If you've been listening to real estate investing podcasts, reading materials on investing in commercial real estate, or even shopping for real estate investments, you've probably encountered the concept of building classes. A lot of experts like to use phrases like "Class A properties," but they rarely define them, assuming you just know what they mean.
Unfortunately, the real estate investing world is full of jargon that can be difficult to parse if you're uninitiated or simply new to that segment of this industry. That's OK! We're here to help.
Why we need building classes
The concept of building classes is not a new one, but it's an important one to enable investors to better understand what to expect from a property, as well as how to compare it to others. Since no two commercial properties are identical, the whole industry kind of exists in this sort of wobbly world where we just do our very best to classify structures as accurately as we can, especially on the edges.
Building classification is one part of that system, allowing us to better describe a structure without any negative or derogatory implications that might come with older or more crass terms for structures that are less than perfect, and without idealizing or glamorizing more updated structures.
Building classifications, even if they're imperfect, give us a more objective way to look at different types of properties as they go through their life cycles. These classifications can be applied to any type of commercial property, though they're generally used most frequently to refer to office buildings, retail properties, and multifamily properties.
Class A buildings
Class A structures are office buildings, multifamily buildings, or even industrial buildings that are absolutely the cream of the crop. Not only are they brand new or barely used, they're located in the most desirable metro areas (like New York City) and have top-level amenities and technology. Basically, you're looking at a building where no expense has been spared (within reason) and potential renters are clamoring to get a foot in the door.
Class A properties can be great investments if you're wanting fast returns with immediate rental occupancy. Since there are unlikely to be repairs or renovations required in a class A building, there's little that can be done to add value to the property, but it also means that the only risk involved is in the property acquisition itself. Provided it was purchased at a decent price, rents are likely to return very reliably.
Class B buildings
Class B properties are popular with investors who aren't afraid of doing some repairs or upgrades. These structures were often once class A properties, but they've aged or experienced more-than-expected wear and tear. They have a lot of potential to become excellent rental units but will require some minor investment to make that happen. On the flip side, class B properties can also generally be rented at discounted rates and still attract plenty of interest, even with minimal input.
Class B buildings tend to be located in less popular markets but also are less expensive to acquire, no matter the property type. They can be a great opportunity to get a foot in the door if you're looking to invest in property whose value you can expect to see grow in both income and valuation. Investors can find huge gains in the right class B properties, whether they be office space, retail properties, a residential building, or other types of commercial building.
Class C buildings
Class C buildings are generally the least expensive properties you can invest in. Because they're significantly older buildings, they are likely in need of moderate to extensive updating and repairs before they can be leased or resold. They're also generally in low-popularity cities or areas of decline, further depressing their value. However, this doesn't mean they're not good investments if in talented hands.
Class C property, when purchased right, can gain a substantial amount of value with a solid plan for redevelopment and use. These Class C buildings often serve as space that small businesses or working-class families can readily afford to lease, so if you dress them up accordingly, you can potentially win very long-term tenants.
Because systems in these structures may be well beyond their useful lives, it's important to evaluate each project individually and on its own merits. Simply being a class C structure doesn't guarantee either a great buy or a money pit, as construction materials and requirements to bring a structure up to the current building code can vary.
The Millionacres bottom line
It's important for an investor to have the proper vocabulary to understand what it is they're investing in. Although using descriptors like property classes is not an exact methodology, it's a much better way to describe the condition, desirability, and potential of real estate than more subjective terms. Every industry has its own lingo, and real estate is no different.