Rich but not ultra? Even you can now invest in grade A commercial property

Fractional ownership platforms give you access to this coveted asset class if you have Rs 25 lakh to spare

If you are vexed with the low yield and lack of capital appreciation on your investment in residential real estate, consider investing in commercial property. Nowadays, with many platforms offering fractional ownership, you can invest in a grade A property, which only high net worth individuals had access to earlier.      

Why bet on commercial property

The rental yield from a commercial property is two or three times higher than what a residential property can offer. While a residential property will barely yield 1-3 per cent, a grade A commercial property, if chosen carefully, can offer 8-9 per cent.

In a residential property the tenants are individuals and families. In a grade A property, on the other hand, the tenant is usually a multinational corporation, a top-tier private bank, and so on. Here the rental agreements are for three-five years, compared to one year in residential, providing greater surety of cash flows.

Currently, in the residential segment, there is oversupply in most micro markets. But it is possible to select commercial buildings in areas where demand exceeds supply, thus providing greater scope for capital appreciation.

Moreover, in a commercial building, a professional agency manages the property. In residential, you, the owner, are responsible. The tenant can call you up and bother you with a variety of requests.

Fractional ownership: The concept

The platform that offers fractional ownership selects a high-quality property – in terms of building quality, tenant quality, rental yield, and so on. It then offers the property for private placement.

A special purpose vehicle (SPV) is created that owns the property. Investors become shareholders in the SPV.

Key benefits

With an investment of just Rs 25 lakh, you can get access to commercial real estate, which has traditionally been accessible only to large investors or funds that can invest hundreds of crore. “The rental yield is a lucrative 8-9 per cent. Along with capital appreciation, you can earn an internal rate of return (IRR) of 15-20 per cent on your investment over a four-six-year period,” says Shiv Parekh, chief executive officer and founder, hbits, a real estate fractional ownership platform.

When you invest in this asset class, many risks get taken care of. Since you invest in a property that is already constructed, you don’t have to bear construction risk or the risk of delays in approval. “The property comes pre-vetted for all clearances. The occupancy certificate is already in place,” says Riaz Maniyar, co-founder, Yieldasset Real Estate Tech. Investors are also able to avoid leasing risk since the building is already occupied by tenants.

In commercial real estate, the capital value is determined by rental yield and tends to be more stable than, say, the price of a stock, which can fall dramatically if the company underperforms.

Key risks

This model of investment does carry a couple of risks. One is vacancy risk. However, this gets ameliorated by the fact that leases are for the long-term—three to five years. The platform managing the property will also try to ensure that they find another tenant in good time.

Another potential risk is that of oversupply in that micro market, which can drive down rental rates. To tackle this risk, the fractional ownership platform selects assets in developed commercial localities where demand is high and few vacant plots are available, so that new commercial properties can’t come up. However, if the government changes the rules regarding floor space index (FSI), this risk can surface.

In this model, you are part owner of a single property. This is unlike a real estate investment trust (REIT) where you are a part owner in a basket of assets. “Investing in a single property is a high-risk, high return investment. If that property does well, you could earn higher returns. But if it underperforms, you could fare worse than a REIT where you get to invest in a diversified basket of assets,” says Vishal Dhawan, chief financial planner, Plan Ahead Wealth Advisors.

Also, while the platform does a lot of vetting before offering a property to you, the final onus for choosing the right one (from those available) is on you.         

Fees charged  

The platform will charge you an annual management fee, which would be around 1 per cent. This amount is deducted from the rental. If the property is vacant and there is no rental, the platform will not charge you this fee.

The property is usually sold after four-six years so that investors can reap the benefit of capital appreciation. At that point, the platform will once again charge you a performance fee, which would be around 10 per cent on IRR in excess of a hurdle rate of, say, 8 per cent.

Investors also have the option to exit prior to the final sale of the property. If they do so, usually no exit load is charged. The exact fee model will, however, vary from one player to the next.

Checks you should run

Before deciding to invest, check the prospects of the micro market the property is situated in. Also, check the quality of tenants. Check the price at which the property was purchased and the current rental being paid by the tenants. If the property was acquired at below the market rate, it means there is scope for the price to appreciate. Finally, check out the quality of the building – stick to grade A buildings only.

Numbers that matter in fractional ownership model

• Most platforms require a minimum investment of Rs. 25 lakh
• Opt for a property where the rental yield is at least 8-9 per cent
• Ideal investment horizon is 4-6 years
• If you wish to exit prematurely, it is likely to take at least two-three months to sell your shares