Are you looking to explore commercial real estate investing but concerned about the high bar for entry? You may have tried your hand at residential real estate and are tempted by prospects of the more significant and more steady revenue streams commonly found in commercial real estate investments. If you think commercial real estate investing is only for those who already have large amounts of investment capital, think again!

There are a few ways retail investors with some real estate investment experience can get a foothold in the world of commercial real estate. This article will explore how you can pool your investments in a real estate investment trust (REIT) or a private equity firm to see consistent, predictable returns on your investments.

Before we get into how– let’s define some terms to help you learn how commercial real estate differs from residential real estate.

Commercial Real Estate Terms You Need to Know

If you have some experience in residential real estate, you might be familiar with some of the valuation methods used by investors to compare similar properties. The most familiar method is the comparable sales method, and it relies on market factors to adjust the value of a residential property.

However, commercial real estate valuation methods do not focus on market factors but instead on projected revenue generated by the property.

Capitalization Rates and Net Operating Income (NOI)

Capitalization rates, or cap rates for short, is the most common method used to predict the profitability of a commercial property. Cap rates in commercial real estate are calculated by a simple formula that puts the NOI over the complete purchase price. The NOI is an estimate of the annual income minus all the projected operating expenses.

Cap rates are used to compare the yearly profit of similar commercial properties. They are not the be-all-end-all metric, but they are a valuable tool in the commercial real estate investor’s toolbox. If you are interested in commercial real estate, you need to become aware of this valuation method, as it will be the first choice amongst investors when comparing similar properties.

How You Can Invest in Commercial Real Estate

Since we have defined important terms, we can look at how you can begin investing in the commercial real estate market. The following methods are the most commonly used by commercial real estate investment strategists.

Some are more hands-on regarding the amount of research, work, and time you must commit, while others are trusts or private equity firms that do much leg work. Options like these bring investors the closest to a passive income stream, however that phrase is deceiving.

Direct Investing

Usually, to be a direct investor, you and a handful of other investors get together to purchase a commercial property directly. You and your partners have to create an LLC, and by doing so, you essentially create a small business whose job is to manage, market, and administrate a commercial property.

This method is the most time-consuming, involves the most risk, and is a full-time job of its own accord. It is the least “passive” of commercial investment choices, as your LLC has to locate the commercial property, negotiate its purchase, market to tenants, draft leases, manage and maintain the property, and so on. This method probably isn’t the way to go unless you intend to be a committed commercial property owner.

Real Estate Investment Trusts (REITs)

If you do not have the capital to invest in commercial real estate as a direct investor, you can pool your capital in a REIT. REITs are companies that run solely to invest, own, and operate commercial properties. There are umbrella REITs that handle many different types of commercial properties, and there are more industry-specific REITs that focus on restaurants or condominiums, for example.

REITs can be publicly or privately traded, meaning you can invest in them like stocks if they are public, but you need to be an accredited investor to trade in private REITs. Because these companies do practically all of the leg work– the research, development, and implementation of investment strategies– you’ll have no say in the choices and direction of the company.

Real Estate Mutual Funds

Real estate mutual funds are similar to REITs in purpose but differ significantly in function. They are similar in that both REITs and mutual funds pool investor money into real estate investments. However, the difference is in how they go about allocating their investors’ capital. Where REITs are companies that own, operate, and manage commercial properties directly, mutual funds invest in other companies that own, operate and manage commercial properties.

Investing in a mutual fund takes away the additional step of researching REITs and other companies that directly manage property. Though this means less work for the investor, there is an added layer of separation between the investors and the commercial property, as they are investing in companies who exist exclusively to invest in other companies that own, operate, and manage commercial properties. If this seems complicated, it’s ok! It is.

Private Equity Firms

Private equity firms are another kind of business structure that generates passive income for its investors. As far as investors are concerned, it is similar to a REIT but is always private, open just to accredited investors. Private equity firms differ in that some provide a unique structure– the individually syndicated deal.

This gives investors a say in the investment decisions. They have chances to invest in specific properties with the private equity firm. They have access to property information, including tenant info, and have a greater degree of control over which projects their money goes toward.

Opportunities for Every Type of Investor

If the world of commercial real estate investing is new to you, it may seem overwhelming. However, the fact that there are so many different ways you can invest in commercial real estate means that there is an investment option for every kind of investor. Whether you are a laid-back retail investor or would like to become a more serious investor, the commercial real estate world is big enough for all kinds of investors to get a piece!

With Mission First Capital, you can start your investment journey alongside other military members and veterans! If you have questions or would like to talk about potential partnerships or investment opportunities, don’t hesitate to reach out. Give us a call at +1 (844) 632-3863 or visit our website MissionFirstCapital.com to learn more and let’s invest today!