Why investing in commercial property
Looking to invest in commercial property? Beware of the hidden flaws and setbacks that nobody will tell you about!
You might know everything you need when it comes to investing in residential property.
However, making a commercial property purchase is an entirely different ball game.
It’s evident that the rules and regulations will change when it is a different type of property, and yet nobody seems to educate themselves regarding the subject.
It isn’t uncommon for people to be sucked into buying a few industrial properties to benefit from the high returns.
Most people even consider it a win-win situation; what could go wrong after all?
Well, you’ll be surprised to know some of the drawbacks and risks associated with commercial properties.
Today, we will be looking at some of the biggest reasons why you shouldn’t invest in commercial property.
What is a Commercial property?
Commercial properties include any type of building which exists for the purpose of business or work.
People usually buy commercial property either to generate profits through rental income or by long term capital gains.
So while some buildings do have residential status, they will still fall under the category of commercial property.
For example, lots of people own buildings which function as hostels.
The owners of such buildings collect monthly rental yields from the building.
Hence, these properties will be considered commercial, and the owners will be seen as business owners.
Commercial property includes three types; Retail, industrial & commercial, and hotels.
Retail properties include malls, gyms, retail stores, HBD shophouses, restaurants and bars.
Hotels include hostels and hotels, while industrial properties include factories or industrial sites.
Pros and Cons
Advantages of investing in commercial properties
Potential for stable and high income-
Commercial properties tend to bring in around 6 % to 12 % of the purchase price as annual returns on a typical scale.
Meanwhile, residential properties bring back something between 1% to 4 % in returns.
Moreover, the lease of properties runs for a longer period of time in the commercial property market.
Commercial properties are more stable as they tend to have longer leases, around 2 years or 3+ 3 years or even longer.
On the other hand, residential properties are usually dealt with 1-year leases.
Accurate price evaluation-
Compared to residential properties, commercial properties have a more accurate market valuation.
You can always ask for the current owner’s income statement to see the operating income.
You can then determine the price valuation from there, an option which doesn’t exist in residential properties.
Ideally, the purchase price of commercial buildings should be set so that the investor can earn the prevailing cap rate for the desired commercial property.
It is advantageous to seek financial advice from professionals before proceeding.
No Additional Buyers Stamp Duty
Residential property investors have to deal with paying the ABSD while purchasing a property in the residential market.
However, there is no ABSD required for the commercial market.
This is an advantage for commercial property investors as it mitigates some of the policy risks involved.
Disadvantages of Investing in commercial properties
More capital required
Commercial properties naturally cost more than residential ones and therefore require a high level of capital to invest.
No CPF funds allowed
Commercial property buyers don’t have the option to use their CPF funds to make any downpayment.
So you’ll have to make your annual mortgage payments in cash, amongst other things.
Returns depend on the success of commercial tenants
The market valuation and rental success of a commercial property, such as a mall or a retail chain, entirely depends on the performance of the tenants renting the space.
It is in the investor’s best interest to look for tenants who have a good track record when it comes to doing business.
Location matters a lot!
Commercial properties in the retail sector often come with plenty of specifications for location.
They naturally desire locations with heavy human traffic and a high working population.
Locations near offices and stadiums are preferred over isolated and sparsely populated areas.
Finally, it will be highly beneficial if the property is located near an MRT station.
Moreover, commercial tenants will most likely be unwilling to move into your property if it does not match the location criteria.
After all, they have businesses to run.
Need for professionalism
When it comes to commercial property, it is not a good idea to go at it alone.
You won’t be able to handle all the management related tasks and maintenance responsibilities independently.
It might be necessary to hire professional help when managing a commercial property, even if you are well versed in the responsibility.
The reason is that you’ll have to commit a lot of time to your landlord duties, unlike in residential properties.
More risk of damage from public
Commercial properties get hundreds to thousands of visitors every day.
You’ll have a huge number of people running around, touching everything, cars using up the parking lot etc.
So naturally, there are more risks of physical wear and tear to the building as compared to a residential flat.
Paying for commercial properties
Paying for commercial properties is quite different when compared to residential properties.
The key difference here is that you cannot use your CPF savings at all.
This means that all the expenses like the down payment, stamp duty, legal fees and monthly mortgage have to be paid using cash.
This puts a lot of strain on your financial condition. Moreover, this is valid even if you are buying the property under your name.
But here is an upside to this. Since you can’t use your CPF, the bank will allow you to fund your commercial property with a larger loan proportion.
Normally, the LTV mark for residential loans is 75 %.
Meanwhile, you will be allowed to borrow up to 80 % for commercial property loans, which is 5 % more than the former.
Whether or not you get the 80 %, LTV rate is assessed by your financial track record or that of your business.
