Real Estate Syndications: Easily Explained

What Is Syndication Investing?

Real estate syndications are a way for investors to “pool” their capital together in order to invest in properties or projects much larger than they could afford or manage on their own (such as a 300-unit apartment building).

The majority of these investments are only offered to “accredited investors” who…

#1 Have a 1 million+ net worth (excluding primary residence)

OR

#2 An individual who earned 200k+ in annual income in the past 2 years with the expectation of achieving the same or higher in the current year

OR

#3 A married couple earning 300k in annual income for the past 2 years with expectations to meet or exceed the same level in the current year.

Don’t Meet This Criteria? What About “Non-Accredited” Investors?

There are several real estate “crowdfunding” platforms that exist today. These platforms analyze deals before they are allowed on their platform and many of the investment opportunities are open to non-accredited or “sophisticated” investors (explained in a moment). These platforms often provide research and documentation for investors and they often help ensure the investments go as planned once they are funded. Real estate crowdfunding is simply a way to raise money through the internet for large projects with the help of a “crowd” of investors.

In addition to crowdfunding, there are many syndication firms that are able to accept up to 35 “sophisticated investors” who are investors with sufficient knowledge and experience in financial and business matters to make them capable of evaluating the merits and risks of the prospective investment. (According to the SEC definition HERE)

Bottom Line: Whether you are an accredited investor or a sophisticated investor, there are many excellent groups you can work with directly and others that can also be found on crowdfunding platforms.

Real Estate Syndication Basics

Real estate syndication is essentially a transaction between a Sponsor and a group of Investors.

As the manager and operator of the deal, the Sponsor invests the sweat equity, including but not limited to building broker and lender connections, scouting out properties, raising funds, acquiring and managing the investment property, communicating with the property management company on day-to-day operations, while the passive investors (Limited Partners) usually provide the majority of the financial equity and sit back and collect the “mailbox money” or passive income produced by the property.

*Pro Tip* Seek out Sponsors/GPs who co-invest in their own deals alongside you. This helps align the interest of both parties.

Syndication Legal Structure

Syndications are usually structured as a Limited Liability Company or a Limited Partnership with the Sponsor participating as the General Partner or Manager and the Passive Investors participating as Limited Partners or Passive Members.

The LLC or Limited Partnership is typically similar to the structure of other private funds in the Venture Capital, Private Equity, and Venture Debt space. Such legal entities are there to protect both the Sponsor and the Limited Partners if the deal goes south or liability arises.

Syndication Profits

Income collected from the property via unit rents, premium parking spots, utility chargebacks, laundry facilities, onsite self-storage, and “forced appreciation” that comes as a result of renovating the apartment units and common areas on the property are a few examples of how investors make money from real estate syndication.

*Pro Tip* I typically invest in “value-add” properties that were built in the 1980’s or 1990’s where the business plan is to renovate the property, improve the community, raise rents to the market level and participate in the overall market appreciation due to growing demand and increasing population in the area.

*Additional Note* Income generated from the property is usually distributed to investors from the Sponsor on a monthly or quarterly basis. I tend to invest mostly in deals that offer monthly distributions; it’s a personal preference.

Hold Period

It is important to point out that private placement investments like real estate syndications are illiquid for a period of time. The time period depends on the deal, the sponsor and the business plan. Some deals might have a quick 1-2 year turnaround, while others could be illiquid for 5-10 years or even more in some cases. This is definitely a consideration to think about before investing. When you invest with a Sponsor, you could be in the relationship for a long period of time.

Fees

Syndicators receive fees in exchange for their expertise, time and effort in securing investment opportunities for the Limited Partners. Putting together a syndication involves many steps, including finding and vetting deals, obtaining financing, structuring the syndication and acting as an asset manager throughout the hold period.

There can be many variations and different types of fees, but the most common are:

#1 An upfront fee at the beginning of the deal for sourcing and acquiring the property. This is called an “acquisition fee” and is paid upon closing. Acquisition fees can range from 1% to 5% depending upon the size of the transaction.

#2 An ongoing fee to manage the asset is also common and is often referred to as an “asset management fee” This type of fee is usually based on a percentage of the rents collected or the net cash flow received from the property. These fees are typically between 1% and 2%.

#3 Another common fee that is obtained when the property is sold is referred to as a “disposition fee”. This fee is usually structured as a split ie 70/30, 60/40, 80/20. In other words, the equity/capital gains/appreciation is split between the Sponsor and the Limited Partners. In an example where there is $1,000,000 of profit upon sale, a 70/30 split would mean that $700,000 gets allocated to the Limited Partners and $300,000 gets allocated to the Sponsor or General Partnership.

Preferred Returns

A preferred return is a benchmark payment distributed to all Limited Partner investors. These usually range between 6% and 10% annually based on the initial capital invested. A preferred return is usually distributed to the Limited Partners before the General Partnership collects an asset management fee. Preferred returns are commonly derived from the first 6-10% that the property produces, after expenses are accounted for.

Example:

A passive investor who invests 50k in a deal with an 8% preferred return, could take home 4k each year or $333.33 a month assuming the property earns enough income/rent to make the payouts possible.

*Pro Tip* Not all Sponsors offer a preferred return to the Limited Partners, in my experience, this is a critical alignment of interest. I seek out Sponsors who offer preferred returns.

Conclusion

There is much more to discuss when it comes to syndication investing. The best way to clarify and find out if syndication investing can benefit you is to simply to connect over the phone or by email so I can learn more about your goals, risk tolerance, investing background and discuss any specific questions you have. Feel free to reach out to me anytime. I’d be happy to help in any way I can.

https://calendly.com/traviswatts/consultation

To your success

Travis Watts

About the Author: Travis started investing in real estate in 2009. First in single-family homes as an active investor, then apartment syndications as a passive investor. He is an advocate for self-education and leveraging other people’s expertise and networks. Travis has invested in over 27 passive syndication deals and dedicates his time to helping others achieve financial freedom on their own terms.