Author Topic: Real Estate Syndication  (Read 1145 times)

Chris @ Saturday Financial

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Real Estate Syndication
« on: November 07, 2019, 08:30:53 AM »
Have any fellow Mustachians invested in a real estate syndication? If so, has your investment experience been good?

Iíve spoken recently with several syndication sponsors who are projecting (not promising) ~14% returns over a 5 year time frame. In other words, the sponsors are projecting that investments can reasonably be doubled in 5 years. They say they are using conservative assumptions and that returns could even be higher. (Of course the opposite is true and there is a very remote possibility with any syndication that all of an investorís capital could be lost.)

My ďtoo good to be trueĒ radar is certainly on high alert, but after my initial research Iím nearly convinced that the risk/reward is worth it for me to diversify a little less than 20% of my portfolio into a real estate syndication.

For context, Iíve wanted to diversify into real estate for some time now, but for various reasons Iíve decided against buying local properties myself or purchasing REITs. Syndication seems to provide an opportunity to own a physical asset directly, receive some of the tax benefits of real estate, and yet not require any more of my time than an index fund. (Well, it will require significant time upfront to do everything in my power to choose the right syndication, but after that there is no time commitment involved.)

Anyone here with experience in this realm? In the next post I'll include a high-level breakdown of syndication for anyone who isn't familiar with it.

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #1 on: November 07, 2019, 08:31:55 AM »
A high-level overview of the concept:

A syndication is a partnership. In a typical real estate syndication, a partnership is formed through an LLC, the LLC exists to purchase and operate a large property, and all of the partners have an ownership stake in the LLC. The LLC will typically include a small number of General Partners (GPs) and multiple Limited Partners (LPs). A syndication allows a group of investors to pool their resources and purchase a large property that can benefit from economies of scale and potentially provide much higher investment returns than a single family home or a smaller multi-family home with only 2-4 units. A syndication can be utilized to purchase an apartment building, a self-storage facility, or a mobile home park.

The General Partners are also referred to as operators or sponsors, and they are the partners who actively find the property, put it under contract, choose the property management company, raise funds from Limited Partners, close on the property, and actively operate the property for the duration of the LLC's ownership. Operating includes ďmanagingĒ the property management company, distributing cashflow to Limited Partners according to the LLCís terms, reporting on the performance of the property, providing tax forms to Limited Partners, etc.

The Limited Partners are also referred to as passive investors, they have no active responsibilities. Limited Partners have no liability if anything goes wrong with the property. Syndications can take a lot of different forms, but hereís an example of what a syndication could look like:

A group of investors pool their resources to purchase a 200 unit apartment building that is in need of renovations. Three General Partners work together to find the apartment complex, create a business plan to improve it, and share the investment opportunity with their network. The business plan is a "value addĒ strategy, and it involves renovating 100% of the units in a 2-3 year time frame, raising rents, decreasing operating costs by increasing management efficiencies, allowing rents to stabilize at the higher rates, and then selling the optimized property after approximately 5 years.

60 Limited Partners contribute $50,000 each to the investment, for a total of $3,000,000. The property is purchased for $10,000,000 with a $2,500,000 down payment, and $500,000 is set aside for operating expenses including a renovation budget and a reserve fund.

The LLC is structured so that the General Partners receive a 1.5% acquisition fee when the property is purchased to compensate them for their active work of finding the property and pulling the partnership together. Limited Partners receive an 8% preferred return from the property's cash flow, paid quarterly. If limited cash flow temporarily prevents the 8% return, Limited Partners receive more return from future cash flows until the 8% annualized return is paid on schedule. The preferred return means the 8% return is prioritized before the General Partners receive any other compensation. Any cash flow distributions beyond 8% are split 70/30, with 70% of those funds going to Limited Partners and 30% of those funds going to General Partners.

When the property is sold, the proceeds are first used to return capital to the Limited Partners. Any additional funds are also shared with a 70/30 split - 70% to the Limited Partners and 30% to the General Partners.

I realize thatís a lot of information. Iím curious if any of you have any real world experience with this type of investment?
« Last Edit: November 07, 2019, 09:39:25 AM by Chris @ Saturday Financial »

Grafter

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Re: Real Estate Syndication
« Reply #2 on: November 07, 2019, 08:43:59 AM »
I have some experience with it.  Though, there is a lot to cover, from deciding what sort of investment you want to make (debt or equity), what type of property you want to focus on (development vs MF vs other asset classes).  You will also potentially be limited as to if you are an accredited investor or not, as that may limit what deals you can get into (as most all of these are securities per the SEC, so there are some big rules in place as to how they can market and approach investors).

