For experienced business owners, the decision to buy a property or continue leasing comes with a briefcase full of “what if” questions and an even greater number of “it depends” answers. There are several good reasons to buy a building, including building equity, having collateral for future financing, potential appreciation of the property and tax breaks.
Can you afford to tie up significant capital in a down payment?
Most commercial lenders require a buyer to apply between 15 and 30 percent of the total cost of the building as a down payment. The amount of the down payment depends upon several factors, including the income generated by your business, your credit, industry trends and growth history, as the lender will be concerned with your ability to repay the loan over time. The lender will also often look at your business model to see what percentage of your gross income will be needed to cover the mortgage and will compare that to other similar businesses to determine if the loan should be made.
Will additional cash be needed to operate your business?
Once the down payment has been invested in a property and the loan has been made, frequently you are unable to borrow additional capital for some time. A buyer should evaluate his or her ability to operate the business in the event of a slow economic cycle, natural disaster or a change in laws affecting your business. Will the absence of the cash used for the down payment and improvements to your new building prove to be a hardship?
How will building expenses impact your business bottom line?
When you are a tenant, calling the landlord to fix a roof leak or repair an air conditioning system requires little time and no money. When you own the property, not only do you have to find tradesmen to make the repairs, but you have to pay for them as well. A new air conditioning system in a commercial property can be more than $10,000, and will typically be paid for at installation. Finding that money at a moment’s notice in the middle of your slow season can put a big hit on your operations.
If you are the company’s primary salesperson, taking the time to find reputable repair people is time away from selling your product or service to your customers. Owning adds another layer of insurance (both liability and repair/replacement coverage) and property taxes to what you pay as a tenant. These costs eat into your total profit and affect yearly cash flow.
How large a property should you buy?
There are many things to think about. If you have been in business and your annual operations are stable, buying a building roughly the same size as the space you are currently leasing makes sense. If your business is subject to regular business cycles where you grow for a few years, then are stable and then need to downsize, it is harder to determine what size building to purchase. Similarly, if your business is growing, you will need to determine how much you are willing to invest to accommodate future growth. Finally, if you buy a building larger than what you currently need, is the building configured so that you can rent the remaining space until you are ready to expand?
There are many considerations when looking at leasing versus buying. When you lease, you have no down payment and typically lower maintenance costs. With buying, you can control your monthly payment for decades without the worry of rent increases and lease renewal. When you own your building, you build up equity that you won’t get leasing; however, with ownership you might be less flexible to expand your business or relocate your business easily.
Whatever you choose, consider what works best with your business plan. Consulting with your accountant, your agent and a lender before moving forward is a good idea, and your commercial real estate professional is an important member of this team as he or she adds market knowledge and experience beyond the financial impact of buying a building. Your commercial real estate professional also has current information about trends in your submarket that could positively impact on your business.