Commercial real estate investing has always been popular in the form of owning residential rental properties. However, in recent years commercial real estate investing has expanded to include investors who buy shares of real estate or shares of a company that owns, lends to, or manages real property.
This article will review the tried-and-true approach to investing in rental property as well as the new ways individuals can invest in commercial property.
What is Passive Income?
Passive income is the term used to describe money that your money makes for you, in contrast with active income which is the money you earn from employment or from being self-employed.
To paraphrase Warren Buffet, you must make your money earn more money while you sleep otherwise you will work until you die. Simply put, those with passive income tend to be wealthier than those who do not, for the simple reason that there are only so many hours in a day and so many days in a lifetime you can work to earn money.
Commercial real estate investing is an effective way to earn passive income. The ways you can invest vary as to the amount of risk you can tolerate and the amount of time and money you are interested in spending.
What is Commercial Real Property?
Commercial real property is more than real estate used for commercial purposes, i.e., property rented or owned by a business concern. The term “commercial real property” also refers to residential property owned for the purpose of leasing or renting it to others. Such property could be a duplex or double, a condo building, or an apartment complex.
More commonly, factory buildings, malls, office buildings, shopping plazas, strip malls, hotels, warehouses, hospitals, data centers, and apartment buildings are considered commercial real property.
What You Need to Know as a Landlord
If your goal is to own property to rent or lease it, you should know a few things. First, unless you hire a management company, this income will not accrue passively, exactly. You will be required to be involved with the maintenance of the property and will have an obligation to solve any problems your tenants have with or in the property.
That being said, collecting rent each month can be considered passive income. Typically, you can purchase commercial property if you have good credit and can put 20% down. Ideally, the rent you charge will cover the mortgage, taxes, and any utilities you pay.
In order to rent property to others, you must consider and resolve the following issues:
- Is your property zoned for its rental purpose?
- Has your property passed inspection, and is it certified for occupancy?
- Are you familiar with your state’s landlord-tenant laws?
- Are you prepared to deal with issues as they arise, or do you need help with property maintenance and/or management?
- Do you have a legally binding lease delineating the rights and responsibilities of both parties?
- Does your security deposit requirement satisfy state law?
- If making the property available as Section 8 housing, does your property and lease agreement comply with federal law?
A landlord always assumes the risk that their tenants will fail to pay. In most states, residential tenants have rights in your property even if they don’t pay you for several months, and even if you take them to court, there can be a delay of weeks or months before they can be evicted. A landlord also assumes the risk that their tenants might damage the property, especially just before eviction.
Because you remain actively involved with the property and the tenants throughout the lease term, direct ownership of a single-family house or the apartment over your garage and renting it out is not usually considered purely “passive” income.
What You Need to Know as a Passive Real Estate Investor
These days, those wishing to invest in real estate with less risk than owning a property outright and less direct involvement with property management and maintenance can do so through several different types of investment vehicles.
Typically, these investment vehicles will include any or all of the following types of commercial property in their portfolios:
- Multi-family residential complexes or units
- Special purpose properties such as car washes, warehouses, or other storage facilities
You can passively invest in these types of commercial real estate in several different ways, and any of these can result in regular payment of dividends or fixed payments (including interest) to you over time.
Purchase Stock in Real Property-Related Businesses
You can purchase stock in real estate-related businesses that are publicly traded, such as real estate development companies, large real estate brokers, or construction companies.
Invest in REITs
You can invest in Real Estate Investment Trusts (REITs), which are companies that pool investors’ capital to own or finance income-producing real property of all types. Some REITs own commercial property and make money for their shareholders by renting it or leasing it. Others, such as mortgage REITs (mREITs), finance real estate purchases and earn income from interest.
Most REITs trade on the major stock exchanges, and they offer a number of benefits to investors, including a regular income stream, portfolio diversification, and long-term capital appreciation opportunities.
REITs are required to pay out at least 90% of profit to their shareholders. Many pay out 100%. Shareholders then must pay income taxes on those payouts.
Participate in Crowdfunding Real Property Deals
Crowdfunding platforms allow you to invest directly in individual real estate deals. You will have the opportunity to pool your capital with other investors to invest in equity or debt-based real property deals. When a deal offers equity shares, you can invest for appreciation and growth while collecting your share of rent as it is remitted.
In lieu of purchasing, maintaining, and managing commercial real property on your own, you can use any of these investment options to maximize passive income and minimize both the risk and effort involved in investing in commercial real estate. Good luck!
About the Author
Veronica Baxter is a blogger and assistant living and working in Philadelphia.
She collaborates regularly with FNRP, a commercial real estate private equity firm based in New Jersey.