Finance Tip: Commercial real estate vs residential real estate

Another financial tip post for the moderate to advanced investor. Normal disclaimer: This is my personal opinion based on decades of work in the finance industry. The intent of this post is to give you my opinions, observations and insights into my experiences to help you gather a more robust knowledge base to help you make good financial decisions.

We are in a hot real-estate market right now. Historically low interest rates that have been sustained for decades by the federal reserve have (IMHO) negatively impacted housing prices. That’s issue 1, issue 2 is Covid and the rental issues we saw over the last few years. Depending on where you lived there were eviction moratoriums, rent relief, on and on.

The long and short of it is, it’s a sellers’ market. Houses are going for premium prices and it’s likely that on the next down cycle those houses will decrease in value leaving many new home owners in an upside down equity position. We have seen this many times in the past, housing goes up and down but over a 30-year period you will likely make money on the investment. The other issue there is many people aren’t spending 30 years in a residence anymore.

As an investor real-estate is a great investment because the down turns normally don’t last too long and even when your equity position has down cycled the asset is still generating income via rent. Land is an entirely different discussion as the asset value is really predicated on the anticipation of are growth so I am not going into that here at all. Residential vs Commercial though is a very important discussion and when (and if) you are at the point in your investing life that you want to get into real-estate its crucial to decide which way you want to go.

In a market like the one we have now, if you had a portfolio of residential properties you could flip it and make a killing, again it’s a sellers’ market. The issue with residential properties is, and always will be the landlord tenant relationship. Flipping houses is one thing, that in my mind is a commercial endeavor you are never renting this space you are purchasing an asset and reselling the asset. Residential real estate is a headache because you have tenants.

The housing market is on fire, buy low, sell high….

Of course you have steady income via rent, assuming they pay of course. The downside is you are trusting your asset to people whom are using the space to live. Unlike a commercial property where your tenants are using the space to generate income.

I bolded the above because it is the lynch pin in the advice. How people live has so many variables we can’t discuss them all in one post. As a landlord you are beholden to their lifestyle, they could be wonderful and have the same moral compass you do, or they may not. The worst part of residential real estate is when you sell (if you do) the residential value isn’t simply the location of the asset but how the asset was maintained and other residential locations in that area.

Commercial property? Its highly likely that a commercial renter is going to do their best to maintain and in some cases upgrade the property to make sure they can generate income from their rental investment. The residential tenant has no income potential from your condo, sure their quality of home life is impacted but they go elsewhere to get money to live. The Commercial tenant relies on your property to generate income so they can live their life.

Its logical then to conclude your best possible income outcome is from commercial property. They are more expensive but you are renting (leasing) your asset to someone else who has in their best interest to maintain and maximize your property so they make money. The lease payments come in every month, the property is maintained, the tenant makes money. Everyone is happy and your asset is much more secure.

The residential property? Maybe you got lucky and got a renter who cares. Maybe you didn’t. Anytime something happens at the residential property you have to fix it. The commercial property? They will likely do it and ask for a credit. Residential, you have to take care of it and that time cost is immeasurable. At the end of the day, Commercial properties are less headache and higher income potential due to less time investment required by the landlord.

Today’s real-estate market is hot and residential properties are through the roof. That 3 store strip mall that services those residential properties? It’s always there, it’s always got traffic regardless of how much houses cost.

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