In this guide, we break down the essentials of commercial real estate investing, explore the benefits and risks, and provide actionable steps to get you started. By the end, you’ll be equipped with the knowledge you need to confidently begin your commercial real estate investment journey.
What is Commercial Real Estate Investing?
Commercial real estate investing involves acquiring properties intended for business use, with the primary aim of generating profit through rental income, appreciation, or both. These properties can range from office buildings and retail spaces to industrial complexes and multifamily units.
Commercial real estate investors benefit from the potential for high returns and diversification, though selecting the right type of commercial property can be complex for even the most seasoned real estate investor.
CRE vs. Residential Real Estate
While both residential and commercial property investments are backed by real estate, they behave very differently:
- Property size and cost: A typical single-family home might be 2,000–2,500 square feet. A commercial investment property such as a distribution warehouse or shopping center can easily be hundreds of thousands of square feet, which generally means higher purchase prices and operating costs.
- Tenants: Residential properties are leased to individuals and families, while commercial properties (other than multifamily) are leased to businesses. That means your income stream is tied to business performance and the local economy rather than individual household budgets.
- Leases: Residential leases are often 12 months. Commercial leases can range from 3–5 years to 20 years or more, with detailed language on rent escalations, expenses, and tenant improvements.
- Risk and return: Commercial real estate investments tend to offer higher potential returns but also come with more complex financing, leasing structures, and market risk.
Understanding these differences is a key step in deciding whether commercial real estate investing is the right fit for your portfolio.
The 6 Different Types of Commercial Real Estate Investments
Commercial real estate encompasses various property types, each offering different investment opportunities and challenges. Understanding these options helps individuals make informed investment decisions and diversify their portfolios.
Below, we explore six primary types of commercial real estate investments and their key characteristics.
Office Spaces
Office spaces are leased to businesses for administrative and professional functions, such as accounting firms and consultancies. These properties can range from small office buildings to large corporate headquarters. Alternatively, an office building could be used for a specialized purpose, like a dentist’s office or medical imaging center.
For investors, office properties tend to offer longer lease terms and higher-quality business tenants, but they may require meaningful tenant improvement allowances to attract and retain those tenants.
Retail Locations & Shopping Centers
Retail properties include stores and shopping centers where businesses sell products directly to consumers. Examples include grocery stores, electronics shops, and clothing retailers. Retail spaces are often clustered in shopping centers to enhance convenience for shoppers and drive foot traffic.
Retail space is popular with investors because of its visible locations, the potential for long-term leases, and the presence of anchor tenants such as grocery stores that can help stabilize cash flow across the center.
Industrial Properties
Industrial properties serve manufacturing, warehousing, and distribution needs. Tenants typically include logistics companies like UPS, FedEx, and Amazon. These properties are essential for supporting supply chain operations and can range from small warehouses to large industrial parks and bulk distribution centers.
Investors are often drawn to industrial assets for their relatively simple build-outs, lower ongoing capital expenditure requirements, and strong long-term demand driven by e-commerce and logistics.
Multifamily Properties
Multifamily properties are residential buildings with five or more units leased to individuals. These include apartment complexes and other multi-unit residential buildings. Multifamily investments provide steady income through residential leases and are popular for their potential for stable returns and institutional buyer demand at exit.
Because housing is a basic need, multifamily assets often hold up better in economic downturns than other commercial property types, though they do require active, day-to-day management.
Special Purpose
Special-purpose properties are for specific uses, such as schools, churches, and theaters. They often have individual design requirements and limited alternative uses. Investing in special-purpose properties can be lucrative but typically requires a deep understanding of the specific market and the tenant’s business model.
Owner-Occupied Commercial Real Estate
Owner-occupied commercial real estate refers to properties where the business owner also occupies the space. This setup allows businesses to build equity while using the property for their operations. It’s a strategic investment that combines business operations with real estate ownership.
