Three Key Commercial Real Estate Surprises to Avoid

Whether you’re hunting for a home base for your business or ponying up the cash for the first in what you hope will be a large stable of commercial real estate (CRE) properties, knowing the potential pitfalls before you buy will help you prepare and save money.

Here are three commercial real estate surprises to beware of:

Upfront Costs for Commercial Real Estate & Due Diligence

Your first surprise might be finding you need to pay upfront costs for due diligence services from accountants, permitting and zoning experts, building inspectors and possibly even contractors who perform environmental assessments.

Don’t make the mistake of wearing your homeowner’s hat when buying commercial real estate. CRE is a totally different animal and will demand more preparation time – not only to find the right property – but to engage the experts needed to perform due diligence on it once you do.

When you’re ready to buy the property, it’s also advisable to use a commercial real estate lawyer to close the deal. Unlike residential real estate closings, because there are usually more players involved, reports related to property disclosures and environmental findings to review, contracts to cancel, plus deeds, titles and lease assignments to transfer, a lawyer specializing in the field can negotiate on your behalf and help resolve issues that emerge during the deal-making process. If an agreement fails to be followed or hidden environmental issues or structural problems spring up after your closing, a commercial real estate attorney can also sue the seller on your behalf.

Don’t ditch your due diligence or try to do it yourself. Since banks look at your current financials as part of their loan approval process, keeping your business churning out profits while letting your CRE experts do what they do best is the wisest decision.

Commercial Real Estate Budgets with No Breathing Room for Cost Overruns

No contingency fund? No problem, right? Wrong. Don’t underestimate the significant expenses that come with purchasing a commercial property. Make a detailed budget for every aspect of your prospective purchase, then add another five to ten percent of the total budget so you have enough breathing room to handle the unexpected costs that will inevitably arise.

Surprise costs can come from any of the following:

• Renovations that go wrong or take longer than expected
  It’s unlikely that you’ll be able to move into your new business abode without renovating. And even if your building inspector didn’t find significant issues to worry about, some problems won’t appear until the renovation gets into full swing. Surprises like a rotten subfloor that suddenly rears its head when you remove the old carpeting. Or hazardous materials, mould or an insect infestation hidden behind a wall you decided to demolish. These, along with remediations to cleverly concealed code violations from previous renovations, can quickly cause your carefully crafted construction estimates to collapse. Add in shortages of materials or labour, plus the final touches it takes to create curb appeal – such as repaving a parking lot, adding landscaping, or even shoring up your upfront façade so it’s secure enough to hold your signage – and suddenly, your budget is a bust.
• Taking tenants’ needs into account
  Multi-use commercial buildings can house a variety of tenants, including restaurants, retailers, gyms or even healthcare facilities. They can also carve out space for residential units above. Multi-use buildings can be good investments for developers as they don’t rely on just one type of business or revenue. Depending on your or your tenant’s business, you might need to install special air filtration systems, soundproofing, new entrances and exits, fire escapes, and more to pass inspection.
• Permitting, compliance and zoning processes
  Commercial real estate permitting, compliance, and zoning restrictions can be complex and exacting. Before purchasing commercial real estate, you’ll need to ensure the property you’re interested in fully complies with all governmental rules and regulations and is zoned correctly for your current needs. If the current owner built without obtaining the proper permits or ignored bylaws for setback and height restrictions, the cost to correct those wrongs could be jaw-dropping. And if you plan to change the use of the property over time and zoning disputes arise, prolonged legal wrangling could derail your booming business long before you deposit a single dollar into your bank account.

Underestimating Risks and Over-Estimating ROI

To maximize profit and stability from your new building, you’ll want a great location, low operating costs and both growth in income and appreciation of your assets over the longer term.

To minimize risk:

• Choose the right location for your business. If it’s your business that’ll be moving in, make sure public transportation access points are nearby so your dedicated customers can easily find and get to you and so you can add new, walk-in clientele. Neighbourhoods with a vibrant shopping scene, parks, recreation centres or schools nearby will all help drive foot traffic.
• Research municipal enhancement plans for your area in advance. A dream location can become a nightmare if a municipal beautification or enhancement project causes the area to be inaccessible for a prolonged time and your storefront remains vacant. It won’t matter if there’s a new streetcar line with a stop just outside your door if your bank account dries up and causes your business to shutter before you can take advantage of it.

To maximize ROI:

• Capture as complete a picture of baseline operating costs as possible. Obtain at least a year’s worth of past bills for:
  • Property taxes
  • Insurance
  • Utilities including water, hydro and gas
  • Janitorial services
  • Property management
  • Maintenance related to plumbing, lighting, HVAC servicing, window cleaning, painting, and maybe even snow plowing.
• Right-size your rental rates. To recoup your operating costs and eventually make a profit, you’ll need to charge business tenants the appropriate amount of rent. Too high, and your building will sit empty while you dole out money to cover recurring expenses. Too low, and you might attract less-than-ideal tenants or miss out on revenues that move you out of the red and into the black.To help you discover your rental rate sweet spot, use online tools or services to run rental comparisons on similar properties in your area or by a cost per square foot of leased space. For context, you should also research the area’s historical market trends to know if the rent results you’re seeing are on their way up or down.

Is Buying Commercial Real Estate Worth All the Work?

With risks and surprises minimized, the potential for a positive return on investments in commercial real estate properties is significant.

Enlisting expert help and being objective and analytical are the keys to making sound commercial real estate investment decisions. Don’t be afraid to walk away from a property when expert due diligence reveals more checkmarks in the minus versus plus column. And don’t rush the process. With some time and patience, you’re bound to find the perfect commercial real estate property for you.