Fund of Funds for Syndication

Peter Nikic

Investor · New York & TN · Member since 2019 · 325 posts · 219 votes

6y

interesting, good luck! I'm sure you'll be able to do something good with this.

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Daniel McNulty

Financial Advisor · Indianapolis, IN · Member since 2018 · 294 posts · 165 votes

6y

@Tom Dittrich

Sounds like a good idea but you may have trouble executing it at that scale or at least for the first go of it. Your legal fees in getting properly setup will likely double or triple what you might bring in.

1 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

6y

Originally posted by @Daniel McNulty:

@Tom Dittrich

Sounds like a good idea but you may have trouble executing it at that scale or at least for the first go of it. Your legal fees in getting properly setup will likely double or triple what you might bring in.

It’s about 15k in legal fees for fund number 1. Capital raise is 1-3million, and can be structured so fund covers legal fees.

1 Reply

Jared Forman

Rental Property Investor · Philadelphia, PA · Member since 2017 · 139 posts · 107 votes

6y

@Tom Dittrich I personally like the Fund of Funds approach because you can diversify the allocations across vetted sponsors and get a mix of returns. This will also allow you to focus on the management of money, and not the management of real estate. You keep the idea very simple so that anyone can understand what it is you are doing.

As for the SEC compliance portion, I do not know if you would be in compliance or out of compliance. That is something that you should ask sponsors and your council.

Would like to know more about how this goes, please keep me posted

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Kent Leach

Specialist · Knoxville, TN · Member since 2012 · 66 posts · 59 votes

6y

Tom,

I have been working on a similar idea. I am a physical therapist and my physician friends have invested with me for years. You have discovered the fund of funds strategy which I firmly believe is the best way to go. I have an advisor who has coached me on this and it can be handled rather inexpensively. PM me if you'd like to discuss.

4 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

6y

Originally posted by @Kent Leach:

Tom,

I have been working on a similar idea. I am a physical therapist and my physician friends have invested with me for years. You have discovered the fund of funds strategy which I firmly believe is the best way to go. I have an advisor who has coached me on this and it can be handled rather inexpensively. PM me if you'd like to discuss.

Thanks Kent. I’ll send you a PM and hopefully we can touch base this week.

0 Reply

Account Closed

Investor · Singapore · Member since 2013 · 1k+ posts · 3k+ votes

6y

2% plus 20% of profits is hedge fund like fees. What exactly is your value for that? Once the investment is made there is nothing for you to "manage". You are adding a layer of costs that seem to me quite unnecessary. However, docs are not known for great money skills so maybe they see some value.

6 Reply

Todd Dexheimer

Rental Property Investor · St. Paul, MN · Member since 2016 · 3k+ posts · 3k+ votes

6y

Be sure you consult with a securities attorney to have it set up properly in order for you to get paid.

Here is the issue that I see with the structure. The GP is likely taking a 2% acquisition fee, 2% asset management fee and 30% of the deal. Then you are going to tack on another 2% AM fee and take another 20% of their profits. This really cuts into the margins and makes for some low return deals.

I would talk with your attorney and the GP's about ways to partner with the GP group to gain some ownership on their GP side, which would allow the fund fees to be reduced or eliminated.

4 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

6y

Originally posted by @Account Closed:

2% plus 20% of profits is hedge fund like fees. What exactly is your value for that? Once the investment is made there is nothing for you to "manage". You are adding a layer of costs that seem to me quite unnecessary. However, docs are not known for great money skills so maybe they see some value.

You make a good point and I've been doing quite a bit of thinking about this. Allow me to explain further.

Most physicians don't know how to get into private equity. They imagine its this super secretive under the radar business, when in reality it's all around them. This service would bridge the physicians to the deals without them having to learn how to vet a syndicator or a deal. It would also diversify for them. So instead of talking to 5 different sponsors, they just talk to me, a fellow colleague. There is built-in trust there. I can't run off with their money since I'm a practicing physician right in the trenches with them.

I am concerned about diminished returns, especially in our climate moving forward. I would say 10% plus in a tax efficient way and folks will be happy. My goal is not to "take" from these people so I think I will have to find a way to negotiate better terms for the group with the sponsors themselves in order to keep the returns adequate.

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Account Closed

Investor · Singapore · Member since 2013 · 1k+ posts · 3k+ votes

6y

@Tom Dittrich Maybe just offer a simple consulting service for a one time fee? An up front 2 or 5% fee for vetting syndicators may be worth it to someone. But that also begs the questions if something goes wrong will you accept any liability? I doubt you want that level of risk.

