively lower. This is the reason why it is recommended for people intending to start a business or the ones who have large amounts of money at their disposal.
• Remember, commercial real estate is often considered a luxury of a business. When done right, it can be very profitable.  
• Now, if you are very particular about investing in real estate but not in residential, then REITs can come to your rescue. Wait for these to get operational in India to reap better returns at minimum risk.