Commercial Letting in Malta – Part One
Introduction to Commercial Letting
During the past five or six years, the Commercial Letting market has really started to boom and unlike other property markets in Malta, it has yet to reach its peak. Rather than purchasing the premises, more companies and individuals are opting to lease the commercial property required for their operations.
This three-part article will delve into the subject of commercial letting itself, both from an owner’s perspective (Lessor) as well as that of the tenant actually leasing out the premises, known as the Lessee. It will also highlight all the important factors to look out for when considering a commercial property.
The first factors are the financial liquidity of a business and the competition it faces. Since Malta is quite a relatively limited market in terms of the actual number of consumers when compared to other European countries, expenditure must be extremely controlled since substantial initial outlays would not necessarily mean result in increased potential revenues.
Maltese consumers are very price-sensitive. Consequently established or new businesses must have a business plan in line with the market situation and endeavor to achieve the projections which include the return on the investment when purchasing new premises. If a business is forced to increase the market prices or services it offers to be able to achieve this, the chances are that the business would not do very well.
Other factors contributing to commercial letting being on the rise include the potential of significant growth in a shorter-than-usual space of time. With the EU freedom of movement, foreign investment (and tax benefits for setting up operations here in Malta) and consumers in general having more purchasing power year in, year out, a business can outgrow the premises it is operating from within a few years. Leasing the premises, rather than purchasing it, enables the company or individual to move into a larger space much easier than having to sell its current place of business and purchase a new one.
When one is looking for commercial property as a form of investment one must consider various factors before actually deciding if the time, money and effort will be worth the ‘risk’ of taking such an important, financial step.
Many prospective investors first become interested in purchasing a commercial property (or developing one) for the simple reason that leaving money in a bank will only render about 3% of return during the year. Another reason commercial investment is very attractive is because of the uncertainty revolving around investments in various funds and schemes due to the volatile nature of the financial markets.
Property is generally a much safer form of investment as the value almost always increases or in a worse-case scenario, remains the same. This is not to say that some investors have not lost money in doing so but if one sits down and does a bit of research before parting hands with his or her, hard-earned cash, one will be looking at a very secure, sound investment which generates a rewarding return in both the short and long term.
What has to be considered after the decision is taken to purchase a commercial property with the intention of leasing it out? The first and most important factor is the yield.
Yield is another word used for Return on Investment (on properties) and the basic formula to calculate the Yearly Yield is:
YIELD = Total Annual Rental Income
Cost of Purchase
One then simply multiplies the result by 100. But how exactly is yield calculated? As seen above the formula is quite simple to follow but to be as accurate as possible one has to consider a few matters. For this reason a Gross Yield figure and a Net Yield is shown below using the following example:
Property Purchase Price: €250,000
Monthly Rental Income: €1,500
For any yield figure one must never forget the Stamp Duty, which at present (June 2016) is 3.5% on the first €150,000 of the value of the property and 5% on the remaining value. With this in mind, one knows for a fact that on top of the €250,000 purchase price, a total Stamp Duty of €9,500 must be paid to the Government.
The Total Annual Income also comes with a 15% declared income tax which the owner must pay to the Inland Revenue Department so out of the €1,500 monthly rent i.e. €18,000 Yearly Income, €2,700 must be deducted on an annual basis. If the leasing is being done between two registered companies (Company A is leasing a property to Company B) the Lessee must also pay €270 representing the 18% VAT on top of the €1,500 monthly rent.
So a Gross Annual Yield would be as follows:
Gross Yield = €18,000 - €2,700
€250,000 + €9,500
This would mean €15,300 divided by €259,500 and multiply the answer by 100, which leaves the Lessor a Gross Yield Percentage of 5.896% on the first twelve months. The Net Yield Percentage for the first twelve months would be closer to around 4.9% if one had to include any additional costs, such as Permit Applications, cost of finishing the premises or even furnishing it, etc.
In the second year and depending on the terms of the Agreement signed between both parties, the Annual Yield would start to increase if there was to be a predetermined increase in rent value. In most cases, an increase of between 3% and 5% annually is quite normal so the Lessor would then be receiving (based on a 5% increase) €1,575 monthly so the Annual Yield (after deducting the 15% declared income tax) would increase to 6.190%
Type of Property and Location
Once the investor has decided and accepted the annual yield for the investment the decision has to be made on the type of commercial property for purchase as well as the location. For example, there is a huge difference in purchasing a property intended to be rented out as a retail outlet from that which would be rented out as a restaurant.
Aside from the difference in size, the location (in a town or city and even the physical location of the property itself) is also of the utmost importance. A retail outlet, such as an electronics store, would not face many permit and logistical issues being located in St Venera next to a residential block. In fact, it would be very beneficial to open such a store! However, purchasing a commercial property intended to be transformed into a large restaurant within the same confines is next to impossible to develop. It also makes no sense. All this does seem a bit trivial but one would be surprised of the amount of unexpected issues a Lessor can face if the decision of what and where to purchase is not carefully considered.
Other important features to look for before purchasing (if the premises are already built) include the total actual space (Square Meters) which can be used for commercial activities, not including a bathroom (for example) and store. One must also keep this in mind as too little space or too much space can actually work against finding a potential Lessee. Another very important factor to consider are the permits which are already in hand / that can be obtained however this will be explained in another article.
In the next post we will go through permits and application processes / costs, the amount of capital to invest based on personal liquidity, the infamous subject of Premium and the Do’s and Don’ts of commercial letting!
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