But in short, you will need to vet the sponsor and the deal.  If you want resources, I would suggest

https://www.therealestatecrowdfundingreview.com/investing-tutorials
https://www.crowddd.com/
As well as there are multiple articles about it at the WCI's blog.

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #3 on: November 07, 2019, 09:04:16 AM »
Thanks, Grafter!

My tentative plan is to pursue an equity syndication in an apartment complex, preferably class B or class C in an emerging market.

I am a sophisticated investor, but not an accredited investor. That does limit the number of available deals I can get into. My understanding is that syndications are typically offered as private securities using either Rule 506(b) or Rule 506(c) of Regulation D.

506(b) offerings can accept investments from accredited investors and up to 35 sophisticated investors. 506(b) offerings cannot advertise - the General Partners can only offer investments to individuals with whom they have a substantial pre-existing relationship.

506(c) offerings can only accept investments from accredited investors. They can advertise the deal to their heart's content, but they have to verify that their investors are all accredited before accepting funds. (Accredited investors must have a net worth of one million dollars excluding their primary residence, have an individual salary of more than $200,000 per year, or have a household salary of $300,000 per year.)

Since I'm not accredited, my strategy so far has been to reach out to sponsors who have an online presence and set up a phone call. If the sponsor utilizes 506(b) for some of their offerings, I use the phone call to build a relationship with that sponsor. This allows me to become part of their network so that I can legally receive information about their future 506(b) offerings.

The WCI's blog has been super helpful for me so far. I've also gotten a lot of value from therealestatecrowdfundingreview.com, but so far I haven't seen much information on there focusing on 506(b) deals accepting sophisticated investors. Their advice for non-accredited investors appears to be more geared towards funds/private REITs. I'm more interested in getting involved in a syndication and directly owning a portion of one property though an LLC.

Crowddd.com looks like it could be super helpful, but I can't join since I'm not accredited. I wish there was a similar investor club that was open to sophisticated investors. If anyone knows of one, please share. :)
« Last Edit: November 07, 2019, 09:51:35 AM by Chris @ Saturday Financial »

Proud Foot

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Re: Real Estate Syndication
« Reply #4 on: November 07, 2019, 09:20:32 AM »
By what measure do you consider yourself to be a sophisticated investor? This is also something I have been researching recently to try to get into in a few years. I believe my background and work experience would qualify myself as a sophisticated investor but I haven't really found anything with anything other than generic information.

Also, how are you going about finding sponsors using the 506(b) offerings?

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #5 on: November 07, 2019, 09:35:31 AM »
Great questions.

The SEC's definition of a sophisticated investor is a little vague, but from what I've gathered a sophisticated investor has significant investment experience and understands the risk involved in private security investments. Whether someone is sophisticated or accredited, they should never invest money into a private security like a syndication that they can't afford to lose.

Here's a little more: "According to SEC, sophisticated investors must have sufficient knowledge and experience in financial and business matters to make them capable of evaluating the merits and risks of the prospective investment.
The definition of sophisticated investor is little vague but it basically means that you are knowledgeable and experienced enough about the risks involved in these securities (and are willing to take those risks)."
Source: https://smartcapitalmgmt.com/news-and-updates/multifamily-latest/know-the-difference-accredited-vs-sophisticated-investors/

So far I've found a handful of sponsors by browsing the Bigger Pockets forums as well as listening to podcasts focused on real estate syndication. If I like the information a sponsor has provided publicly, I reach out to set up a phone call. My first question for each sponsor is whether they open up any of their deals to sophisticated investors. If the answer is yes, I use the phone call to begin building the relationship that's necessary for them to legally share future offers with me.

If you decide to go explore this investment space, be sure to do extensive due diligence on the sponsor and their track record. Choosing the right sponsor is probably more important that choosing the right city and the right property to invest in. Of course, all of the above are important.

thejordanburnett

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Re: Real Estate Syndication
« Reply #6 on: November 08, 2019, 05:56:53 AM »
Hey Chris,

Just last month I invested $50K into a real estate syndication for a multifamily complex in Raleigh, NC.

It seems like you know a lot of the details of the behind the scenes information (how the syndicators get paid, what qualifies you, etc.)

I'm going to write a more in-depth article on this soon, but here are a few things I would do if I were you:
  • Research the people running the syndication and see if you can find their history online (or if they've been interviewed). See if they have a reputation.
  • Find all the properties they've taken over as part of the syndication, what date they took them over, and look at the online google reviews of those properties
  • Ask as many questions as you want of the syndicator. As a non-accredited investor, they are legally required to answer all of your questions until you feel confident in the deal. If they give you ANY push back, run away.
  • Examine the actual property you're going to be involved in and make sure you understand that market, the potential market risks, the surrounding companies, etc.

