I'm torn between buying a few medium-sized multi family every year or just put my extra $$$ into syndications as Limited Partner. I guess LP in syndication will surely bring lower return than buy-it-myself, but how much of a difference in IRR are we talking about? 50% lower? My estimation:
- for LP in syndications, 20% target IRR (x2 capital in 5y) is the "industry standard" for the last few years, it looks like we are moving towards 15% target IRR for the recent deals I have seen, but no work needed is a really sweet deal to have.
- for people who buy it themselves, I estimate an average 7-cap can brings in ~30% IRR after 5 years assuming 5% annual property value increase and expenses at 50% gross rent.
Beside return, can an average out-of-state investor reliably get a few 7-cap deals every year from a good market without much marketing (using a commercial real estate agent for example)? Is such return too optimistic?
It seems to me that the first question is: Do you want to be an active or passive investor? The answer to that question in large part determines your investing approach.
Another way to phrase the question is: What is your time worth to you?
Doing it yourself may yield higher returns if you do it right. DIY also allows you greater control and the ability to use 1031s to increase your net worth. 1031s in syndication deals are possible but much harder to find. DIY may allow you to move more quickly in reaction to market conditions.
Syndication deals provide economies of scale that help offset the typical 30% GP share. Property management and repair costs on a per unit basis decrease with the size of the property. The larger the loan typically the more attractive the financing terms. The difference between a typical commercial loan with a 20 year amortization and an agency loan with a few years of interest only is huge.
There is a reason for “specialization of labor”. As a DIY what level of asset management skill can one bring to the table versus someone who does it full time?
As an aside, 7 cap deals are difficult to find in any kind of decent market. A 7 cap deal on paper would indicate a problem property in a problematic area to me.
All this being said, I think there is room for both approaches.
Having over 40 years investing experience in the single family space, I have moved my portfolio into multifamily both passively and actively. I have 7 LP and 2 co-GP multifamily investments and I am happy with the diversification provided by all of these investments. I still own numerous SFR rentals too.
The answer to you question is 1) partially of function of the financial numbers and 2) how you value your time and 3) your particular skills and abilities and 4) capital available to deploy.
One size does not fit all. You are asking the right questions.
Investor · Cary, NC · Member since 2012 · 214 posts · 194 votes
5y
@Chan Le
Good topic. I do feel your return assumptions for buy and hold are too aggressive. If you can find those returns though in decent neighborhoods then please let me know where ;).
Both syndication and big and hold returns have come down as prices have risen
Another thing to consider is less downside risk with a syndicate, as that is non recourse debt and so they can’t come after your own assets if something goes wrong
It seems to me that the first question is: Do you want to be an active or passive investor? The answer to that question in large part determines your investing approach.
Another way to phrase the question is: What is your time worth to you?
Doing it yourself may yield higher returns if you do it right. DIY also allows you greater control and the ability to use 1031s to increase your net worth. 1031s in syndication deals are possible but much harder to find. DIY may allow you to move more quickly in reaction to market conditions.
Syndication deals provide economies of scale that help offset the typical 30% GP share. Property management and repair costs on a per unit basis decrease with the size of the property. The larger the loan typically the more attractive the financing terms. The difference between a typical commercial loan with a 20 year amortization and an agency loan with a few years of interest only is huge.
There is a reason for “specialization of labor”. As a DIY what level of asset management skill can one bring to the table versus someone who does it full time?
As an aside, 7 cap deals are difficult to find in any kind of decent market. A 7 cap deal on paper would indicate a problem property in a problematic area to me.
All this being said, I think there is room for both approaches.
Having over 40 years investing experience in the single family space, I have moved my portfolio into multifamily both passively and actively. I have 7 LP and 2 co-GP multifamily investments and I am happy with the diversification provided by all of these investments. I still own numerous SFR rentals too.
The answer to you question is 1) partially of function of the financial numbers and 2) how you value your time and 3) your particular skills and abilities and 4) capital available to deploy.
One size does not fit all. You are asking the right questions.
Investor · Indianapolis, IN · Member since 2018 · 1k+ posts · 756 votes
5y
@Chan Le As others have said, it depends on your goals. How active do you want to be? The great thing about being a passive investor is that you can be hands off and leverage the expertise of experienced operators to handle the investment on the active side. By being an LP, you can collect mail box money and enjoy the cash flow and tax benefits. Also, you still have all of your time! Time is extremely valuable. Sometimes the medium size assets will not have the economies of scale as these large assets and could be more of a headache than you think.
