A wide range of businesses require commercial space for operations. If you need a brick-and-mortar storefront, factory, or office space in which to conduct business, it’s time to consider the merits of buying as compared to leasing your commercial space.
There is a lot of business strategy involved in the decision, but gaining clarity on some key considerations can help you make a more informed decision.
If you opt to lease a building, you will commit to a set term to rent the property. This period will eventually end, and will often be followed by a renegotiation process to continue using it. If you decide to purchase a commercial property, then you can pay cash upfront or finance the purchase with a commercial real estate loan. Each option carries its own set of pros and cons. Some of the factors involved include tax implications, cashflow, property value, and business equity.
As always, we are not providing financial advice specific to your business, but rather are seeking to discuss general factors you would want to consider when it comes to buying or leasing commercial property.
Pros of Buying Commercial Property
There are several reasons why it’s advantageous to own your commercial property. Ultimately, opting to purchase commercial property offers the chance to purchase a long-term asset. Some of the advantages to buying your own commercial property include:
- Asset Appreciation - Commercial real estate ownership allows your business to benefit from potential capital appreciation. Keep in mind that the rate of appreciation will vary between the inflation rate, local market conditions, the interest rate and other factors, but it offers the chance that it may grow your initial investment in the property and increase the overall value of the business. Keep in mind, though, that assets may also depreciate at times, depending upon market conditions.
- Control - When you own the property, you are no longer subject to a landlord. As the business world knows, time is money, and you can wave goodbye to property modification negotiations and lease contract negotiations which can eat into precious time otherwise spent growing your business. You can also grow as you need within the space, making modifications at time and local permits allow.
- Equity - The equity in your commercial property will vary depending upon your loan structure, but the equity built over the life of the loan often grows in value relative to a lease where the landlord will be the beneficiary of the equity gain in the property. This equity contributes to the overall value of your business and can grow steadily while you sleep.
- Rental Income - A business that purchases commercial property will need to occupy at least 51% of it. (Lenders will classify real estate as an investment property when the ownership share is 50% or less.) This can influence how easily you will qualify for the loan, but it also has other implications. If you do not need to use the entire building, then the leftover space can be rented to tenants to create a secondary stream of income.
Pros of Leasing Commercial Property
Commercial real estate leases tend to run from five to 10 years in length. The least agreement typically limits what can be done with the building, as it places restrictions on certain activities, which may require additional negotiation if your needs change. However, there are still benefits to leasing commercial property, and they include:
- Fixed Monthly Costs - Leases generally ensure that you will not have to pay for significant maintenance, upkeep, or repairs to the property. By no means does this mean that leasing eliminates all of the costs associated with property, but it can absorb a large portion of otherwise hefty costs on your business.
- Flexibility - Opting for a lease over a commercial property purchase will provide some benefit when it comes to movement. In the first place, a lease doesn’t require as much qualification as a loan. And you will be able to simply move to another location after the lease expires rather than having to sell the building in order to relocate. However, this is a two-edged sword in that should you desire to stick around, you will have to negotiate a new lease which will oftentimes be more expensive than the previous agreement.
- Liquidity - When leasing, you will ultimately tie up less of your cash because leases don’t require larger down payments like many loans require. However, this does not mean that there are no upfront costs associated with leasing. You can expect to pay attorney fees, broker fees (if applicable), prelease inspection, and a security deposit.
- Tax Breaks - Leases enable you to deduct costs incurred in the form of lease payments, property insurance, possibly property taxes, utilities, and maintenance. You may be able to deduct the entire lease payment, rather than being limited to the corresponding mortgage interest-only deduction. While these tax benefits may be worthwhile, they will vary depending on your specific circumstances. Please speak with a qualified tax professional to determine precisely what you can and cannot deduct.
The Conclusion: When Does It Make Sense to Buy or Lease Commercial Property?
It makes sense to purchase commercial property when you plan to stick around on the property for a longer period of time. If your cash flow provides the ability to save a down payment and 3-6 months of mortgage payments, then it may make sense to capitalize on appreciation, control, equity and additional potential streams of income offered by commercial property ownership. Afterall, you have a lot of control over what you can do with the building. Secondary streams of income from tenants or even the growth of appreciation can help your business become stronger.
If you desire to be able to relocate after a specific term, then opting for a lease makes more sense. Added benefits of a lease may include more time to focus on your business rather than the time and effort to maintain your property. Leasing can be a great way for your business to scale up and purchase your own commercial property at a later date.
Whether you ultimately choose to lease or buy a commercial property, First Palmetto Bank offers better banking solutions for your small or medium-sized business. Our Loan Officers are adept at working with local businesses to qualify for a commercial real estate loan to purchase the property you need to grow your business. Even if you decide to lease property, then our business banking solutions make paying your lease or tracking your tax-related expenses more simple.
If you need to talk to a real person about your commercial real estate needs, contact First Palmetto Bank today to get started!