How To Value a Commercial Property vs. a Residential Property

By: Tracy Phelan

How To Value a Commercial Property vs. a Residential Property

Tags: Commercial vs. Residential

How to Value a Commercial Property vs. a Residential Property

Figure Out the Value of any Residential or Commercial Property

So, you’re thinking of investing in some real estate. Great! Before you head out to begin searching for just the right property, there are a couple of things you should know about how property values are figured between residential and commercial properties. Residential properties are pretty straightforward, but as you’ll see, commercial properties are a little more complex. Here’s how to value a commercial property versus a residential one.

Residential Property Values

Residential property is typically one that the owner lives in. In some cases, the owner rents out the property to a tenant. Either way, the value of this type of property is based on what comparable properties in the area have recently sold for. For example, if a 2-bedroom, 1.5 bath home sells in your neighborhood for $100,000 and your home is similar in size and design, it will also be worth roughly $100,000 should you decide to sell it. It’s easy to figure out residential values. You simply look at similar homes and what they sold for and subtract any differences between the two properties. When buying residential properties, you are investing in the building/structure itself.

Commercial Property Values

Commercial properties are defined as those that generate a profit. Commercial properties include office buildings, apartment buildings of 12 units or more, retail spaces, and industrial buildings. For the most part, investors own commercial properties. They do not live in the properties, but rather, they rent out the spaces to tenants who pay monthly rent. Earlier in this article, we said that when you buy a residential property, you invest in the building itself. When you buy commercial properties, however, you invest in the income the property generates rather than in the structure. When buying commercial real estate, you need to know how to figure out its net operating income. Net operating income is figured by subtracting the operating costs of the property from the rental income it generates. The difference – the net operating income – is what the investor pays for when purchasing a commercial property. Here’s an example. Commercial property A and commercial property B are nearly identical and are situated across the street from each other. Commercial property A sells for $500,000. Commercial property B, on the other hand, sells for $1,000,000. What’s the difference? The difference is that commercial property B has better tenants and generates a higher net operating income than commercial property A. Therefore, an investor is willing to pay more for commercial property B.

As you can see, the values for residential properties and commercial properties are vastly different. One is figured by comparing similar properties in the area, while the other is based on its income-producing capabilities. Now that you know the difference, you can make an informed decision about which type of property you’d like to invest in.

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