1 Reply

Dallon Schultz

Rental Property Investor · Phoenix, AZ · Member since 2019 · 146 posts · 77 votes

6y

@Tom Dittrich this has been an area of interest for me as well for quite some time. I've had some excellent calls with some SEC attorneys to help provide further direction. One thing I did not consider that was shared with me is that when setting up a fund of funds you essentially become a financial advisor for your clients so not only do you need to abide by SEC law you'll need to abide by the financially advising laws particular to the state you are setting the fund up in.

There are a lot of different ways to structure your fees, just remember that you have a fiduciary responsibility to your clients. I would be willing to take less up front, especially if it was my first fund, to ensure a pleasant experience for my investors so they become investors for life. Start with the end in mind. With that being said I've heard of some fund managers negotiating higher prefs or different splits with operators due to the large sum of money you'll be brining into their deals. If they're offering an 8% pref for each investor that puts in $50k and you want to put in $1M, why not negotiate a 10% pref. You could help fully subscribe their deal within a day or two which would bring a significant value.

A lot of good thoughts. There's a good book called "Raising Capital for Real Estate" by Hunter Thompson. Might be worth a read.

Happy investing!

1 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

6y

Originally posted by @Dallon Schultz:

@Tom Dittrich this has been an area of interest for me as well for quite some time. I've had some excellent calls with some SEC attorneys to help provide further direction. One thing I did not consider that was shared with me is that when setting up a fund of funds you essentially become a financial advisor for your clients so not only do you need to abide by SEC law you'll need to abide by the financially advising laws particular to the state you are setting the fund up in.

There are a lot of different ways to structure your fees, just remember that you have a fiduciary responsibility to your clients. I would be willing to take less up front, especially if it was my first fund, to ensure a pleasant experience for my investors so they become investors for life. Start with the end in mind. With that being said I've heard of some fund managers negotiating higher prefs or different splits with operators due to the large sum of money you'll be brining into their deals. If they're offering an 8% pref for each investor that puts in $50k and you want to put in $1M, why not negotiate a 10% pref. You could help fully subscribe their deal within a day or two which would bring a significant value.

A lot of good thoughts. There's a good book called "Raising Capital for Real Estate" by Hunter Thompson. Might be worth a read.

Happy investing!

Thank you Dallon. Yes I had in mind negotiating terms like higher prefs and possibly even bigger equity slices. Say instead of a 70/30, its a 75/25 with a 1% higher pref. The trade off for the sponsor is having the deal fully funded by our group of physicians quickly.

I am also on board with not taking high fees initially. However, this is a ton of work and as you mentioned carries significant fiduciary responsibility. There is also cost in running the website and investor portal - somewhere around 15k annually. To raise a few million dollars and manage for 5+ years, this really has to be worth my while (read 100K+). Finding a balance will be a challenge but I'm hopeful that I can work something out that is equitable for all parties.

1 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

6y

Originally posted by @Dallon Schultz:

There's a good book called "Raising Capital for Real Estate" by Hunter Thompson. Might be worth a read.

Just purchased on Amazon. Thanks Dallon.

0 Reply

Greg Dickerson

Developer · Charlottesville, VA · Member since 2018 · 4k+ posts · 4k+ votes

6y

Trying to negotiate a larger pref or split will be difficult with only $1-$3 million. That’s not a lot of money to bring to a sophisticated experienced sponsor with the type of delas you are going to want to place the Capital into.

You fee structure of 2 and 20 is typical equity fund structure. People on this thread are not understanding that represents 2% of the $1-$3 million you are raising and placing not the asset itself so that's only $20-$60 Also 20% of a deal that offers a 6- 8 pref and double digit IRR of say 12-14 only represents a couple of points. Not a lot of money for the time energy and effort vetting multiple sponsors and deals.

You would be better raising as much as you can and bringing it to one deal with the right sponsor.

1 Reply

Evan Polaski

Cincinnati, OH · Member since 2020 · 4k+ posts · 3k+ votes

5y

@Tom Dittrich you could also run into issues at the 1-3mm range because the fund is only accredited if all partners are. The verification letters you get when raising are only valid for 90 days, which is fine for your offering. But if you invested in a 506c offering, you would need to supply all those letters to the sponsor to confirm the fund is an accredited investor. If they are all expired, all your investors would need to provide updated letters.

Once you cross $5mm in assets for the fund, the fund is accredited on its own, so the partners should not be required to issue new letters.