Syndication Expert and Investor · Indianapolis, IN · Member since 2016 · 591 posts · 808 votes
5y
It depends on how a deal is set up and what the waterfalls are.
In your standard 8% pref and 70/30 LP/GP split project, the project level IRR is usually 200-400 bps higher than the LP level return. So if the project achieves a 18% IRR the LP IRR can be around a 15% IRR. This is a very general rule of thumb as there can be many factors that go into a partnership order of cashflows ,etc.
In my opinion to achieve 3% extra of IRR for doing all the work isn't worth it compared to be completely passive as an LP.
When it makes sense to put in the time to do a (large) project on your own is if you decide to use OPM (raise capital) so you can achieve 30%+ to potentially infinite IRR's.
Real Estate Syndicator · Phoenix, AZ · Member since 2018 · 903 posts · 1k+ votes
5y
@Chan Le It depends per investor. Not everything will always be solely on the return. Tax benefits from bonus depreciation can be a major advantage to syndication. Time not spent on the project another important factor. Someone in their retirement isn't much concerned with a higher yield as they might be with the risk profile or time afforded to them.
So what is most important to you? That is the question. If you feel the return is crucial, and you can do better than you could as limited partner. AND you are comfortable with the additional time spent, risk profile and depreciation amount, then doing a small multi-fam yourself could be your ticket.
I've found the small multi's are significantly more work for the solo investor and the expertise of the local teams are not always at the level of the larger syndication contractors, property managers, etc. This opens the door to mistakes and the returns aren't always as predictable. Just my experience however. Plenty of opportunity on both just depends on the investor's goals.
Thanks for all the detailed answer everyone - I always thought 7-cap is usual, probably the materials I read are too old already :) It looks like it's not worth it to DIY for small deals then - I still have a full time job so value my time very much :-?
Investor · Cleveland, OH · Member since 2019 · 147 posts · 156 votes
5y
@Chan Le We're still able to buy for a 7 cap where my partner and I operate, but we put a ton of time and effort into sourcing off market deals. At the moment (even here in Cleveland), a 7 cap is tough to come by from a broker since a lot of out of state money is moving into our market from California and even overseas.
If you value your time very much you might want to consider going the passive route.. That being said, what returns are you willing to accept for a completely passive role? We're hitting about 10% COC, but that number seems to be harder and harder to hit. Also, in major appreciation markets, many people syndicators are shooting for 6-8%. What returns you require would definitely push you in one direction or the other.
Getting into multiple medium size multifamily properties will definitely take up some time - I just left my full time job to do it! So, if you have the capital available, my thoughts are that you should definitely look at being an LP, or at least JV-ing on deals with partners you trust if you still want a smaller (but still slightly active) role.
Syndication Expert and Investor · Indianapolis, IN · Member since 2016 · 591 posts · 808 votes
5y
@Chan Le the market has definitely moved compared to now vs this time last year. Last year we were still able to buy newer (2000's vintage) core plus assets for around a 6% cap and older value add deals for a 7% cap rate. We are currently selling an older value add deal with "meat on the bone" for sub 5% cap rate a newer class A is trading sub 5%.
It makes some sense given the move lower in interest rates, now we'll have to see if NOI growth catches up to keep markets sane, especially if rates continue to rise.
Commercial Real Estate Fund Manager · Lynchburg, VA · Member since 2015 · 1k+ posts · 1k+ votes
5y
@Chan Le - great question. You got a lot of great feedback here and I look forward to seeing what others say, too. As @Arn Cenedella said, there is a massive value of your time that needs to be taken into account. And the issue of unexpected issues can be a "gotcha" more for smaller deals you manage yourself. At least that's been my experience while investing in both of these options.
Investor · Round Rock, TX · Member since 2010 · 8k+ posts · 4k+ votes
5y
If you impute the value of your time in any active investment the "returns" on your money look far less impressive. Can the deal afford what you're being paid doing whatever you're doing now? Keep in mind the value of your time will vary too based on your skills and expertise so in theory your time should be more valuable in the future, but this would need to be discounted to today using your favorite metric.
The summary statement is there ain't no such thing as a free lunch.
