7 Barriers to Entry for Wannabe Commercial Real Estate Investors and How to Overcome Each
Commercial real estate always was and probably always will be a good type of long-term investment, especially multifamily housing. But it does need to be done properly and there are barriers that must be overcome in the process in order to succeed.
Being successful in commercial real estate takes more than just an initiative to enter this field. It takes time; money; relationship building with brokers, real estate attorneys, and insurance agents; and most importantly, an ability to cold call and write letters to find prime properties for a possible sale.
It’s not a “quick fix” to wealth. Although when done properly, commercial real estate investment can lead to a lifetime of stable income for an individual and their families. A good investment can and should provide enough financial gains to eventually cover the initial investment and allow for continued monthly income.
So, what are the barriers one might encounter when trying to purchase a commercial real estate property?
Being able to qualify for commercial financing based on your balance sheet can be a challenge. This will vary significantly from one investor to the next.
A good balance sheet will show a steady income and budget knowledge. It can include but is not limited to profit and loss statements, stocks and bonds held, investment properties owned, various other short- and long-term investments, and proof of the ability to pay mortgages over extended time periods.
Any investors who show significant losses or who don’t show sustainable profitability and financial stability over the long-term may have their initial mortgage applications rejected. An impressive balance sheet can be the difference between obtaining a commercial property or losing the bid.
Close attention should be paid to sustaining and maintaining a strong balance sheet and any negative influences should be remedied.
Any commercial real estate investor should have some prior commercial real estate investing experience. If there is absolutely none, it is a good idea to partner with someone who has experience in the same asset class that you are trying to purchase.
If that is not an option, hiring a well-positioned property management company and Commercial Agent can help a new investor overcome the challenges that will be faced in this new endeavor. A property management company with enough experience can serve as a good backup to your own lack of prior commercial real estate experience.
Investors should always have enough liquidity to cover at least the down payment, closing costs, and any renovation fees that might be needed. This will vary from property to property.
While in some provinces it may not be mandatory that a property be inspected prior to any type of sale, most wise investors will have this done. Finding a good property inspector or licensed code company can assist in overcoming unsuspected renovations in the future.
Remember, liquidity is defined as the ability to turn assets into cash as quickly as possible. Any other assets that are owned should be able to be liquefied quickly. Too many assets that are tied up and not easily liquefied can work against investors.
All initial financial outlays, such as the down payment, the closing costs, and the renovation fees should be figured into the liquidity aspect before considering a purchase or making an offer on a commercial property.
4. Due Diligence
Another significant barrier to entry when considering commercial real estate investing is not performing enough due diligence. Due diligence includes looking into the financial background of the property, the demographics of the property (aka its location and tenancy figures), the class that it falls under (Class A, B, C, or D), and how many times it has been resold in prior years.
Properties that are resold countless times may potentially be a bad investment, and investors should proceed cautiously with them.
Another barrier that may be overlooked is proper underwriting. Again, a good underwriter will determine if the real estate property is appraised correctly, ensure that no one else is on the title, and ensure that the financing fits well into the overall underwriting.
Not performing detailed underwriting or skipping this step altogether can make a potential sale or even a final sale a real nightmare for all parties involved. Insurance issues are also covered by underwriters, as insurance is part of any commercial real estate deal’s affordability.
6. Well-Formed Team
This next barrier to entry is much overlooked and should not be. Have a “team” in place.
Commercial real estate investing is a venture, plain and simple. Not having others involved who can assist an investor, especially a novice one, can only lead to headaches.
Of course, a good real estate broker who has experience in commercial real estate (not all do) is necessary. A real estate attorney is a must. A property manager, especially on MFH properties, is a great idea, as an investor trying to be both manager and investor can be overwhelming. Further, it is an absolute must when an investor is out of state or lives far away from a property.
A reputable contractor who is ideally licensed and affordable for any repairs that come up or are existing should be on hand. Also, possibly private individuals or financial institutions that can loan money immediately outside the initial investment if unforeseen circumstances arise. There should be a very reliable insurance agent on board, too.
Research into the overall market in prior years or the current year can be overlooked by many.
Real estate, especially of the commercial type like MFH, can rise and fall sharply within months. There are times to buy and times to withhold a purchase. There are geographic areas that are going up at certain times, while other areas go down, as well.
These statistics are readily available online and are updated regularly. Market fluctuations can be very impactful on the price of an initial sale and the overall stability of a property in future years.
Focus on the fundamentals (and forget the rest!)
The Bottom Line
Commercial real estate investing, especially MFH, is a great choice for many reasons.
For starters, there are myriad tax benefits for property owners. Self-employment tax deductions may also be available. A good real estate accountant can assist with determining which tax benefits apply in each individual case. The government can truly be a real estate investor’s best friend.
This is not to say there are no risks involved, as there are many. Investing in any type of real estate, especially in higher priced commercial real estate (such as MFH) may be risky. The market goes up and down, the area demographics can go up and down, and the overall price of resale can go sharply up or down.
Add to that any changes that are made to the property. Improving a property can initially add additional rental income. However, while major improvements are being made, it may significantly lower occupancy—and hence the income generated—during the renovations.
As you can see, commercial real estate investing is a great way to diversify a portfolio—if an investor can overcome all the barriers to entry. Doing the research and following the guidelines to overcoming such barriers above will help both novice and experienced investors immensely.
Be wise, be happy, but be thorough!