And, as Greg mentions, if you raise $3mm and place that into 6 deals ($500k each) you might be below the threshold that most sponsors would offer a "better deal" to you.

2 Reply

Josiah Mann

Specialist · Springfield, MO (springfield mo) · Member since 2016 · 48 posts · 12 votes

5y

@Evan Polaski, are you saying that even if he's using a fund of funds he would have to prove his investor accreditation to the deal sponsors? I assumed that would be his responsibility as the fund manager.

0 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

5y

Originally posted by @Greg Dickerson:

You fee structure of 2 and 20 is typical equity fund structure. People on this thread are not understanding that represents 2% of the $1-$3 million you are raising and placing not the asset itself so that's only $20-$60 Also 20% of a deal that offers a 6- 8 pref and double digit IRR of say 12-14 only represents a couple of points. Not a lot of money for the time energy and effort vetting multiple sponsors and deals.

Thanks for your reply.

Yes you are right its not a huge compensation. For a fund of 1million invested in any number of deals that average a 15% IRR with a 7% pref. I would get 2%, then 20% of 8% ( which is a total of 3.6% of the AUM. So 36k for getting about 10 investors together and doing the leg work for them. Scaling that up 2 or 3 times is where it really starts to makes sense, so funds in the 5-10mil range which then would allow a few employees.

I also think that this would help put the "Doctors Investing Group" in a position to syndicate and operate on our own in the future.

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Spencer Gray

Syndication Expert and Investor · Indianapolis, IN · Member since 2016 · 591 posts · 808 votes

5y

@Tom Dittrich Instead of charging an additional fee and layer of promote you could try and negotiate for a % of the GP with the sponsor. You could still have an equity fee to cover the fund expenses but the bulk of your compensation would come from your GP %.

1 Reply

Evan Polaski

Cincinnati, OH · Member since 2020 · 4k+ posts · 3k+ votes

5y

@Josiah Mann, I am not a legal advisor, so always confirm with your compliance attorney. I was not totally clear. Yes, the Fund Manager would provide the letter to the syndication. But the Fund manager can only get the letter if all partners provide a current letter to the manager. The manager would provide all those letters to an attorney, and the attorney would verify accreditation status of the fund to give to the sponsor.

Either way, to me, if your network allows you to raise over $5mm it seems like an easier route, since entities are considered accredited on their own right once you cross the $5mm threshold.

2 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

5y

Originally posted by @Spencer Gray:

@Tom Dittrich Instead of charging an additional fee and layer of promote you could try and negotiate for a % of the GP with the sponsor. You could still have an equity fee to cover the fund expenses but the bulk of your compensation would come from your GP %.

Hey Spencer thanks for the reply.

My understanding is that the answer is likely no, not legally anyhow. Doing so is considered "brokering a security" and requires one to be a broker/dealer registered with the SEC.

The exception of course is if you actually are a GP, meaning you participate meaningfully in the partnership in terms of vetting the deals, doing due diligence, helping with managing the asset. You can't get a piece of the GP and just raise capital.

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Lance Pederson

Specialist · Portland, OR · Member since 2012 · 11 posts · 14 votes

5y

@Tom Dittrich It's a completely viable strategy. I've been seeing a lot of these types of vehicles being tilted up lately. There are two structures that work really well for this concept. As someone mentioned the securities work to put the PPM, OA, subscription agreement together would be around $15k. I know a few great attorney's that understand this type of structure really well that I could connect you with.

1) Traditional Close-End Fund. You set the maximum offering target raise amount. Get commitments from your Members and then call the capital in as you do the deals. You can typically negotiate better economics if you are making $500k+ investments into individual syndications which leaves you enough room to charge your Management Fee and Promote. 2% seems a little steep. 1% is probably more appropriate. 10% Promote is probably better than 20%. You could tilt up a new vehicle once every 9 to 12 months. The end user investors would end up with exposure to 4 to 6 deals.

One issue that you run into when running these fund of funds is that it's often difficult to get 100% of the commitments up front. You don't really want to wait to start making investments until you have the $2M or $3M committed. We've solved this issue by handling allocations and distributions on a weighted average contributed capital (WACC) basis to solve any dilution issues.

2) Rolling Fund. This structure is becoming more popular as well since it allows you to only have to go through the formation process once but you can continually bring new investor capital into the vehicle as you make new syndication investments but not have to deal with redemptions like you would in a traditional open-end fund.

Feel free to reach out if you'd like to discuss in more detail.