Other Commercial Property Types
Beyond these core categories, the commercial real estate universe includes:
- Hospitality (hotels and extended-stay properties)
- Mixed-use projects that combine residential, retail, and/or office
- Land (raw or entitled) held for future development
- Self-storage and medical office buildings
- Agricultural and specialty assets (data centers, cold storage, etc.)
These segments can play a role in a broader commercial property investment strategy but often come with more specialized operational requirements.
Property Classes (A–D)
Within each property type, assets are often grouped into Class A, B, C, and sometimes D:
- Class A: Newer, well-located buildings with high-end finishes and strong tenants. They tend to offer stable cash flow and lower risk, but with higher purchase prices and somewhat lower yield.
- Class B: Solid assets with good but not perfect locations or slightly dated finishes. There may be some deferred maintenance or lease rollover. Many investors favor Class B properties for their balance of income and value-add potential.
- Class C: Older properties, secondary locations, or assets with significant vacancy or capital needs. These are classic value-add opportunities for experienced investors willing to invest in renovations and new leasing.
- Class D: Functionally or physically obsolete assets with major issues. These are typically high risk and only appropriate for very specialized business plans.
Knowing both the property type and property class helps you quickly gauge the risk/return profile of a particular commercial real estate investment.
Getting Started in Commercial Real Estate Investing: 4 Steps to Begin
Starting in commercial real estate investment requires careful planning and strategic decision-making. This section outlines four essential steps to help you start on the right foot, from gaining industry knowledge to evaluating potential investment properties.
By following these steps, you can build a strong foundation for successful investments in the commercial real estate market.
First, Clarify Your Investment Objectives
Before you look at a single deal, take stock of your broader investment plan:
- Return objectives: Are you primarily seeking income, growth, or a mix of both? Income-oriented investors often favor stabilized, necessity-based retail or multifamily. Growth-oriented investors may look for value-add or development.
- Risk tolerance: CRE risk runs on a spectrum—from fully leased, grocery-anchored centers on one end to ground-up development and special-purpose assets on the other. Your risk tolerance should drive the types of deals you consider.
- Time horizon: Commercial real estate investments are typically medium- to long-term commitments (often 3–10+ years). Make sure your capital matches that timeframe.
- Active vs. passive: How involved do you want to be? An active owner will handle or oversee leasing, financing, and property management. Passive investors delegate those responsibilities to a sponsor or fund.
With those questions answered, you can move through the following steps more deliberately.
Step 1: Educate Yourself on the Commercial Real Estate Industry
Begin by understanding the different types of commercial properties, market trends, and industry terminology. Reading books, attending seminars, and following commercial real estate industry news are excellent ways to build your knowledge base. This foundational education will help you make informed decisions and identify lucrative opportunities.
At this stage, it is especially helpful to learn the basics of lease structures (for example, gross versus triple-net leases), how lenders underwrite CRE loans, and how sponsors present projected returns.
Step 2: Define Your Investment Goals & Strategies
Set clear investment objectives by determining whether you seek short-term gains through property flipping or long-term appreciation via rental income. For example, you might aim for an 8–12% annual return on investment or focus on properties with significant value-add potential.
Create a detailed plan that includes your target property types, such as office buildings or retail spaces, and your geographic preferences, like urban centers or emerging markets. Clarify whether you want direct ownership of a specific commercial investment property or prefer a diversified commercial real estate investment through a fund or REIT.
Step 3: Secure Financing for Your Investment Opportunity
Explore various financing options such as commercial mortgages, Small Business Administration (SBA) loans, partnerships, or investment groups, like FNRP. Understanding the terms and conditions of each financing method, including interest rates, amortization, recourse, and loan-to-value ratios, is needed to secure the necessary funds for your commercial investment.
For investors pursuing a passive approach, “financing” may simply mean deciding how much capital to allocate to a given deal, fund, or publicly traded vehicle.
