As companies grow, many business owners face the decision of whether to lease or purchase commercial real estate. While each situation is unique, there are several common factors to consider during this process.
Here are five key considerations when evaluating whether you should lease or buy commercial real estate for your business:
- Cash Flow – When purchasing commercial real estate, there is an upfront down payment with numerous fees and closing costs required at the time of acquisition. Most lenders expect buyers to contribute equity of at least 20 to 25 percent of the acquisition price of the real estate, assuming they qualify for financing. Under a lease arrangement, the cash required upfront tends to be lower, and generally includes a security deposit, attorney costs, and broker fees. There is an opportunity cost of using cash for an equity down payment instead of having it available to use elsewhere in the business.
- Flexibility for Growth – When businesses lease their commercial space, they have more flexibility to move into new space at the end of the remaining lease term. If you commit to purchase the property, you may limit this flexibility since you may need to sell the property or lease it to another tenant before moving into new space.
- Building Equity – The initial down payment and periodic mortgage payments allow the owner to build equity in the property. Additionally, owners also benefit from appreciation in the value of the property. However, in recessionary times, the real estate could decrease in value. Under leasing arrangements, you build no equity, but not bear the risks of decreases in the property’s value.
- Control of the Asset – As an owner of commercial property, you have control of the asset and the ability to invest in improvements at your discretion. The mortgage payment is generally fixed or predictable, except for maintenance and general operating costs. Under a lease arrangement, the lessor has the final say regarding improvements or reorganization of the property. Additionally, lessors control and negotiate rent increases for lease renewals, which creates a level of unpredictability.
- Tax Benefits – There are many tax deductions available to both owners and lessees of commercial properties. For owners of commercial property, tax deductions include depreciation, mortgage interest, and operating costs such as real estate taxes, insurance, and maintenance. Lease payments for lessees are deductible for taxes. These payments may include charges for real estate taxes and/or insurance and maintenance, depending on the lease agreement. A thorough tax analysis should be performed, considering any tax incentives and limitations under the current tax laws.
Ultimately, the decision to lease vs. purchase commercial property requires an in-depth analysis of the costs and benefits. If you’d like to discuss which option might be best for you, please don’t hesitate to contact us.
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