What is a Passive Real Estate Investment?

A passive real estate investment refers to an investment in real estate where the investor is not involved in the day-to-day operations of the property. In a passive real estate investment, the investor typically contributes funding towards the purchase, renovation, and/or development of a large property – such as an apartment complex or self-storage facility – that is managed by a professional real estate manager. In return, investors receive equity in the property and a share of the profits generated by the property.

Passive real estate investments can be an attractive option for investors who want exposure to the real estate market without the hassle of managing a property themselves. It can also provide diversification benefits to an investor's portfolio. As an added perk, investors typically have no liability.

Busy professionals should not be excluded from real estate investing. If you are a busy professional, or simply not interested in learning about the ins and outs of real estate, but still want to earn returns from real estate investing, partnering with others could be the solution for you.

Passive real estate investments are typically referred to as syndications or funds. These investments allow everyone to have a smaller piece of a bigger pie. In syndications and funds, investors pool their money together to purchase an asset. A sponsor, or general partner, puts the deal together by sourcing the deal, underwriting it, conducting thorough due diligence, arranging financing, bringing investors together to fund the deal, building a business plan, sometimes guaranteeing the loan. After closing, the sponsor is responsible for asset management, including managing the day-to-day operations.

Passive investors can own pieces of larger assets that they otherwise could not have purchased themselves, and take advantage of all the benefits of being an owner. Some of the benefits include:

1. Ownership

Generally passive investors are owners of the property and are entitled to a percentage of any refinance or resale of the property.

1. Cash flow

Passive investors are entitled to a portion of the cash flow, allowing them to put their money to work in real estate without exerting the effort required by a sponsor.

1. Tax benefits

Passive investors should always consult their tax professionals, and while it depends on the structure of the deal, passive investors sometimes are entitled to tax benefits as the owner of the property. These tax benefits can include: depreciation and reducing tax burdens.

1. Less Headaches and Risk

While a passive investor is an owner of the property, the passive investor is not usually responsible for bringing all the investors to the deal, nor are they responsible for managing the property. The sponsor will form a team on the ground to ensure the property is inspected and, sometimes, retain a professional management company. The sponsor will also be responsible for handling all maintenance and managing contractors. Finally, if required, the sponsor will personally guarantee the loan on the property, meaning that passive investors will not be responsible for paying back the loan if something goes awry.

1. Forced Appreciation

Smaller residential properties are valued based on comparable properties in the market, while larger commercial properties are valued based on their net operating income. A sponsor can force appreciation by raising rents or reducing expenses, thereby forcing appreciation to the property.

1. Scaling Up as a Team

Some partnerships scale up together. For example, if a partnership owns a 20-unit apartment complex, the partnership may decide to sell the 20-unit, after experiencing appreciation, and purchase a 60-unit apartment complex. Scaling up increases the cash flow and equity for all involved.

1. Hedge Against Inflation

During inflationary times, rents and property values increase. This is logical because the more money an individual is earning, the more that individual will spend to purchase a property or rent an apartment or storage space. Investing in larger commercial deals gives a passive investor a solid hedge against inflation by investing, at a large scale, in real estate.

There are other benefits to partnering with established real estate investors, and depending on your situation, it could be a win-win.