Step 4: Identify and Evaluate Properties
Utilize your network of real estate brokers and industry contacts to find potential investment properties. Websites like LoopNet or CREXi can also be valuable resources for identifying properties on the market. Conduct thorough due diligence by inspecting the property’s physical condition, reviewing financial statements and leases, and assessing the local market’s economic health.
In many cases, this step is where partnering with an experienced sponsor or operator can add substantial value.
How Much Capital Do You Need to Start?
How to get into commercial real estate—and how much capital you need—depends on the approach:
- Public REITs or listed funds: Investors can often start with a few hundred dollars by purchasing shares through a brokerage account. This is typically the lowest-cost path into commercial real estate investments.
- Private equity funds or syndications: Minimums commonly range from $25,000 to $100,000+, and opportunities are usually limited to accredited investors. These structures provide access to institutional-grade assets without the burden of day-to-day management.
- Direct purchase of a commercial property: A direct purchase often requires a down payment of 20–30% of the purchase price, plus closing costs and reserves. For a $2 million asset, that can easily mean $500,000 or more in equity.
Matching your capital base with the right vehicle is a critical part of building a sustainable commercial property investment strategy.
Benefits of Investing in Commercial Real Estate
Investors who decide that commercial real estate aligns with their investment goals can benefit in several different ways. Commercial real estate often provides higher income potential compared to residential properties, along with longer lease terms that ensure stable cash flow.
Additionally, this asset class allows for diversification and the opportunity to build valuable business relationships, which can further enhance investment returns and stability.
Increase Your Income & Boost Your Cash Flow
Due to its scale, commercial real estate offers the potential for significantly higher returns and greater passive income compared to residential properties. Investing in a commercial property allows you to generate substantial cash flow from multiple tenants within a single building.
This steady stream of rental income, combined with the potential for property value appreciation, makes commercial real estate an attractive option for boosting overall investment returns.
Lower Competition Compared To Other Investment Spaces
The pool of buyers for commercial real estate properties is generally smaller than that for residential assets. This reduced competition can make it easier to acquire commercial properties at attractive prices. As a result, commercial investors have more opportunities to negotiate favorable deals and secure high-quality assets.
Long-Term Leases
Commercial leases typically have longer terms than residential leases, often ranging from 3 to 5 years and, in some strategic locations, up to 25 years or more. This extended lease duration provides greater stability and predictability for both property owners and business tenants.
The long-term nature of commercial leases, whether for retail space or office space, ensures a steady income stream and reduces the frequency of tenant turnover. Many commercial leases also include built-in rent escalations that can help offset inflation over time.
Build Business Relationships
Leasing commercial space to businesses can foster beneficial, long-term relationships. These relationships often lead to becoming a trusted partner for companies that require space across multiple locations. This network of professional connections can enhance your investment portfolio and open up new opportunities for future growth.
Limited Operational Hours
One significant advantage of commercial real estate is that businesses typically operate within set hours, reducing the need for around-the-clock property management. This means fewer emergency calls and less maintenance compared to residential properties. Limited operational hours allow for more predictable management schedules and lower overall management costs.
Additional Benefits: Tax Advantages, Diversification, and Inflation Protection
Commercial real estate investments may also offer:
- Potential tax benefits: Depreciation, interest deductions, and the ability to defer capital gains through strategies such as 1031 exchanges can improve after-tax returns when used appropriately.
- Portfolio diversification: Commercial property prices often move differently than stocks and bonds. Adding CRE can reduce overall portfolio volatility and provide another income stream.
- Inflation hedge: Because rents can adjust over time, commercial properties can help protect purchasing power in periods of rising prices. Investors may see both income and property values rise in inflationary environments.
These factors are key reasons many sophisticated investors allocate a portion of their portfolio to commercial real estate investing as a long-term wealth-building tool.
Risks To Keep in Mind When Starting Your Commercial Real Estate Investment Journey
Investing in commercial real estate comes with several risks that investors must carefully consider. Market volatility, tenant issues, legal compliance, environmental concerns, and financial uncertainties can all impact your investment’s success. Preparing for these risks will help you make informed decisions and mitigate potential challenges.
