Should Your Arizona Business Buy or Lease Commercial Real Estate?

March 18, 2022

Leasing commercial real estate for your business may seem like throwing money away, but buying property also carries some risk. Before deciding whether to lease or buy, it’s wise for business owners to weigh the risks against the rewards to determine the best way forward for them.

Pros and cons: Buying vs. leasing

Real estate ownership brings greater commitment — and risk. Along with the tax benefits of ownership, though, you may gain predictability, and the property usually gains in value. The 25-year average return for privately held commercial real estate is 9.4% annually, according to the National Council of Real Estate Investment Fiduciaries (NCREIF). 

Of course, commercial property ownership isn’t for every kind of business. Typically, you can get into a lease with a lower upfront cost, and lease payments generally reduce a company’s taxable income. Leasing doesn’t tie up capital that could otherwise fund growth. But a lease can mean rising costs. For example, national industrial property rents rose by 4.4% annually in recent years.  And with the greater Phoenix market among the nation’s 10 strongest commercial real estate markets in recent years, there’s competition to lease the best properties. These trends are unlikely to change in the rising rate environment projected for the near future.

Before you buy: What to consider

One benefit of working with an expert relationship banker who understands your ambitions is that they can help you assess leasing vs. buying for your business. You might consider these four points before making a decision:

1. Know if ownership makes sense for your business. Owning real estate makes sense for some companies and not for others. If you run a nonprofit organization, you may prefer to invest in your mission, not commercial real estate — or having predictable costs and tax advantages might make a purchase worthwhile. If you’re a service professional, buying a property that you can sell at the end of your career could be valuable. In all situations, your financing options make a difference, too. Your choices may include commercial real estate loans and SBA 504 loans, which offer up to $5 million at attractive rates to invest in major fixed assets that promote new jobs and business growth. 

2. Evaluate your risks. The real estate cliché of “location, location, location” still holds true. Does the site make sense for your clientele and industry? Will it be suitable as you look into the future? Office space may be plentiful now, but a CBRE survey revealed that 2 out of 3 large companies and almost 1 in 6 small and medium companies anticipate decreasing their office space in the future.  Will the building offer good reuse value if and when you retire, go out of business or sell? Speaking of the future, how confident are you that your business can cover payments for years to come while also funding other business needs? 

3. Take a clear look at lease-back plans. Some business property owners plan to purchase property and lease it back to their business. The result is a depreciable asset and the ability to pay yourself instead of a landlord. This approach to purchasing commercial real estate can be a means to accumulate wealth, but only if it’s affordable for you. It makes sense to consult your banker and accountant to assess this option before you decide.

4. Carefully evaluate becoming a landlord. Another plan for some would-be commercial property owners is to rent a portion of the property out to cover some of their payment. In effect, though, you’d be buying a building that’s too large for your business. Be sure to ask yourself what you will do if you can’t find a tenant or the tenant defaults. Also, consider how much time and attention you want to commit to being a landlord.

Your expert banker is a trusted business advisor, just like your accountant or attorney, who can help you think through your options and opportunities. To learn more about how we can help you make smart decisions about buying or leasing business property, contact your Alliance Bank of Arizona relationship manager.