All real estate investment comes with risk, but commercial real estate in particular requires that liquid assets be readily available. As an investor, it is essential that you are careful about the properties you invest in – you don’t want all of your capital tied up in a building with a high risk of failure. If you are diligent about research and observant in your showings, you can pick up on red flags that could keep you from getting involved in a bad deal.
But how do you know when a commercial property is a major risk? If you look out for these warning signs, you can avoid signing a deal for a property that won’t serve your goals.
Red Flags to Look Out for When Buying Commercial Real Estate
The neighborhood is going down hill
It can sometimes be difficult to tell the difference between an area that is on it’s way up and one that is going downhill. Low value can be an opportunity to get in before prices skyrocket. But this only works if the surrounding area is growing steadily, experiencing job growth, and bringing in new people.
If a neighborhood is on the decline, with businesses closing and residents moving out, think twice. The best way to assess the status of an area is to spend time in the neighborhood and talk to local business owners and residents directly. While the goal is to acquire a commercial property in a booming area, accidentally purchasing a building in a declining part of town can be a major loss.
The property needs major repairs to be usable
It is common for real estate investors to purchase properties that need fixing up or redevelopment. There is a difference between adding value to a property by improving its appearance or conditions and needing a complete overhaul. Some repairs will be more expensive than you imagined and could take your deal south. Take the time to research what repairs or improvements will cost you before you purchase a money pit.
Here are just a few signs I look out for:
- Low ceilings: Many users of commercial spaces require high ceilings for their business to function. It is essential that you ensure your ceilings fits the needs of those you are hoping to rent it to, without major construction.
- Damaged roof: Repairing the roof of a commercial building is much more costly than a single-family home. Be on the look-out for leaks or damage.
- Cracks and settling: Walk through the interior and exterior of a commercial property to check for cracks or signs of settling in the walls or floor. If you find a large crack, it could be a flag for a larger issue.
- Environmental contamination: If you are purchasing a property in an industrial area, there is always a chance that you will find contamination. Environmental contamination can affect your property and cost you. Watch out for chemicals and items that are stored improperly and may be damaging to the living conditions.
The numbers don’t add up
You can’t always accept the value the seller tells you to be the truth. Evaluating a commercial property requires a lot of research and appraisal beyond the physical conditions. Assess financial projections. You don’t want to purchase a commercial property where rental vacancies are projected to increase in the coming years. Look at any documents such as loss/profit statements that you can get your hands on. Never trust the seller’s estimates.
As with any investment, purchasing commercial real estate is a gamble. While risk is always going to be part of buying a property, the goal is to acquire a profitable building. If you know what red flags to look out for when buying a commercial property, you can save significant energy, time, and money. – Steven Taylor of Taylor Equities