Market Volatility and Economic Fluctuations
The commercial real estate market can be highly sensitive to economic changes, which can affect property values and rental incomes. Recessions and market downturns may lead to increased vacancies and lower rental rates. Investors need to stay informed about economic trends and plan for potential market shifts.
Tenant-Related Risks
Tenant turnover, defaults, and vacancies can significantly impact cash flow and profitability. To reduce these risks, it is crucial to conduct thorough background checks and maintain strong relationships with tenants. Diversifying tenant types and securing long-term leases can also provide stability.
Legal and Compliance Issues
Commercial properties must comply with numerous local, state, and federal regulations. Failure to adhere to these laws can result in fines, legal disputes, and other complications. Investors should work closely with legal professionals to ensure compliance and navigate regulatory landscapes.
Environmental and Structural Assessments
Environmental hazards and structural issues can pose significant risks to commercial properties. Comprehensive assessments and inspections are essential to identify potential problems before acquisition. Addressing these concerns early can prevent costly repairs and legal liabilities in the future.
Financial Risks
Financial risks, including interest rate fluctuations and unexpected expenses, can affect the profitability of commercial real estate investments. One significant concern is negative cash flow, where the expenses and liabilities exceed the rental income generated by the property. Investors should have a solid financial plan, maintain adequate reserves, and consider various financing options to manage these risks effectively.
Additional Risks: Cost, Illiquidity, and Management Intensity
- High upfront cost: Quality commercial assets often require substantial equity contributions, especially for direct ownership.
- Illiquidity: Unlike publicly traded securities, most private commercial real estate investments cannot be sold quickly. Exits are usually tied to a business plan timeline.
- Management intensity and public safety: Larger properties may have dozens of tenants and heavy daily traffic. Owners must manage maintenance, public safety, insurance, and reputational risk. Many investors mitigate this by hiring professional management or investing passively through established sponsors.
Understanding both the benefits and risks will help you decide which commercial real estate investments align with your risk tolerance and broader financial plan.
Evaluating Opportunities in Commercial Real Estate Investing: What You Should Consider
Several key factors must be considered when evaluating commercial real estate investment opportunities to ensure a successful investment. Location, property valuation, financial metrics, and market analysis are important elements that influence the potential return and stability of your investment.
The Importance of the Location
Location in commercial real estate directly impacts property value, demand, and rental income potential. Prime locations with high foot traffic, accessibility, and proximity to amenities tend to attract more tenants and command higher rents. Investors should thoroughly research and choose locations that align with their investment goals and target market.
Property Valuation
Accurate property valuation is essential to determine the fair market value and investment potential. Methods such as the income approach, comparable sales, and cost approach help assess a property’s worth. A thorough valuation ensures you do not overpay and can achieve desired returns on your commercial real estate investment.
Financial Metrics
Key financial metrics provide insight into a property’s profitability and risk profile:
- Net Operating Income (NOI): Income from the property (rents and reimbursements) minus operating expenses, before debt service. This is the foundation for valuing commercial properties.
- Capitalization rate (cap rate): NOI divided by purchase price. It’s a shorthand way to compare the current yield and relative risk of different deals.
- Cash-on-cash return: Annual pre-tax cash flow divided by the equity invested. This helps you understand what your cash is earning each year.
- Internal rate of return (IRR): The annualized rate of return over the life of the investment, factoring in the timing of cash flows and eventual sale. IRR is a key metric for many sponsors and private equity firms.
- Gross rent multiplier (GRM): Purchase price divided by gross rental income. It’s a quick, high-level gauge of value, often used alongside more detailed metrics.
Analyzing these metrics helps investors understand the income potential and evaluate the financial viability of an investment.
