Should you buy or lease your commercial space?

What are the advantages of buying real estate for commercial use?

1. Make it yours

Owning your commercial space can be satisfying. It can bring prestige, recognition and stability.

2. Secure a great location space

Finding a good location can be challenging. If you find one, it may be worth considering purchasing the space to secure it. A prime location can help you:

• increase sales
• increase foot traffic
• ease transportation
• reduce costs by being in proximity to key suppliers
• attract and retain employees

Make sure you understand your needs before choosing a location. If you are a manufacturer, you might not need a prime location as much as a retail business, for example.

3. Build equity

Commercial real estate has been a great investment for many entrepreneurs. While there are no guarantees, owning can build wealth apart from your operating company. As you pay off your mortgage and the property appreciates in value, you can accumulate equity in the property.

Ownership provides leveraging power. For example, the equity could be used as collateral to access additional funding for your business.

4. Customize your space

Are you investing heavily in a building to run your business? Then it often makes sense to buy a property since you can retain your business improvements. If, however, the time isn’t yet right to buy, you may want to consider leasehold improvement loans to assist you.

5. Avoid limitations imposed by the landlord

Is it important for you to run every aspect of your business without potential limits, restrictions and rent increases? Then you might want to buy a commercial space.

6. Free up working capital

A well-financed property purchase can free up working capital by reducing your monthly outlay for rent. The difference can be used to build your business.

However, it’s not a golden rule. Renting can be less expensive for some businesses, especially when interest rates and real estate prices are high. Be sure to do your homework and compare payments.

“It’s about balancing growth with cash flow,” says Jean-Philippe Ménard, Senior Vice President, BC and North at BDC. “We often finance those kinds of purchases. We want to make sure our clients will have enough working capital to grow.”

7. Add diversification to your business

Owning a commercial space is not necessarily as profitable as your regular operations. However, diversifying your activities can be beneficial. This could prove especially useful if your business is subject to market fluctuations.

What to look for before you buy?

If you decide to buy commercial real estate, be sure to pay close attention to the following.

Watch out for rising interest rates

Low interest rates can reduce the borrowing cost of buying real estate. However, real estate prices often tend to rise when interest rates go down. Many people make the mistake of borrowing too much when interest rates are low and then struggle to keep up with payments if they rise later.

Before buying a building or commercial condo, make sure you will be able to afford the higher monthly payments if interest rates rise.

Perform due diligence

Be sure to protect yourself from problems that can come with ownership. Pay close attention to hidden building defects or environmental contamination.

Consider getting a building condition assessment (BCA) and an environmental site assessment (ESA) before committing to a purchase. Alternatively, you can hire a qualified environmental consulting firm to assess the property before you purchase.

It’s also important to get a lawyer to perform thorough due diligence. The lawyer will look into issues such as:

• land title
• zoning
• outstanding taxes
• liens
• easements
• other potential problems with the property

Get expertise

As part of your trusted team of commercial real estate advisors, a lawyer specializing in commercial real estate should review your contract carefully with you to avoid any unpleasant surprises down the line.

Getting familiar with real estate contract terms may also help you focus on aspects of your contract that are particularly relevant to your business needs.

Plan for cost overruns

Many entrepreneurs are surprised by how much it costs to move their operations to a new location. Take into consideration the following costs:

• direct moving costs
• preparation and furnishing of a new space
• renovations
• purchase of new machinery and equipment
• design and construction (if you are constructing a building or expanding)

Make sure you’ve considered these additional costs as part of your overall commercial real estate budget, which should also include a generous contingency fund. Be sure to discuss these issues with your banker and get additional financing, if necessary.

Plan for business disruption

Another important issue that often comes up before, during and after the move is the loss of productivity and sales. Many entrepreneurs don’t realize how much of their attention a move is going to demand. Make sure you have a plan to help you manage the transition when moving into your new commercial space.

What are the advantages of leasing a commercial space?

