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Cashflow positive property performance – residential vs. commercial

There are many opinions, a number of myths and much speculation when it comes to positive cashflow. But all agendas aside, which is the best performer for positive cashflow properties – residential investment or commercial investment? Here are the facts…

Firstly, definitions

When we talk positive cashflow property we are talking about an investment property that pays you a return to own it. In short, rent exceeds the total expenses on an annual basis.

When we are talking residential properties we mean houses or residences with tenants that live in the property. By commercial properties we mean properties that are leased to commercial tenants who run a business from the premises they rent from you.

Key points to consider

When we look at which is the “better performer”, we take into consideration rental yields, purchase price, appreciation and risk. 

Rental yields & leases

Commercial properties generally deliver yields between 5% and 12%. These are higher than residential properties, which generally deliver yields of between 3% and 6% in current markets. Whilst there are some residential markets and unique structuring of residential property which will allow for higher yields, this is usually the normal asset range. Commercial rents are also presented as ‘NET YIELDS’ which further heightens their cash flow as landlords are not always reliable for outgoings.

Leases for residential property are generally 6 or 12 months, on the rare occasion a longer lease for 2 years can occur. Commercial leases usually range between 2-5 years, however, some are known to go upto 10+ years. They also can have options built in that further increase the lengths of the leases if taken up.

So commercial properties generally provide higher yields than residential and have longer lasting leases. 

Purchase price and appreciation

While there may be a higher rental return on commercial properties, the purchase price range can be smaller than residential in like for like areas (advantage), however, the other end can also be MUCH MORE expensive (disadvantage).

Residential comparable sales are much easier to distinguish and gather potential price rise or fall information than in commercial. Also because of zoning changes, infrastructure and more… the swing in prices in the past has been more prolific than commercial property.

Commercial appreciation can be a more consistent journey as many potential value changes can be understood from rental improvements that are often built into the lease. Macro trends e.g. import and export activity, currency movements, ageing population etc.. and more have been partially responsible for the decreasing rental yields for warehouses and medical assets. Yields decreasing on commercial property, mean that people are willing to pay more on the purchase price for less rental income upside.

Although via rental increases, the commercial value appreciation can be more consistent the residential property market has over time been a better option than commercial for value rises.

Risk

Residential properties are lower risk overall as there is a larger tenant pool, meaning they are easier to rent and are also easier to finance. It is fair to say that everyone needs a roof over their heads, but not every business needs a ‘premise’ or roof over its head.

There are always going to be commercial properties that have higher rental demand than others. A closer analysis of this will decrease the risk of vacancies and supply does not pop up as often in the commercial world. Residential property markets have often had the ups and downs of supply, therefore increasing vacancies and risk at some points of their cycle too.

The wrap up

Commercial investment properties are more likely to be cashflow positive than residential properties. However, along with higher returns comes higher capital outlay and higher risk. 

While residential properties do not realise the same yields, they are great for entry-level or low-risk investments.

Adding commercial property to your portfolio can be a ‘game-changer’, however, they are better placed in a portfolio where a ‘hedge’ occurs e.g. many residential properties or many diverse commercial properties to reduce the risks that come with it. Going on a path of residential only can mean it can take many many years to add the right levels of cashflow, where with a commercial property it can be fast-tracked in the right type of portfolio.

Reach out to us for an obligation free consultation to see where commercial or residential investment properties can play a part in your portfolio. As residential and commercial investment property buyers agents, our knowledge across both will allow us to provide you with an unbiased view on the options available.