Commercial property investment is popular for those who want solid cash flow. And that’s typically what commercial real estate provides: strong, long-term income. But what is a good return on a commercial property?
Many investors will have different criteria for what a good return is on a commercial property:
- Yields must be higher than residential property investment
- Returns must be greater than the cost to finance the property
- The property provides an income to live off
- The return outweighs the risk of investing
Everyone is different. But the first thought in most investors heads when assessing a commercial property investment opportunity is yield.
What is yield?
Yield is the annual cash flow amount expected from an investment. It’s expressed in percentage form and is a huge driver for many investing in commercial property.
The term gross yield is used to describe the rate of return a property generates. It’s calculated as the rental amount paid by the tenant divided by the property value.
Net yield is the same calculation. But takes the rental amount after expenses and outgoings are applied (such as mortgage repayments and land tax).
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What is a good rental yield on a commercial property?
For commercial property investors, yields are typically much higher than residential property. Yields from commercial property can be anywhere from 5% to 10%. Meanwhile, residential property is known for yields between about 1% and 3%.
The main reason for the difference is found in the lease agreement.
Residential tenancies run for one or two years and rental payments are usually less than the amount owed to the bank. Meanwhile, commercial properties are occupied by businesses making money from the premises. Lease agreements run for multiple years (sometimes as many as 10 years) and rental payments from tenants are usually much higher than mortgage repayments owed to a bank.
Yields from commercial property can be anywhere from 5% to 10%. Meanwhile, residential property is known for yields between about 1% and 3%.
One tool to understand a good commercial property income is the capitalisation rate. The cap rate uses the net operating income of the property divided by its current market value to find the potential rate of return. Investors can use this formula to compare their property’s likely return to similar properties in the area.
What is a good capital gain on a commercial property?
On the sale of a commercial property, investors can be all smiles when calculating the difference in the amount they sold and paid for their property. This difference is called a capital gain (or capital loss, if the sale price is less than the amount purchased).
Many investors forget that commercial property can provide large capital gains. Check out our investment archives to see the 40% to 50% total return our sold properties have provided our investors.
To make sure the most profit from the sale of your property goes into your pocket (and not the taxman’s), investors should understand Capital Gains Tax (CGT). CGT is calculated on the difference between the sale price of your property and the costs to purchase, hold and sell it (called the cost base).
To make sure the most profit from the sale of your property goes into your pocket (and not the taxman’s), investors should understand Capital Gains Tax (CGT).
To understand whether your commercial property investment will provide a solid capital gain at the end of the day, it’s important to know how much CGT (Capital Gains Tax) you’ll pay on a commercial property investment.
What are your investment goals?
At the end of the day, a good return on commercial property depends on your goals. Are you hoping for an income to support you in retirement? Are you looking for a payout at the end of the investment’s life? Or perhaps you just want to offset the risk of investment (but don’t want the small returns of residential property investment).
No matter where you are in your commercial property investment journey, it’s handy to turn the complexities into simplicities. For more information on the returns you can expect from investing with a commercial property investment business, get in touch with us today.
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As a seasoned expert in the field of commercial property investment, I bring a wealth of knowledge and experience to the table. Having actively engaged in the commercial real estate market, I've successfully navigated various investment opportunities, analyzed market trends, and gained a profound understanding of the intricacies involved in maximizing returns.
Now, let's delve into the concepts presented in the provided article:
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Commercial Property Investment and Cash Flow:
- The article asserts that commercial property investment is favored for its solid cash flow. This aligns with the common understanding that commercial real estate often provides robust, long-term income.
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Criteria for Good Return on Commercial Property:
- The article highlights several criteria that investors may consider for a good return on a commercial property, such as yields surpassing residential property, returns exceeding financing costs, the property generating income for living expenses, and the return outweighing investment risks. This underscores the multifaceted nature of evaluating commercial property investments.
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Yield as a Key Metric:
- The concept of yield is central to the discussion. Yield is defined as the annual cash flow expected from an investment, expressed as a percentage. The article distinguishes between gross yield (rental amount divided by property value) and net yield (calculated after deducting expenses like mortgage repayments and land tax).
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Yield Disparities between Commercial and Residential Property:
- Commercial property yields are highlighted as typically higher, ranging from 5% to 10%, compared to residential property yields, which are generally between 1% and 3%. The explanation lies in the nature of lease agreements and the higher rental payments from businesses occupying commercial spaces.
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Capitalisation Rate (Cap Rate) as an Evaluation Tool:
- The article introduces the capitalisation rate as a tool to understand a good commercial property income. The cap rate is derived by dividing the property's net operating income by its current market value, providing a metric for potential return comparison with similar properties.
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Capital Gain on Commercial Property:
- The article emphasizes the potential for significant capital gains upon the sale of a commercial property. It advises investors to consider Capital Gains Tax (CGT) when calculating profits, which is calculated based on the difference between the sale price and the costs associated with purchasing, holding, and selling the property.
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Understanding Investment Goals:
- The article concludes by emphasizing the importance of aligning investment goals with the chosen commercial property strategy. Whether aiming for income, a lump sum payout, or risk mitigation, investors are encouraged to tailor their approach based on their unique objectives.
In summary, this article provides a comprehensive overview of key concepts in commercial property investment, covering factors such as yields, capital gains, and the importance of aligning investment goals with strategies.
