Here’s the Main Difference Between Residential and Commercial Real Estate

I was discussing the Canadian real estate market with a colleague who’s decided to take a break from the madness. After 40 years in the industry, he’s has amassed a wealth of knowledge, especially with respect to commercial real estate and investment properties. And so when he talks I listen.

He shared a story about a client who refused a $3 million offer for a building worth $2.5 million. In the current climate where lack of inventory is propelling multiple offers on Montreal residential real estate and resulting in sales $100K over asking, it’s normal for potential sellers to over-value their holdings. My colleague’s client had expected a valuation of $4 million and wasn’t going to budge even though his ROI was through the roof. What this seller chose to ignore was that, in the world of commercial real estate, a buyer will look at one thing and one thing only, the numbers.

Interest rate hikes by the Bank of Canada means more money to service debt, which equates to higher operating costs for a building. For example, a $3 million mortgage with an amortization of 25 years and a rate of 2.5% has a monthly payment of $13,440. An increase of 0.25% to the rate adds $376 to the monthly payment and $4,512 to the annual debt service of the building. All of which eats away at an investors bottom line, especially when returns are already low.

Buyers searching for a yield of 3%, 4% or 5% facing higher debt serving costs won’t be inclined to overpay for a commercial property* just to win a bidding war. Granted, not all investors have the same strategy. Some may sacrifice a higher yield, but only for a property that has the potential to increase revenue through upgrades. Others may simply want to park money in a place that awards them a return greater than what other asset classes are offering. But, at the end of the day, every investor is searching for an ROI worth their time and money.

The bottom line? We’re seeing a lot of FOMO in the Montreal real estate market right now. Whether you’re a first-time investor or have a large portfolio of apartments, never forget the reason you decided to invest in the first place. If you’re like me, you’re looking for a tangible asset that provides a positive monthly cash flow. Passive income that will one day contribute to your financial freedom.

My advice is to remember that the commercial real estate market is a whole other ball game. As a seller, put yourself in a buyer’s shoes. Sure, you can take advantage of a hot market but be realistic. And, most importantly, as a buyer don’t lose sight of the numbers.

Feel free to get in touch to talk about your needs.

*Note that when I speak of commercial property I’m talking about buildings with multiple units e.g. 20-30.

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