One caveat to investing in a syndication is that you're essentially committing a large amount of capital to a single property (even if it is multi-family) for ~5 years which means the usual [Location, Location, Location] matters a lot more than even a rental you could be in and out of within a year or two.

If the [nearest businesses shut down] [side of town goes downhill] [etc.] then you're locked in and may never see a significant return on your investment.

There are a lot of properties (even with the group I invested in) that I had ZERO interest in being a part of. They were just in crappy locations in areas that I wasn't confident with.

The Multifamily Investor Nation YouTube channel (run by Dan Handford who participates in the group I joined a syndication with) has a lot of great videos that are very transparent about the syndication process and what you need to know.
 
https://www.youtube.com/channel/UCKxtBNbKMvUz6niVMtPzfIQ

nancyfrank232

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Re: Real Estate Syndication
« Reply #7 on: November 08, 2019, 06:23:26 AM »
Itís already a lot of work for me to vet a deal and now I have to vet the sponsor? No thanks

If I can vet a deal as a legitimate deal, thatís 99% of the work. In a syndication itís 50% of the work

Most likely a syndication is offering you a typical deal at a typical price and off-loading risk 

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #8 on: November 08, 2019, 08:06:26 AM »
@thejordanburnett That's super helpful - thanks for all the info. I'm glad to hear at least one other mustachian has chosen to invest in this space. The tips you provided are really good, and I'll definitely check out that YouTube channel!

Nancy, you're definitely right that it's a significant amount of work upfront to vet both the sponsor and the particular deal they are offering. The benefit is that once you've done the work to vet both, your investment is 100% passive - no property management whatsoever. I don't think sponsors are trying to offload risk. The whole idea behind syndication is that a group of investors can access a much larger property than any of them could access on their own. A 200 until apartment building benefits from economies of scale that even a 30 unit apartment does not benefit from. But very few investors can put up the required capital to get a loan on a 200 unit building by themselves. A syndication pools resources so that individual investors can come together and purchase a property that would otherwise only be an option for really large, institutional investors. That's not to say every syndication is a good deal - but my guess is that there are several great opportunities out there.
« Last Edit: November 08, 2019, 08:08:12 AM by Chris @ Saturday Financial »

nancyfrank232

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Real Estate Syndication
« Reply #9 on: November 08, 2019, 08:22:28 AM »
@thejordanburnett That's super helpful - thanks for all the info. I'm glad to hear at least one other mustachian has chosen to invest in this space. The tips you provided are really good, and I'll definitely check out that YouTube channel!

Nancy, you're definitely right that it's a significant amount of work upfront to vet both the sponsor and the particular deal they are offering. The benefit is that once you've done the work to vet both, your investment is 100% passive - no property management whatsoever. I don't think sponsors are trying to offload risk. The whole idea behind syndication is that a group of investors can access a much larger property than any of them could access on their own. A 200 until apartment building benefits from economies of scale that even a 30 unit apartment does not benefit from. But very few investors can put up the required capital to get a loan on a 200 unit building by themselves. A syndication pools resources so that individual investors can come together and purchase a property that would otherwise only be an option for really large, institutional investors. That's not to say every syndication is a good deal - but my guess is that there are several great opportunities out there.

If youíre considering a syndication that is offering a 200 unit deal, youíre definitely not vetting the deal. Youíre using the sponsor and social proof as a proxy to vet the deal

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #10 on: November 08, 2019, 08:30:57 AM »
You could choose to trust the sponsor's own vetting and due diligence, yes. But there's also no rule that says you can't visit the property yourself, ask the sponsor for a copy of the property's trailing 12, and do your own due diligence on the other assumptions in the sponsor's investment summary.

thejordanburnett

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Re: Real Estate Syndication
« Reply #11 on: November 08, 2019, 08:42:42 AM »
If youíre considering a syndication that is offering a 200 unit deal, youíre definitely not vetting the deal. Youíre using the sponsor and social proof as a proxy to vet the deal

Tell us more--why can't the deal be vetted?

nancyfrank232

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Re: Real Estate Syndication
« Reply #12 on: November 08, 2019, 11:31:16 AM »
Tell us more--why can't the deal be vetted?

It can. Iím playing the odds that it wonít

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #13 on: November 08, 2019, 11:39:10 AM »
Tell us more--why can't the deal be vetted?

