How to Purchase Commercial Real Estate: Lease v Buy

If you are thinking about the purchase of commercial real estate as an office, warehouse, etc, and you want to know if it better to lease or buy, this article may help. This article will help you evaluate the pros and cons of leasing vs. buying, assemble a real estate search team, choose a location, and make the purchase.

Every few years, the commercial real estate market suffers through a crash or a downward correction. Because of this, many want to know if it is better to rent, lease or own your commercial property. Buying commercial real estate is complex and is difficult to time right even for the experts. It is also high risk, as buyers, sellers, agents, and renters alike can suffer the consequences of a dip or spike in demand. At the same time, for a business, the upside potential rewards can be substantial.

There is no one-size-fits-all strategy for purchasing commercial real estate. That decision must be evaluated by each business. The following guide will help a business assemble a real estate search team, choose a location, and purchase property.

Purchasing Commercial Real Estate: Buy Versus Lease

When deciding to buy or lease commercial real estate, it’s important to understand the potential risks and rewards. The last thing you want is to buy property and realize a year or two later that you would have been better off renting or leasing. Here are some of the potential risks a business faces when buying:

Location may backfire. Today’s “hot” neighborhood can become tomorrow’s “not” neighborhood. Locations are trendy. The market may shift significantly. The area you choose one day may become undesirable the next. Of course, the reverse can be true, as well.

Loss of liquidity. Businesses may tie up much of their liquidity buying real estate. It’s not always easy to sell commercial real estate, particularly in a down market. At the same time, businesses that own real estate at least have something to sell if they need a cash influx to revive a lagging business.

Unreliable cash flow. Tenants sometimes stop paying rent. Other times, buildings are in need of unexpected and expensive repairs. Your cash flow can become compromised, especially if you are forced to simultaneously pay repairs and attorney fees to handle a tenant situation.

Become aware of risks. Do your homework. Undertake extensive due diligence before signing any real estate contract. You also need to be hands-on with your commercial property by overseeing every level of operation and making frequent on-site visits. Otherwise, you may learn about problems after it’s too late to do anything to fix them.

The decision ultimately comes down to economics. You may want to have a real estate expert help you undertake a rent versus own analysis, taking into account growth forecasts for your business and real estate market trends. It’s helpful to sit down with an expert that can lay out options for you and discuss scenarios. A real estate expert can also help you figure out the costs of renting versus buying.

Purchasing Commercial Real Estate: Assembling a Team of Experts

As a business owner, you’re most likely not a commercial real estate expert. That’s why it’s important to surround yourself with the right team of experts. They can help you determine the right time to buy or sell, the right locations to consider, and the nuts and bolts of closing the deal. Here are some of the experts you may consider contacting:

Accountant. An accountant can help you figure out what your business can afford and analyze the tax and operating budget benefits.

Commercial broker / real estate agent. A real estate broker can help you identify potential properties and what you can afford.

Commercial real estate appraiser. A commercial real estate appraiser provides an unbiased opinion as to the financial value of commercial property and real estate holdings.

Lawyer. A lawyer can help you complete the transaction, negotiating with the seller and lender on your behalf.

Mortgage broker. A lender or mortgage broker will help you sort through financing options, from bank loans to those guaranteed by the US Small Business Administration.

Purchasing Commercial Real Estate: Identify the Right Property

There are a number of factors to consider when looking for suitable commercial real estate to purchase. The old adage “location, location, location” is true for most commercial properties. But there are other issues at play, as well. Here are some things to consider:

Location. This is still the number 1 issue. You want to be close to your customers, your workers, and your vendors. You want to be in a convenient location to operate your business.

Physical condition. Consider how the property was used, the wear-and-tear, whether there are any environmental issues or potential liability issues, such as asbestos or lead paint.

Allowable uses. If your business is an accounting firm, you likely need commercial office space. If you are a manufacturer, you need an industrial space. Either way, you need to make sure zoning allows you to do what you need to do on the property.

Limitations on exterior and interior. Whether due to zoning laws or building codes, there may be limits to changes or alterations you can make to the property. A good example is a building that is in an historic area and subject to restrictions.

Adequacy of access and parking. You need to make sure your customers can park and take into consideration whether access is compliant with laws such as the Americans With Disabilities Act (ADA).

Opportunity for expansion or leasing. Business demands are always changing. How easy is it to increase or decrease costs / features related to your real estate.

Purchasing Commercial Real Estate: Do Due Diligence and Evaluate the Property

After you locate the right property, you go to contract and commence a one- or two-month period during which you need to do your homework. Now is the time to revisit your objectives, and ask yourself if the property you have identified helps you meet or further your stated objectives. This is where your team of trusted advisors plays an important role. You should also be involved to make sure that there isn’t any potential for changes in adjacent properties that could negatively impact your business or property value, such as development, road or infrastructure construction, etc. A title company can also make sure there are no prior or existing litigation and/or insurance claims affecting the property. If you find any problems, you may have the opportunity to renegotiate with the seller or sometimes walk away from the deal.

Purchasing Commercial Real Estate: Making the Purchase

Once you’ve found the right property and worked with the owner on the right price, the next big step is to secure financing. Before you even start seriously looking for commercial property, you should be pre-approved for a loan. By going through this process, you know beforehand how much you can afford to spend to obtain commercial property. In order to get a loan during a tough economy, it’s doubly important to make sure your business has sufficient cash reserves, has a good credit rating, and is profitable.

Your attorney and accountant play key roles here to ensure contracts are sufficiently detailed, and structured to your maximum advantage. You need to envision every possible contingency, and make sure it is covered — clearly and unambiguously — in the contract. Everything from air rights and other zoning laws to the nuances of existing tenant leases and tax requirements must be understood here. You also need to verify — and re-verify — the financial terms associated with this purchase, to confirm you are ready to pull the trigger.

You should also update or add to your original business plan, to cover the specifics of this acquisition. Once the purchase takes place, it is imperative that you implement and execute on the plan without procrastination.

Before buying commercial real estate, it’s important to make sure that buying is right for your business for the long-term. Be honest and accurate about your business prospects.