Are you considering investing in commercial property after lockdown? You might be a buy-to-let landlord thinking about diversifying your portfolio to include commercial property or perhaps you are a business looking to invest in your own premises.
Returns on commercial property investments can be higher than with residential property, and longer tenancies can mean greater financial security. However, the pandemic has shaken the commercial property market and you may be wondering if it is still a sensible investment.
During lockdowns, non-essential shops closed and many people worked from home which caused a decline in retail and office spaces. At the same time, supermarkets and other essential retailers such as corner shops saw sharp increases in their sales. Online retail sales in January 2020 were up 20.2% on 2019 and warehouses in popular locations with sought-after facilities achieved record rents.[1]
Here we discuss whether it is worth investing in commercial property in today’s economic climate and how to go about making a purchase.
What is commercial property?
Any property or land that is used for business purposes is commercial property.
Under the Town and Country Planning (Use Classes) Order 1987 commercial property is divided into five categories: offices, retail, industrial (factories and warehouses), leisure (including cafes, hotels, pubs, restaurants and sports facilities) and healthcare (care homes, hospitals and surgeries).
Commercial property also includes mixed use properties such as shops with flats above them.
Is it still worth investing in commercial property in 2021?
Multi-let industrial estates and distribution warehouses are currently in high demand as the value of ecommerce trade has accelerated from £58 billion in 2019 to £84 billion in 2020.[2] There has been growth in distribution centres to meet consumers’ demand for quick, online deliveries during lockdowns.[3] The property company Frank Knight predicts that ecommerce could increase demand for another 92 million feet of warehouse space in the next three years.[4]
The industrial sector has seen a healthy capital increase as values in April 2021 were 11.5% higher than in April 2019.[5] High-tech and laboratory space is also highly sought after due to low availability and high demand.[6]
Pubs, restaurants and gyms have taken a huge hit during the pandemic but there are signs of recovery as customers make up for lost time.[7] Whether offices and high street shops will similarly recover is a subject for debate. Pre-pandemic there was already a shift towards online shopping which had caused a decline in high street sales and advances in technology mean many people are likely to continue to work from home into the future.
That said, nothing can replace the physical experience of shopping and the benefits of working alongside others and so office and retail spaces may bounce back as restrictions ease. If not, they may be adapted for other uses such as leisure.
As we prepare for the next stage in Boris Johnson’s lockdown lifting roadmap, investors will need to monitor whether the consumer behaviour forged during lockdown is here for the long-term or not.
Why maintain a diverse commercial property portfolio?
If you are starting a property portfolio it is sensible to invest in different property classes to spread the risk. For instance, investors who owned only retail property this year have been hit badly.
Spreading your investments across leisure facilities, industrial units and other use classes safeguards your income against declines in particular sectors.
How do I purchase a commercial property?
Purchasing a commercial property is a similar process to buying a home for yourself but there are key differences.
Commercial mortgage
A commercial mortgage incurs higher interest rates than an ordinary domestic mortgage and the application process is more involved. Interest rates vary depending upon the location of the property, how experienced the investor is and other risk factors.
To secure a commercial mortgage a business owner must prove their company is performing well enough to meet repayments. Unlike buy-to-let mortgages borrowing is normally on a capital repayment basis and not usually interest-only.
The loan to value tends to be at least 10% lower than with a domestic mortgage.
Lease
Just like residential properties, commercial properties can be both freehold and leasehold. The lease sets out the rights of the buyer and freeholder including rights of access to other parts of the building (if relevant) and any shared facilities (for example the car park and hallways), the amount of annual rent to be charged, and the length of the lease which is usually much shorter than residential leases of usually (although it does vary widely depending on the property type and parties’ requirements) around 5 – 10 years in duration.
The use class of the property (what the property is allowed to be used for) is also set out in the lease. The use class needs to be considered during the legal work and permission sought from the local authority if change of use is required (for example, if the premises were used as a shop but you would like to open a restaurant).
These factors mean negotiations are more involved than with an ordinary house purchase.
VAT
VAT is a complex area but in general, the lease or sale of a commercial property is exempt from 20% VAT, but there are exceptions. VAT can add significantly to the cost of purchasing a property and affect negotiations – your property solicitor can advise you.
Stamp duty land tax (SDLT) and Land Transaction Tax (LTT)
When buying a commercial property SDLT or LTT (in Wales) is payable on the purchase price although if the property being bought is leasehold, then other factors such as the annual rent and length of the lease (ie the number of years) are taken into consideration in the calculation. Both HMRC (for England) and the Welsh Revenue Authority (in Wales) have useful calculators on their websites that enable the amount of duty (which can be complicated) to be calculated. For a new lease or freehold property, there is nothing to pay up to the value of £150,000. Between £150,001 and £250,000 you pay 2% and over that amount the percentage is 5%.
If you buy an assigned lease (an existing lease) you only pay stamp duty on the lease purchase price. Up to £150,000, there is nothing to pay. Between £150,001 and £5,000,000, it is 1% and above that amount, the tax is 2%.
Energy performance regulations
When negotiating leases or buying commercial property, it is important to be aware of the Energy Performance Regulations 2012. It is normally illegal to let a commercial property without an energy performance rating (EPC) of E or above. There are exceptions such as certain listed buildings and temporary properties.
It can be expensive to purchase a commercial property that falls below the regulations and so this is an aspect that needs to be carefully considered.
Why should I choose Insight Law’s commercial property solicitors?
Commercial conveyancing is complex and varied, so with any big purchase, it is important to seek advice from a specialist commercial property solicitor early on.
There are many factors to consider including stamp duty and other taxes, commercial mortgages, lease agreements and more. We provide support on the legal, investment, planning and development aspects of your investment. Our lawyers take the time to understand your business objectives and tailor our service to your requirements.
We have a wealth of experience working with local and national businesses and buy-to-let landlords who regularly buy and sell investment properties. With our legal expertise, you can capitalise on business opportunities whilst minimising legal and financial risks.
To talk about your investment plans, contact our expert commercial property lawyers today on 02920 093600.
[1] CBRE Monthly Index: Market and Asset Level Performance Analysis, December 2020 Monthly Index
[2] Raconteur, From shops to warehouses: is commercial real estate still worth investing in
[3] Raconteur, From shops to warehouses: is commercial real estate still worth investing in
[4] Raconteur, From shops to warehouses: is commercial real estate still worth investing in
[5] Carter Jonas, Commercial Market Outlook, June 2021
[6] Carter Jonas, Commercial Market Outlook, June 2021
[7] The Guardian, Drink sales soar in England’s reopened pubs and restaurants