Starting, operating and growing a business is no easy task. In fact, most entrepreneurs fail to build a sustainable business and quit. For those entrepreneurs who succeed, they find themselves faced with an exciting but tough decision.
Is it better to lease or own their office space?
Like many decisions, there are positives and negatives to owning commercial real estate. Let’s explore both sides of the equation and determine if owning your office space is better for you at your stage in the business life cycle.
Advantages And Disadvantages to Leasing
Most businesses if not all start by leasing their office space. The primary reason is it’s easier to lease than to own; it takes less capital and offers more flexibility to accommodate future growth.
Other advantages include more availability, landlord allowances for tenant improvements and in some cases the ability to sub-let to another tenant or assign the lease to another business when prudent.
Disadvantages to leasing include the landlord, who is typically a savvy real estate professional and therefore stronger in contract negotiations, painful annual lease rate increases and personal guarantees that can make it difficult to exit the lease unless favorable exit terms are negotiated prior to occupancy.
Advantages To Owning
- Your monthly mortgage payment is likely to be similar to your previous monthly lease payment with the added bonus that you are building equity with each principal payment.
- Your monthly payment is likely to be fixed, especially with an SBA 504 guaranteed loan, which means you will avoid sudden rent increases or exorbitant CAM charges that can be disastrous to a growing business.
- You may be able to sub-let unused any space, subsidizing your monthly payment and increasing your businesses profitability, If negotiated prior to occupancy.
- You may have the ability to reorganize or build out more space, if available, to accommodate growth and the need for new employees.
- Your in total control of the look and feel of your space. This is especially important to enhance company culture and collaboration.
Disadvantages To Owning
- Owning your own office space also means saving for a down payment. This can be a substantial amount depending on how much square footage required to operate your business. (On the bright side an SBA 504 loan can help you keep more money in your pocket for working capital and still allow you to buy the building.)
- Similar to owning a home, commercial real estate is illiquid and can be tough to sell in down market. Before obtaining a commercial mortgage do your homework to make sure the space will be adequate for your intermediate term needs.
- Be careful agreeing to variable rate mortgages which expose the business to unplanned for increased costs due to rising interest rates.
- Owning a property means being responsible for routine maintenance and repairs which can take a bite of your profits.
Commercial Real Estate Loan Options
There are essentially four options to owning your own office space. A conventional mortgage, SBA mortgage, private money mortgage or seller carry also known as an installment sale.
Depending on your situation all of these have advantages and disadvantages. For instance, conventional mortgages typically have the lowest rates and fees but also require a minimum 20% equity injection and fixed rates en 10-15 years for prime borrowers. The fixed rate period can be as short as 5 years.
An SBA real estate loan has the advantage of only requiring a 10% equity injection for mixed-use properties and competitive fixed rates up to 20-25 years. The downside of an SBA loan is the 2.5% – 3.0% guarantee fee. On the bright side, these fees can be financed lightening the out of pocket burden to the borrower.
Private notes and seller carry notes are typically taken in special circumstances where the mortgage either needs to be obtained in a hurry or there is difficulty qualifying for a conventional bank or the SBA.
Private money loans are expensive and installment sale or seller carry notes aren’t always the most stable.
Most buyers choose to obtain a mortgage through the SBA 504 program due to the low equity injection recruitment, competitive rates and fees being rolled into the loan for its duration.
How To Prepare To Own
If you’re set on owning your office space start saving for the down payment as soon as feasible. Also, manage your year end profit and loss and balance sheet and file accurate tax returns that show the companies profitability. I’ll go more in depth on this topic in another post.
Let’s Get Started
Owning your office space can be a good investment and provide stability for your business. However, this is a major step and one that should not be taken lightly.
If you have additional questions or are ready to start the process, complete our simple online application form or call us at (858) 762-2774.