Should you invest in commercial real estate?

Investing in private property is usually seen as a stable, risk-averse decision that will guarantee constant returns. But nowadays investors are leaning towards commercial real estate instead.

According to Francois Staples, Joint CEO of Knight Frank South Africa, commercial property includes offices, industrial buildings like factories and warehouses, and retail properties like shopping centres.

Two ways to invest in commercial property

“You can invest in commercial property through the listed property funds on the Johannesburg Stock Exchange (JSE) – of which there are a number to choose from – or alternatively you can buy and manage properties directly,” he explains.

Staples points out that the benefit of investing in listed commercial property is that it’s liquid and you don’t need to personally manage it.

“You can access the benefits of the commercial property market with a small cash investment, and you have the ability to diversify across various properties and sectors with a limited budget,” says Staples. 

On the other hand, directly investing in commercial property (i.e. through buying commercial property), will remove the cost of having someone else manage your investment.

Staples says it will also give you the ability to borrow money against the property in order to increase real capital growth, as well as enable you to select individual properties that best suit your interests. 

Graeme Jay, managing director of the College of People Management and Development, clearly names and outlines the difference between these two investment methods:

• Direct investment: in this instance, the investor would buy the property and own the property outright. The advantages of doing this is that the investor is able to add to their asset base, increase the value of their estate, and build their wealth in this manner. The major disadvantage would be the management burden of finding tenants, managing the tenants, and managing the property.
• Indirect investment: a viable investment alternative to direct ownership of commercial property, is to invest in an indirect manner through a listed property investment such as a Real Estate Investment Trust (REIT). These are listed on the stock exchange and they have many advantages. Instead of owning commercial property directly, the investor would be buying shares in a listed vehicle called a REIT. The REIT buys and generally manages the properties in the portfolio. This relieves the investor of the management burden and potentially gives the investor access to a range of commercial properties in one portfolio. REITs distribute income to their investors twice a year and, over time, as the value of the properties in the portfolio increases, the value of the shares owned by the investor should also increase.  Another huge advantage, is that an investment in a REIT is very liquid. If you want to sell, it is simple as selling any shares of any listed company as opposed to the often very lengthy process of selling a property that you own directly.

The pitfalls of private property

Whichever method you choose, making an investment towards commercial property certainly differs from investing in private property.

Jeremy Clayton, general manager of the President Hotel, believes that investing in commercial property is a hassle-free investment.

“The challenge with investing in residential property is that owners need to maintain and oversee the upkeep of their property whereas when investing in commercial property such as a hotel, all of the maintenance and servicing of the apartment is done for the owner,” explains Clayton.

He also highlights that a lot of quality property, like real estate along the Atlantic Seaboard, has been in high demand, leading to exorbitant prices.

“The city has responded to this trend by enforcing procedures to discourage short term letting, such as insisting owners get insurance for their properties, and enforcing tourism levies. With these in place, profitability will eventually decline,” says Clayton.

How does commercial property compare?

Clayton believes that the benefit of investing in commercial property is that it’s completely managed by the body corporate.

Using a hotel as an example, he explains, “The owner doesn’t have to worry about maintenance, rates, levies, tenants, or competitive pricing because it has its own sales and marketing team. Therefore, the only concern for an owner is purchasing the property, and receiving the dividend distribution.”

Clayton illustrates that investors of the Presidents Hotel received roughly 30% to 40% per year, and that the value of the property has increased by up to 44% over the last two years.

“This is well ahead of the growth in residential property in the city. In our case, there is also the prestige of owning property in Bantry Bay, and along the Atlantic Seaboard,” he says.

“For owners there is the bonus of having access to their property for 30 days per year at a cost price which is a tenth of the rate of other Cape Town hotels,” he adds.

Unfortunately investors are not always aware they can buy sectional title properties in hotels, so they only focus on apartments and flats. If they were aware of their other options, and they weren’t limited by their budget, they would be able to significantly increase the return on their investments.

What about taxes?

Wayne Berger, chairman of Instant Property, points out that investing in the tourism and leisure industry offers a Section 12J tax rebate, making this type of investment more appealing.

“If an investor becomes an accredited 12J company, they can potentially write off 100% of their investment against their taxable income in the year they invest. If they hold those shares for five years, then that tax benefit is permanent,” says Berger.

“There are various approaches that an investor can take to benefit from this tax benefit and there are a wide range of businesses that they can invest into, including hotels and entertainment property,” he adds.

Choosing the right niche

In particular, Berger suggests investing in logistic warehouses.

“With heavy manufacturing taking strain and with offices being exposed to the gig economy and mobile workers, logistic warehouses seem to be a safer bet at the moment,” says Berger.

“Companies distributing perishable and non-perishable products will still require storage space and still need the infrastructure that supports it,” he adds.

Other than this, medical real estate has become popular in countries with an reduced mortality rate and a growing, older population.

According to Hennie Bezuidenhout, co-founder and chairman of Wealth Migrate, medical facilities are always full.

"When the facts are presented, medical real-estate investments make sense, even if you don't come from a financial or investing background,” he explains.