Opinion: With negative gearing tax changes prompting many Australians to rethink residential property, commercial assets are attracting fresh attention. But higher yields come with very different risks, argues Abdullah Nouh
This year’s federal budget has done something no market cycle, interest rate rise, or affordability crisis has managed to do. It has made Australians question whether residential property is still the right investment.
For generations that question barely needed asking. Residential real estate was the default asset class that built a generation’s wealth. That assumption is now being tested, and commercial property is receiving the most attention as a result.
From 1 July 2027, negative gearing will be restricted to new residential builds. Investors purchasing established residential property will no longer be able to offset rental losses against personal income in the way they have for decades. The 50 per cent CGT discount will also be replaced by a cost-base indexation model with a 30 per cent minimum tax on net capital gains.
Commercial property has remained largely untouched by these reforms. Negative gearing and CGT changes do not affect commercial assets in the same way. That has meant commercial property is now on people’s radars. Should it be?
Why commercial property is receiving attention
First the good news. One of the most appealing features of commercial property is the high rental yield. Industrial assets, medical centres, childcare facilities and neighbourhood retail are regularly producing yields of 5 to 7 per cent or more, compared to gross yields of 2.5 to 3 per cent in Melbourne and Sydney residential markets.
In many commercial leases, tenants assume responsibility for outgoings including council rates, insurance and maintenance. The net income position this creates is far stronger than residential property.
Lease terms reinforce that advantage as commercial leases commonly extend for five, seven or ten years with built-in rent reviews, compared to the six or twelve-month residential tenancy cycle. For investors seeking predictable income, particularly through a self-managed superannuation fund, that certainty is appealing.
The risks residential investors may underestimate
Commercial property carries risks that may leave residential investors blindsided.
Vacancy is the most significant one. A residential vacancy is typically resolved within weeks. A commercial vacancy can extend for many months, and, in specialised assets, considerably longer. During that period, the landlord receives no income while continuing to service debt.
Financing is also more complex. Commercial lenders require larger deposits and more conservative loan-to-value ratios than residential lending. For investors accustomed to borrowing 80 per cent against residential property, the capital requirements are a significant adjustment.
Illiquidity is also a consideration, given that commercial property trades in thinner markets than residential and exiting a specialised asset in a softer market can take far longer than selling a house. Specialised fitouts left by a departing tenant can also require significant capital expenditure before the premises can be re-leased.
Commercial is not one market
It is worth pointing out at this point that the commercial property sector is not one market and each sector has its own set of challenges and opportunities.
Industrial property, nevertheless, has long been the consistent standout, driven by e-commerce, supply chain investment and data centre demand. Neighbourhood retail anchored by essential services has also proven resilient. Medical and childcare assets attract long-term tenants largely insulated from economic cycles.
Office is a different story. Hybrid working has left national CBD vacancy above 15 per cent, with Melbourne above 19 per cent. Lower-grade buildings face significant challenges, and the structural nature of the changes means recovery will be slow.
Investors considering commercial property need to understand that the office sector’s difficulties are real and ongoing.
Who may it suit?
Commercial property is a great asset class, but it is not appropriate for every residential investor looking for a safer harbour after the budget changes.
The investor most likely to benefit is one with experience, sufficient capital to absorb a vacancy period without compromising their broader financial position, and a primary objective of income rather than capital growth.
In other words, experienced investors building toward income replacement, SMSF holders seeking stable rental income in a tax-effective structure, and investors with the capacity to thoroughly assess tenant quality and lease structure are all better placed than a first-time investor moving across from residential simply in search of better tax benefits.
Professional advice from someone with genuine commercial property experience is vital for investors approaching this sector for the first time. It is the most important risk mitigation available.
For those not yet in a position to make that move into commercial, the worst outcome would be rushing into an unfamiliar asset class simply because the tax settings on the familiar one have changed.
Commercial property has always rewarded patience and preparation over urgency. That holds true now more than ever.
Abdullah Nouh is the founder of Mecca Property Group and a Melbourne-based buyers’ advocate specialising in long-term, fundamentals-driven property strategy. He works with families and investors to build sustainable wealth through both residential and commercial acquisitions.
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