Less cooling measures for commercial property
The Singapore government enforces a string of cooling measures to keep the residential property market in check with economic fundamentals.
This is because of the limited amount of housing and its ever-rising demand.
However, commercial property investors will be glad to know that almost no cooling measures are involved in the commercial real estate sector.
As we mentioned before, there is no need to pay the additional buyer’s stamp duty (ABSD) for commercial property purchases, even if you purchase additional properties.
On top of that, most commercial property sellers are also spared from paying the seller’s stamp duty.
The only exception to the rule is in the case of industrial properties such as B1/B2 industrial factories.
This usually applies to properties sold on or after the 12th of January 2013.
If the holding period is up to 1 year, a 15 % SSD rate will be applicable.
Meanwhile, the rate is 10 % for holding periods of more than 1 and up to 2 years.
The rate is 5 % for holding periods for more than 2 years and up to 3 years.
Alternatively, there is no SSD charged if the holding period is more than 3 years.
Possibility of lowered taxes
Commercial property owners can enjoy a reduced taxable income on their annual property tax.
You will have to buy the property as a corporate entity or through a real estate investment trust to get this benefit.
The property tax rate for corporations is always kept at a flat 17 % in Singapore, while there is no limit for personal tax.
What’s more, companies are eligible to receive various tax incentives such as the Partial Tax Exemption and Corporate Income tax.
That’s not all; since 2020, Singaporean companies have received a 25 % corporate income tax rebate with an annual cap of $ 15,000.
Easier to transfer ownership
If you buy property under the title of a corporate entity, it makes transferring the property ownership much easier.
Corporations have a special purpose vehicle for holding commercial assets and therefore have more flexibility while ownership transfers.
All they have to do is sell the shares of the holding company.
This allows multiple owners to have a stake in the company, where the ownership percentage is determined by the share each individual holds.
Is the location fit to conduct business operations?
As we said earlier, location matters a lot when investing in commercial properties.
It might not be the only factor that affects the growth and success of your business, but it does play a significant role in attracting commercial tenants.
The first thing to consider is the human traffic in the area.
Locations with lots of pedestrians and vehicle traffic are the best choice.
Another thing to factor in is how close you are to other business establishments and whether or not the area is easily accessible.
If it’s an industrial or manufacturing building, it’s better to avoid locations with heavy traffic.
However, it is important at the same time to be in close proximity to clients and other buildings related to the business.
Can you afford the property?
Commercial properties are expensive and will burn a deep hole in your bank account.
Although it is a tempting investment, it is important to ascertain whether the investment will yield profitable returns in the long run.
Buying an empty building and trying to create it into a successful business with lots of commercial tenants is often very unlikely.
You’ll have to spend a lot of time looking for the right tenants who can successfully boost the business enough for you to get returns.
Overall, it is a very risky ordeal and a very disparaging success to loss ratio.
So we’d recommend you not rush into it and take the necessary time to plan your investment right.
How will the property be managed?
Even if you have the spending capacity to purchase a commercial property, that is only the beginning of your investment journey.
There is still a lot to be managed here, which requires expert knowledge and property management skills on your part.
Unlike with residential buildings, you have to be constantly available to take care of any day to day needs that may arise; and trust us, there will be needs!
This makes it hard to manage everything yourself, especially if you have your own business or work.
Jumping into commercial property investment without knowledge in this field is only a guaranteed way of losing your money.
That’s something most people won’t tell you.
The only way to do this right is to dedicate all your time to it and learn as much about property management as you can.
How difficult will it be to relocate?
There are three factors that directly affect each other regarding commercial properties; the property type, tenure and location.
The property location is affected by the type and tenure, which are, in turn, influenced by the chosen location.
Complicated, isn’t it?
Let us explain with an example; suppose you want to invest somewhere near the woodlands or Punggol.
The only type of building you’ll find here are industrial properties with a 60-year leasehold.
Now let’s say you’ve bought it, and so far, things are going okay.
However, as we know, anything can happen within 60 years.
For example, a competitor could suddenly set up shop in the nearby area and start stealing your clients; or the property’s value could decrease after the first ten or twenty years.
In these situations, whatever the case may be, moving your business to an entirely new location would be considered financial suicide.
The sheer amount of money you’ll spend starting all over again may even result in bankruptcy.
Needless to say, relocating is an expensive and dangerous concept for any businessman.
Should I invest in a commercial property?
It’s up to you! Nobody can decide for you, so you’ll have to take the initiative here.
We have already explained the pros and cons of buying commercial properties and the possible outcomes, so use your best judgment.
If you’re a long time businessman who is an expert in creating successful businesses, then it shouldn’t be problematic for you.
However, if you have no prior expertise in this field, we suggest you ignore everyone and anyone trying to rope you into investing.
Trust us; it’s for your own good.
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