3 Reply

Tom Dittrich

OP

Investor · Charleston, SC · Member since 2018 · 31 posts · 8 votes

5y

Originally posted by @Lance Pederson:

@Tom Dittrich It's a completely viable strategy.

Thanks Lance. I’ll reach out to you to discuss further.

0 Reply

Lance Pederson

Specialist · Portland, OR · Member since 2012 · 11 posts · 14 votes

5y

@Tom Dittrich

I think what @Spencer Gray was saying was that you could potentially invest your fund's capital into the GP entity on a given deal which in turn would be invested alongside the other LPs in exchange for some % of the Promote off of the other LPs (e.g. 10%). This would juice the return and provide further credence to any Management Fee or Promote you are charging your investors. This solves a potentially problem for the syndicator of having a more meaningful co-investment (e.g. 10% instead of 2%) into the deal making it easier to potentially raise the remaining LP capital.

The other angle would be that you just ask the Sponsor for some percentage of the Promote for a large direct investment into the deal (e.g. We'll invest $1M in the deal but we'd like 5% of your Promote off the other LPs).

I've been advising many syndicators lately to just set their syndication up to support this by default by having two Classes of Units. Class A Units, for those that invest $500K or more, get an 8% Preferrred Return and an 80/20 split. Class B Units, for those that invest less than $500k, get an 8% Preferred Return and a 60/40 split.

This leaves the door open for the Professional Investors (aka Allocators) and the Sponsors end up getting what they often want which is fewer larger check writers.

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Roni E.Pro Member

Specialist · Earth 2.0 · Member since 2019 · 598 posts · 271 votes

5y

I can give you a contact for a Great securities attorney. The Issue you will habe is you will not be able to get 2% and 20% as the GP's that you will partners will also want to get 2% and 20%. So maybe you can JV with GP and split the 2% and then will need to figure out how to split the 20% as you will need to push returns to investors.

Originally posted by @Tom Dittrich:

Hello all,

-I started an investing group for physicians. We have 1350 members in just 3 months. The group would like to pool capital and invest in real estate.

-Initially I planned to syndicate myself. I am starting to wonder if doing a "fund of funds" approach and taking the capital and diversifying into 3-5 syndications would be a simpler approach for the first capital raise. It would be a 506(c) so that using our Facebook group and website would be compliant. We have the option of a blind vs semi-blind fund, open or closed, etc.

-As fund manager I would vet the sponsors and deals and invest the capital for the group, taking a 2% AUM fee and 20% of profits above a certain benchmark IRR. I am thinking our first raise would be somewhere around 1-3million. I do have a website in development and am interviewing investor portal software companies now. I think I could provide a fairly clean investor experience for the docs, who really want to be in real estate but don't want to spend the time with education or hunting for properties.

Has anyone done this before who would be willing to offer some advice?

Good idea, bad idea?

Any tips on the best structure for what we want to accomplish?

Thanks!

Tom Dittrich

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John FortesPro Member

Multi-Family Syndicator · Abington, MA · Member since 2017 · 603 posts · 347 votes

5y

Just stumbled upon this question and I'm pretty sure you already moved in some sort of direction but I created a database that I work off of regarding fund of fund structures.

I found that this is the cleanest and best way to raise capital, specially if you are starting your own real estate investment firm. It will keep your investors in house and you won't have to worry about operators sending other investment opportunities to your investors.

First and foremost, consult with a securities attorney such as @Amy Wan who has provided me with a ton of information.

Figure out if you can accept fees based off the formation of the fund, exempt RIA form requirements and more, Amy will guide you in that retrospect. Get your own documents drawn up and create the fund before investing it any opportunities. You can get creative and implement a GP catch-up if you cannot implement fees in your fund.

Decide if you will go 506b or 506c. From what I understand, a 506b fund cannot invest in a 506c offering as a LP. The deal would have to be a 506b.

Decide the size of your funds total raise that you will be seeking to deploy in other investments as a LP.

Aim for lower fees

Decide how many deals your fund is going to deploy into. For instance, if you raise a $5M fund, you may invest $1,000,000 in 5 different investments which really diversifies the fund and investors.

How are you forecasting your projected returns to your investors? That is very important to have it properly modeled as well as track the performance of your funds returns to your investors. I had to create my own because there isn't a fund of fund forecaster out there, till I created it. DM me if you want more specifics on that.

Here is an example that is forecasted a 6% preferred return of a 5 year fund that diversifies.

There are also ways to create a fund that only invests in JV partnerships and not traditional syndications. Hope this information helps. Happy investing!

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Fund of Funds for Syndication

Fund of Funds for Syndication

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