By GARY BALANOFF
Whether you are thinking about getting into the residential or commercial markets of real estate, you have no doubt seen the headlines:
“Interest rate hikes quell interest in homes”
“Orlando rated one of the metro areas with highest spike in rent and purchase price”
That seems great if you are looking to sell and get out of the market completely, but what if you seek an investment? What to do if you want to buy an office condo or free-standing building for your medical practice? How do you make the right move? Are there steps to protect your investment?
The answers depend, of course, on your particular situation, but there is value to be had in both residential and commercial buildings. First, let’s take a look at commercial. You might have noticed that despite the fact that more than 2 million people live in the Metro Orlando area; there are not that many commercial spots available. And the ones that are available, are asking for large rents, followed by large rent increases. Many practitioners have decided to purchase a building or office space rather than fight with out-of-state owners regarding rent hikes.
The last time I moved office spaces, I had occupied the same space for 13 years, and thought the landlord might reward my on-time payments for that period of time with a flat or slightly reduced rent payment, or even split the space and charge less based on the space I occupied. They basically said if I was not willing to pay significantly more, they would put the space back on market and find someone else! To which I replied, “Go ahead!” Three years later, and $300,000 lighter in their collective wallets, they finally rented to our successor tenant. They could have recouped a lot of money if they did not get so greedy, but they did not. I saved a significant amount and moved to a new space that was just opening, got a few months of free rent, followed by a much lower bill. And the space was one block away!
It is an important lesson if you are looking to buy or rent space, or if you are looking to expand your horizons by buying and then leasing to commercial or residential tenants. Be a little flexible with on-time, full-pay tenants who treat the property and you with respect.
So, what about the choices you have available to you now? Looking for commercial space is a little difficult if you want to buy. Often, there is space, but it is only for rent because the major centers are owned by conglomerates interested only in profits, and sometimes tax losses to offset their huge gains over the past 5 years of escalating rents. Cash does speak loudest, both in winning a bid for residential and commercial property. Most of my investors currently are all cash. That does not mean I do not encourage them to seek the alternative of getting a commercial loan. But if you have not done a commercial building loan previously, it is a little different than your traditional residential loan. In buying a home, you can put as little as 0 down payment for a VA loan, 3 percent for conventional and 3.5 percent for FHA. The loans typically run either 15 or 30 years and at time of this printing, run 5-6 percent depending on percentage down, credit rating, and strength of your employment. Lenders are VERY pleased to deal with doctors because you usually have access to a sound financial background, income, and resources. So, it is not usually a problem to get a prime rate loan. The same is not quite as easy with commercial, because they are likely to give you a loan with 20-25 percent down payment, at ¾ percent to 1 percent above the residential rate. With rates rising on every kind of loan, that can make the loan not only harder to get, especially without a track record of paying off previous commercial loans, but also make the total payment “nut” much harder to crack. If you have the cash, it is usually wiser to use that and you only have other business-related expenses to pay each month, with no big mortgage payment. It feels good not to have a large rent payment to go along with insurance costs, staff, equipment, and utilities payments. If your business outgrows the location, you can use extra resources to either expand to another location and build new patients there or find bigger space and rent this first building to another commercial tenant, where you can set the rules and payment schedule and have a nice profit coming in from your investment.
Example: $1 million building paid all cash. Taxes might be $8000/year, and insurance might run $5000-6000/year. But those are all the costs included in your ownership.
If you take a loan of $750,000 you are still paying $250,000 out of pocket and paying those same taxes and insurance. But your monthly Principal and Interest payment on a 6 percent rate over 20 years would be typically $5373. So, in a year, you would be paying $64,476, and at the end of 5 years when the lender re-negotiates the terms of the loan (because it has a 5-year cap), you have paid $322,380, and still need to pay off $638,926. And can you predict what the rate will be then? Even if the value of the building increases by 5 percent per year (a fairly normal and reasonable appreciation), the building should appraise at approximately $1.27 million. Which means you will be able to qualify to refinance. If the rates are lower in 5 years, you will have plenty of options. But if rates are higher, will you need to rent the space for the amount needed to make a profit? Perhaps, but if not, you are looking at an investment that continues to need upgrades to enable renting or selling, and not enough revenue stream to make that happen. So, if you can, my recommendation is to fund out of pocket, and you will have more long-term stability and resources and potential return than any other method.
Gary Balanoff graduated with a degree in Broadcast News from the University of Florida. He then spent 7 years as a news reporter for WCTV in Tallahassee, Capitol Bureau Chief for WTVT in Tampa, and then covered the first 9 Space Shuttle launches for what is now WKMG in Orlando. For the past 38 years, Gary served as a REALTOR and was broker owner of RE/MAX Select, one of the 20 largest companies in Central Florida real estate, from 2000-2020, when he sold to RE/MAX Marketplace. He has overseen thousands of transactions during a period of boom and massive recession, so has guided countless agents, buyers and sellers through the process.