One objection you will face when raising capital, especially from accredited investors who have had success doing their own deals is “Why would I passively invest as a Limited partner (LP) when I could just use the capital to continue doing my own deals?”

It’s a legitimate point that is mainly dependent on the investor’s goals and how your offering fits their needs.

Below are 4 points to consider using during that conversation:

Diversification guards against overallocation

Many LP’s I’ve spoken to that have had success in their own real estate investing are overallocated in one or more of these areas: Asset type, geography, housing demographic and or operational approach. They may have a competitive advantage in that style of investing which is a component of why they have become successful. However, it’s impossible to be a master of all niches and to defer to experts when something is outside your domain of expertise.

By investing as an LP, you can leverage the expertise of a GP to gain that competitive advantage in opportunities outside of your area of expertise. By spreading your investment across multiple properties or projects, you are fundamentally diversifying your risk. Many LP’s we take on have real estate investing experience but lack experience and expertise in net lease retail investing and urban Infill development/redevelopment. This allows them to tap into that competitive advantage and mitigate any single property's performance on their overall investment portfolio.

There is risk in responsibility

When an investor buys a property by themselves, whether personally or via an entity, they are signing for the debt and are held liable to repay.

When investing in a fund or syndication, LPs risk is limited to the amount invested since they gain access to financing through the General Partner (GP) without the burden of personally guaranteeing the loan. This shields LP’s from personal liability associated with property ownership, such as lawsuits or property-related issues. In addition, the GP’s track record may also give them access to lower cost financing than they could have acquired otherwise. This key benefit alone not only alters the risk profile of the investment, but it does so without substantially compromising the potential returns.

Active vs passive investing

Anyone that owns property can tell you it’s not purely passive. Even though I have property management for the majority of my residential portfolio I can assure you that the time investment is not zero, especially if you factor in the cost of time to acquire properties.

Eliminating the time component is a strong driver for many LP’s seeking a more passive approach to investing. Real estate syndications and funds often distribute regular income generated by the underlying properties as well as equity upside in ownership. As an LP, you can receive passive income in the form of rental income or profit distributions without the active involvement required in direct property ownership.

Efficiency in scale

Many investors I talk to, especially in the residential space, say lack of capital and time are two drawbacks that hold them back from scaling. Often, this leads to them outsourcing property management and contracting services to other vendors, which chips away at their margins. Speaking from personal experience here as I myself have felt the same way.

Passive investing offers access to larger, more lucrative real estate deals not easily available to individual investors. By pooling resources with others, it enables economies of scale in property management and operational cost reduction. This in turn allows for higher returns through harnessing collective strength.

Conclusion

Passive investing and direct property ownership have their pros and cons. Its important to really understand what problem your investors are trying to solve and tailoring your approach and conversations accordingly.

As with everything in life, the decision depends on personal circumstances, goals, risk tolerance, expertise, and the amount of time and effort you're willing to commit to it.

Cleveland, Ohio

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