Market Analysis
A comprehensive market analysis involves studying local economic conditions, supply and demand dynamics, and competitive properties. This analysis helps predict future market trends and assess an investment’s long-term viability. Investors should use tools like CoStar and local real estate reports to gather relevant market data, paying close attention to the development pipeline, demographic trends, and employer concentration.
Commercial Real Estate Investment Approaches & Strategies
Investors have strategies to choose from when venturing into CRE; these approaches can be broadly categorized into indirect and direct investments. Understanding these strategies helps investors align their choices with their goals, risk tolerance, and desired level of involvement.
Indirect Investments
Indirect investments involve participating in CRE without direct property ownership. Popular options include Real Estate Investment Trusts (REITs), CMBS-related products, and crowdfunding platforms, which allow investors to pool resources and invest in properties managed by professionals. These methods offer the benefits of liquidity (especially with public REITs), lower capital requirements, and passive income, making them accessible and attractive to a broad range of investors.
Investors can also choose between public vehicles (such as listed REITs and ETFs) and private offerings (such as non-traded REITs and private funds). Public vehicles typically offer more liquidity, while private vehicles may provide specialized strategies and different risk/return profiles.
Direct Investments
Direct investments entail purchasing commercial properties outright, either individually or with a group of investors. This approach requires significant capital and a hands-on management style, as investors are responsible for property maintenance, tenant relations, leasing activities, and loan negotiations.
The primary advantage is retaining full control over the property and potential profits, but it also involves higher risks and a substantial time commitment. For investors who want exposure to commercial properties but prefer a passive role, partnering with an experienced sponsor or private equity firm can be a more efficient way to invest.
REITs, Syndications, and Private Equity
REITs, syndications, and private equity firms provide structured ways to invest in commercial real estate with varying degrees of involvement and capital requirements:
- REITs: Publicly traded or non-traded companies that own or finance portfolios of commercial properties. Investors buy shares and receive dividends, gaining exposure to diversified commercial real estate investments without direct management responsibilities.
- Syndications: Structures in which multiple investors pool capital to acquire a specific commercial property or portfolio. A general partner (sponsor) manages the deal, while limited partners provide capital and receive passive income and potential appreciation.
- Private equity real estate funds: Larger, professionally managed funds that invest across multiple deals, often with clearly defined strategies (core, core-plus, value-add, or opportunistic). Minimums are usually higher, and these are typically reserved for accredited investors.
For many accredited investors, syndications and private equity funds are the most practical way to participate in institutional-grade commercial property investments while maintaining a passive role.
Frequently Asked Questions
What is a good ROI for commercial real estate?
A good return on investment (ROI) for CRE typically ranges from 8% to 12% annually. This range can vary based on property type, location, and market conditions, but achieving an ROI within this bracket is generally considered favorable for CRE investments. Actual outcomes will vary, and no specific return can be guaranteed.
What is the most profitable type of commercial real estate investing?
Multifamily properties and industrial real estate are often considered the most profitable types of commercial real estate. Multifamily properties provide steady income through residential leases, while industrial properties, such as warehouses and distribution centers, benefit from the growing demand for e-commerce and logistics. However, the “best” type depends on your objectives, risk tolerance, and ability to underwrite and operate the asset.
What is the average payback period for commercial real estate?
The average payback period for commercial real estate investments typically ranges from 5 to 10 years. However, this can vary significantly depending on factors such as the type of property, market conditions, and the investment process employed.
What is passive income in commercial real estate?
Passive income in commercial real estate, or passive real estate investing, refers to earnings generated from rental income and property appreciation without active management involvement. Investors can achieve passive income through investment vehicles such as Real Estate Investment Trusts (REITs), crowdfunding platforms, and private equity funds, which handle the day-to-day operations on behalf of the investors.
First National Realty Partners is one of the country’s leading private equity commercial real estate investment firms. With an intentional focus on finding world-class, multi-tenanted assets well below intrinsic value, we seek to create superior long-term, risk-adjusted returns for our accredited investors while creating strong economic assets for the communities we invest in.
