Is Commercial Or Residential Investment Better?

It is widely accepted that commercial or residential property is one of, if not the most stable form of investment. Unlike other asset classes, property will always be in demand, offers steady yields and is far more predictable than alternative asset classes. But should you invest in residential or commercial units to kick-start your portfolio? Although we certainly recommend diversifying your property portfolio to ensure it remains resilient in tumultuous markets, there are benefits and disadvantages to each property type that ought to be explored when determining whether commercial or residential investment is right for you.

What is a commercial property?

Commercial properties are units that are not inhabited for residence, but for business. They form the base for profit-making companies and can comprise of office blocks, hotels, warehouses and retail units.

Pros of investing in commercial

Commercial property investment comes with plenty of advantages, namely in the security of longer lease periods. Whereas residential leases usually start at twelve months, commercial leases commonly start at 36 months, providing you with long-term stability and fewer potential void periods.

Better yet, commercial units have a return on investment of between 6 and 12% – depending on location, of course – which can be higher than the ROI you can anticipate from residential units in some regions. For example, the highest yields across the UK are in Edinburgh at 8.46 per cent, and in Birmingham at 7.03 per cent – still very good, yet not quite at the 12 per cent you could potentially achieve with a commercial unit.

Lastly, commercial investment is perfect for those hands-off landlords that are happy to leave redecoration in the hands of their tenants, as commercial tenants are typically the ones responsible for renovations. Triple Net Leases allow owners to pass across the responsibility for operating expenses, redecoration and maintenance to their tenants, which is not typically an option in residential leases, thereby allowing commercial landlords to tailor their level of involvement in their units accordingly.

Cons of investing in commercial

However, investing in commercial property isn’t without its faults. Although commercial landlords may not be responsible for the minutia of redecoration, fixing maintenance issues is far more convoluted. Commercial properties tend to be far larger than residential units, as commercial properties are designed to accommodate tens, even hundreds of workers. In some cases, an on-site property manager is even required by law to manage its maintenance. Furthermore, the large scale of commercial property investment can make it more difficult to invest in because there is a possibility you will need to manage multiple tenants at a time.

Although commercial space is still in demand and has managed to bounce back from the surge in work-from-home trends during the pandemic, there is no doubt that commercial units are not as widely necessary as residential units. After all, every citizen needs a place to live, but not every business requires an office to operate from. What’s more, if you choose to lease your commercial property to a fledgling business with little experience, or to a company that is struggling to keep afloat, you will potentially start to encounter some trouble. Failing businesses will not just fail to keep up with their rent payments, but will fail to provide you with the long-term stability you need to make the most out of your property investment.

Lastly, it is important to note that acquiring a commercial property requires more capital than acquiring a residential property, which means it is much more difficult to start investing on it. If you later choose to sell your commercial unit, this could be challenging, especially if you are in the middle of a long lease, meaning that whilst the longer leases associated with commercial property can be positive for stability, they can also offer less flexibility than residential investments.

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What is a residential property?

So how about commercial property’s counterpart, the residential unit? In short, residential units function as homes and accommodation, such as flats and apartments and houses.

Pros of investing in residential

The most blatant advantage of investing in residential property is the fact that everybody requires a home, and demand will never cease. The pool of potential residential purchasers and renters is also far higher, which boosts the likelihood of you finding the perfect tenant, or replacing a tenant if they choose to move, and starting your journey to recouping your investment. With the government currently failing to meet their targets for new home construction, demand is particularly high at the moment, making residential investment very lucrative as both buyers and renters search for new homes. This is part of the reason why property prices are soaring in recent years, as competition is fierce for good quality homes – so, if you manage to purchase one, it can be a fantastic way to reap long-term yields.

Although residential tenancies are typically shorter than commercial leases, their potentially brief nature can be beneficial, especially if you encounter difficult tenants, as you won’t be stuck in long-term leases. This is also a benefit if you choose to sell your property, as your existing tenants will likely not be tied into a 36-month long contract, as is so common in commercial property leases.

What’s more, compared to its commercial counterpart, residential units tend to cost far less which can allow you to grow and develop a substantial and diverse property portfolio far quicker. This also offers greater opportunities to diversify your portfolio faster, and with generally lower initial costs, which can allow you to leverage your investments relatively quickly.

As previously mentioned, cities such as Edinburgh, Birmingham and Manchester all offer exceptional average yields of over 7 per cent, likely because of the considerable amount of growth happening in these bustling cities. They attract an abundance of investment, which thereby produces jobs and opportunities that encourages individuals and families to move into these regions, thereby enhancing competition in the market and increasing rental prices. However, less populated areas also offer fantastic yields, namely Burnley and Hartlepool in England, and East Ayrshire and West Dunbartonshire in Scotland. In these regions, properties can be purchased for below £80,000 and rented out at a rate that can produce yields of up to 8.48 per cent according to Zoopla. This demonstrates the viability of residential investment for those with a range of budgets.

Cons of investing in residential

Unlike commercial properties such as retail and office units, residential properties are inhabited almost 24/7, making them far more prone to wear and tear. Additionally, landlords typically foot the bill for any maintenance issues that need fixing, or any refurbishments that are needed, which can certainly add up over time, especially if your tenants do not treat your unit with the care it deserves. As such, some months may be less profitable for residential landlords than others, which is why it is so important to choose the right tenant that will look after your investment property and be honest communicators, as well as having a ‘rainy day fund’ set aside should any of these issues arise.

Yet another cost that residential landlords ought to consider is the possibility of void periods. Whereas commercial units are usually leased for long periods of time, residential tenancies can be far shorter, sitting at an average of around 12 months. This leaves you vulnerable to void periods, which is where your unit is uninhabited and therefore unprofitable between tenancies. These issues can be mitigated by utilizing a management agency who can assist you in the day to day running of your property portfolio, but this will also come at a cost.

What if I can’t decide?

If you’re still confused about whether commercial or residential investment is right for you, our team at Centrick can help you make the best decision for your portfolio. Our team at Centrick Invest are experts in finding our clients the perfect properties to suit them by considering their budget, requirements, desired yield, and preferred level of involvement, making us the ultimate matchmakers for searching investors and exceptional investment opportunities.