It can. Iím playing the odds that it wonít

Fair enough. Taking the time to vet the sponsor, the market, and the property itself is a choice that each individual investor will need to make. If an investor isn't willing to do all three, then syndication probably isn't a good choice for them. Nothing wrong with that.

Michael in ABQ

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Re: Real Estate Syndication
« Reply #14 on: November 08, 2019, 01:53:10 PM »
I was a commercial real estate appraiser for about a decade. I saw a lot of syndicated deals go completely under in 2008-2010 where the investors basically lost everything.

There are syndicators out there who are straight criminals and will rip you off. I.e. they buy a property for $2 million, get a fake lease, flip it to the syndicate for $6 million take a nice cut off the top (plus their huge gain) then walk away leaving the syndicate with a property with $2 million that now has $4.5 million in debt.

https://www.internationalappraiser.com/ This is the blog of an appraiser who deals primarily with international property and hard money lenders. He's also written a book on real estate fraud examination. The example above is something he saw. https://www.internationalappraiser.com/search?q=SYNDICATION This link will take you to multiple blog posts about failed syndicates.


It can be a good deal - but like any real estate deal there's a lot of things to consider. Location, market, timing (real estate/business cycle), quality, tenants, lease terms, deferred maintenance, etc. Are the interests of the syndicator aligned with the rest of the syndicate? Or do they make enough money on the front, and have little enough skin in the game, that they can walk away ahead even if the deal doesn't work out as planned?

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #15 on: November 08, 2019, 02:22:39 PM »
Michael, I appreciate the insight. Personally, I plan to stay far away from anything international. Your post definitely reiterates the importance of properly vetting a sponsor and doing one's own due diligence on any property they are considering purchasing.

Can you share more about what caused syndicated deals to go completely under in 2008-2010? Were the syndicated deals apartment buildings within the U.S. or were they another asset class? Were they operating on a business plan dependent on re-financing short-term debt, and the financing options dried up during the recession? Were they operating on a business plan that depended on appreciation instead of conservative estimates of cash flow?

Michael in ABQ

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Re: Real Estate Syndication
« Reply #16 on: November 08, 2019, 02:42:23 PM »
Michael, I appreciate the insight. Personally, I plan to stay far away from anything international. Your post definitely reiterates the importance of properly vetting a sponsor and doing one's own due diligence on any property they are considering purchasing.

Can you share more about what caused syndicated deals to go completely under in 2008-2010? Were the syndicated deals apartment buildings within the U.S. or were they another asset class? Were they operating on a business plan dependent on re-financing short-term debt, and the financing options dried up during the recession? Were they operating on a business plan that depended on appreciation instead of conservative estimates of cash flow?

The couple of syndicated deals I'm most familiar with were multi-tenant office buildings. Both were in decent locations, multiple stories, multiple tenants, solid Class B properties. They were structured as tenant-in-common (TIC) deals. I think the bottom line was the syndicate purchased them at inflated values in the early to mid 2000s. Combine that with difficulty in refinancing and a declining market (Albuquerque office market was among the worst performing in the country for much of the last decade in terms of vacancy and rent growth). The syndicator didn't necessarily have a lot of skin in the game and most of the syndicate partners were doctors, lawyers, etc. Relatively high net-worth professionals, but none of them necessarily had a lot of real estate knowledge. After the market crashed they had to get 30+ people to agree to almost any decision. New tenants didn't want to wait months to sign a lease, they weren't responsive in lowering rental rates in line with the market, nobody wanted to foot the bill for significant maintenance (or even routine maintenance) so the existing tenants started moving when their lease expired because they couldn't get simple things fixed in a timely manner.

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #17 on: November 08, 2019, 02:50:39 PM »
Thanks for the insight! It's helpful to be aware of what types of risks need to be mitigated.

nancyfrank232

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Re: Real Estate Syndication
« Reply #18 on: November 08, 2019, 02:57:28 PM »
30 cooks in the kitchen and a restaurant operator with no skin in the game lol

Chris @ Saturday Financial

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Re: Real Estate Syndication
« Reply #19 on: November 08, 2019, 03:02:40 PM »
Yeah, I definitely want to avoid that type of scenario. I plan to buy into a property with an LLC structure instead of a TIC structure.

In that scenario, a certain percentage of the shares will belong to a few GPs who are the real estate professionals and have all the decision-making power. And a certain percentage of the shares will belong to the LPs, who are the passive investors who front most of the capital.

Personally, I won't be investing in any deal if the GPs are not willing to purchase at least some of the LP shares so that the GPs are invested in the deal right alongside the other LPs.