In some situations renting a space for your business may make more sense. Here are some examples.

1. Keep working capital in your business

New businesses are often unable to commit a lot of capital to a building. It usually makes a lot more sense to lease if your business is still new.

Even if you have an established business, you may choose to reinvest your cash into your growth instead of buying a commercial property. This is especially interesting if your return on investment is higher from your operations than from owning a commercial space.

2. Achieve more flexibility

Things can change quickly in business. It is essential to remain agile and adaptable to changing circumstances.

Is your company growing rapidly or downsizing? Are you uncertain about future developments and needs? Then renting may be a more suitable option until the situation stabilizes.

Renting can provide greater flexibility. It can allow you to scale up or down quickly without the burden of a long-term commitment.

However, depending on your clauses, it could be difficult to sublease your space if you want to leave. Make sure you negotiate your clauses carefully if you need more flexibility.

Plan your clauses accordingly with a professional such as a lawyer or a notary.

3. Avoid the hassle of owning

Owning a property comes with additional responsibility and potential problems. Do you have time, resources and expertise to own a property? You may prefer to rent and focus on your business for the time being.

4. Spread payments over time

If you want new investments in your commercial space, you could ask your lessor to pay them in exchange for an increase in monthly rent. This would allow you to spread out the investment and use it to improve your operations instead.

What to look for before you lease?

If you decide to lease, make sure to answer the following questions before you make a commitment.

Which type of lease to choose?

Leasing for your business is different than leasing a house or an apartment.

You should negotiate the terms that best suit your needs and budget. Make sure you carefully review the lease agreement with a lawyer and a tenant broker before signing it.

Here are some common types of commercial leases.

1. Full-service lease or gross lease

The tenant pays a single amount to the landlord. That amount covers the base rent and all incidental expenses, such as:

• property taxes
• insurance
• utilities
• maintenance
• common area costs

The landlord pays for all building expenses and assumes the risk of any increase in costs. This type of lease is common in multi-tenant office buildings.

2. Net lease

The tenant pays the base rent plus one or more incidental expenses directly to the landlord or a third party.

Understanding what your landlord does and doesn’t pay for before committing to a commercial lease is important. Pay especially close attention to who pays the following costs:

• cleaning and repairs for common areas, such as washrooms, entrances, general reception areas and the parking lot
• snow removal, grass cutting and/or landscaping
• operating expenses
• property taxes, insurance, utilities and security
• the repair or replacement of equipment such as heating, ventilation and air conditioning units

3. Percentage lease

The tenant pays a base rent plus a percentage of gross sales over a certain minimum. This type of lease is usually used in malls and other multi-tenant retail locations.

Is there an option to renew?

Some entrepreneurs may not want to commit to a location long-term.

But flexibility can work both ways. A landlord can refuse to renew a lease once it expires. That forces your business to relocate, with all the costs associated with doing so.

Can you make renovations or improvements?

Be sure to find out about restrictions on construction. They could limit your ability to expand or use the space in different ways.

Specifically, find out whether there are any limitations on making changes to your space.

• Do you have to return the property to its original condition when you leave?
• Does added equipment remain your property, or does it become the property of the owner?

Is the parking big enough?

Are there enough parking spaces for all tenants and their visitors? Do you have guaranteed spaces?

What are your trade fixture rights?

A trade fixture is a piece of property that the tenant attaches to the leased space to conduct business. It can be a display counter, a sign, or a machine, for example.

It belongs to the tenant and can normally be removed at the end of the lease.

Make sure you know your rights when it comes to how trade fixtures are handled.

Should I buy or rent a commercial space?

In the end, deciding whether to buy or lease a building will depend on factors such as:

• your needs
• your cash flow
• your growth plans
• your personal preferences

The following table covers some general considerations that can help you decide whether to buy or lease a commercial space.

Next step

Take BDC’s free Commercial real estate assessment to help you decide if you should buy or lease a commercial space for your business.