In commercial real estate, more are buying small

Last March, Kim Joon-tae bought a commercial building near Bulgwang Station in northern Seoul for 1.5 billion won ($1.3 million) with an 800 million won bank loan.

The building only has three stories, but so far, he’s been earning 4.5 million won a month, plus 500 million won in deposits, by renting out the first floor to a coffee shop and the second floor as an office space while living on the third floor.

“Even when excluding the 2 million won monthly interest from the loan, I still get 30 million won in annual profit,” Kim said. “If I have additional money, I would love to remodel the building so I can get more rent.”

More proprietors like Kim are buying small two- to three-story buildings valued at between 1 billion and 5 billion won.

According to commercial building realtor Realty Korea, in the first eight months of this year, 761 buildings valued at 5 billion won or less have been purchased. The average prices have been around 4.27 billion won.

Realty Korea speculates that the number of such small commercial buildings sold this year will likely surpass last year’s 1,036, which was considered a record for such buildings.

These small commercial buildings are considered a blue ocean, as apartments are said to have reached their limits in terms of profit. A particular strength of this type of investment is that the owner can also live in the building while renting out the other floors.

The profit made on rent in these buildings is considerably stable, judging from figures on taller but similar commercial buildings.

According to the Korea Appraisal Board, the average return on investment of buildings in Seoul taller than three stories was 6.66 percent last year, and it has grown every year since 2013. The return is even higher than the current interest on bank deposits, which is around 1.5 percent.

“It depends on the location of the building, with those near a main road having higher profits,” said a realtor in Yeoksam-dong, Gangnam District, southern Seoul.

“But even those that are not along the main roads can enjoy an annual investment return of 5 to 6 percent when they remodel the building.”

Low interest rates on loans have also eased the burden on borrowing money to invest in such buildings.

“If you add a loan on top of the same amount of money you can use to buy an apartment in Seoul, one could actually purchase a commercial building that can generate more profit from rent,” said Park Sang-eon, CEO of U&R Consulting, a real estate consulting firm.

According to Realty Korea last year, 76.5 percent of those who purchased small and midsize commercial buildings were retail investors, a 3 percentage point increase from 2012.

More than 86 percent of commercial buildings valued at 5 billion won or less were purchased by individuals. That figure drops to 62.6 percent for buildings valued at between 5 billion and 10 billion won, 42.5 percent for those between 10 billion and 20 billion won, and 38.9 percent for buildings 20 billion won and up.

The investors are getting younger as well. Those in their 30s, 40s and 50s accounted for 6.9 percent, 28.7 percent and 37.6 percent of investors who bought commercial buildings last year.

“Baby boomers who have around 2 billion won and 3 billion won, as well as CEOs in their 30s and 40s and those in professional jobs like IT development, are investing,” said Suh Dong-han, an analyst at KB Financial Group’s research institute.

Owners in their 60s and 70s are selling off, as they move on to purchase larger buildings or use the money made from selling the commercial buildings to buy apartments for their children.

By area, 90 percent of purchases of small commercial buildings were in Seoul.

“Between January and August, most of the investments made by individual investors were in areas like Gangnam District, Mapo District and Seocho District,” said Moon So-im, a senior researcher at Realty Korea.

Small commercial buildings may have potential, but investing in them does not come risk-free, especially since there has been a continuous supply of them.

In the past three years, roughly 30 or so new small and midsize commercial buildings have been built near Seolleung Station, Bongeun Temple and the Kyobo Building, all in Gangnam District.

But these areas are facing a shortage of commercial businesses interested in leasing space, as many have been relocating to other neighborhoods such as Guro District and Seongsu-dong in Seoul and Seongnam in Gyeonggi, where many white-collar industries have relocated for cleaner and updated office spaces.

As a result, some parts of Gangnam District are offering “rent-free” programs where the tenant doesn’t have to pay monthly rent for a certain period.

According to the Korea Appraisal Board, the vacancy rate of small and midsize buildings in Seoul averaged 7.7 percent during the second quarter, an increase from 7.2 percent last year.

This means young investors in their 30s and 40s could actually lose their investment if they jump in too quickly.

BY KIM SUNG-HEE [lee.hojeong@joongang.co.kr]