Developer · Boise, ID · Member since 2020 · 173 posts · 198 votes
5y
@Chan Le it is really dependent on all the factors mentioned above! But like @Arn Cenedella stated with the first question do you want to be active or passive? And as far as your results being out of date on your desire for a 7CAP @Spencer Gray is right about the market as a whole, but there are still a lot of ways around that problem. Like @Chris Levarek is quick to point out and most people overlook is the value of your own time. What did you give up to get this asset performance?
Also @Paul Moore is really on point with his follow up to all of this in his post. Paul and I have had a couple of great conversations surrounding these topics in the past.
But lets look at the desire for a 7CAP again with a new twist and look at New development syndication as one of the ways for you to get your cake and eat it too.
Lets take your typical value add purchase:
Seller has a cash flow producing beauty and she is a rare gem. Built in 1973 as a hotel, this baby has been converted to apartments that are now now boasting 6 coats of paint and a pylon sign no one uses any more. And he wants full retail for this cash cow. So buyers line up to pay retail because they all dream of making this place shine. Taking her from a class C to a B+, and in doing so create the forced appreciation that leads to additional value. So buyers not only are forced to pay retail, but they also bring in the cap X needed to create these transformations and in the process have now paid more than retail for the product, but now they are the proud owner of a JOB!!! And in markets of the past 5 years its been pretty easy to do just that and convert these into a sweet bit of upside. ANd in 10 years she will have been worth it all!
Right down the street a developer has decide to take the vacant land and build some brand new apartments. So he sets about designing and planning, and soon he has a solid set of plans and specs that he can bid out and start talking to banks about. Another huge bonus to this process is the developer is able to build a project that has all of the modern amenities and comforts tenants are currently looking for, but are not often available in older product. Just think, in apartment laundry and energy efficient windows with 9' ceilings and modern layouts. In the developers case he will need to get an experienced GC involved and secure financing as well as a property manager familiar with a new lease up, but the math looks quite a bit different for him.
While he will take some time to build his project, the appraisal will have given him a great snapshot of the market on provable rents and will show him where his true appreciation lies. There is no drinking the Kool Aid on this one because appraisers tends to do a very in depth job on a commercial appraisal to understand, not only the produce but the surrounding market as well. But when he is done he will have pretty significant upside from the cost of the project to the value at stabilization and it will all be his. He will not be paying retail or buying someone else's appreciation and in most cases will see 18-25% appreciation in this time period. All of this with NO forced appreciation! That's right, in fact these numbers will be built on rents from before the project started.
Once stabilized he will continue to tune up the rents until this new development is running at peak cash flow. It will be easy to predict expenses as well, because everything will be brand new so break downs will be rare. Sidewalks will not be being pushed up by over grown roots and air conditioners will still have plenty of life left in them to get several decades down the road. Carpets and appliances will all fall into the same category and at the end of the day expenses will be significantly less than older properties.
But there has to be a catch right? Yes of course there is always a catch. The catch is banks have a bit higher lending standard for developers as far as track record, so team member selection is going to be important. And there is typically a bit more cash needed in the game on the construction loan side too, but that is easily refinanced out on completion. Lastly since there is not any existing cash flow the banks will want interest reserves set aside to pay the loan during construction, but now even value add's are going to require that. All done the rewards are oh so sweet when you have a new asset with that new tenant smell still permeating the club house and your maintenance man is soundly asleep in the corner with the Maytag man!
But take a look at this from the perspective of risk for a moment. Someone that bought a value add project in the last half of 2019 and was in the process of renovating and forcing appreciation is might be struggling to keep rents on an upward trend. In fact he may have abandoned the remodel all together. So here he sits with most of the cap X spent and the rents stagnant. He is in a painful spot with his cash flow and likely his bank. That's hoping he didn't find any undisclosed deferred maintenance that cost an arm and a leg.
And all the while one would argue that this is Covid related, and this would have been a home run if it wasn't for that. But I think we can look back over the last 40 years and see quite a few times when situations just like this have happened in the rental markets and overnight things changed.
Now honestly you tell me where the real risk lies and how much of that you want to assume
We are doing ground up development and syndication of multi family and industrial in Idaho. With the factors you mention on blast here in the fastest growing state in the west (I think the whole country) your google search will blow up with all the great news that has been coming out of Idaho for the last 10 years. But I digress...
We have found that not only is large scale multi family more predictable both short and long term but it is also quite a bit more recession resistant, easier to rent and manage, and is typically producing better and more consistent cash flow.
I started my multifamily investment journey by acquiring smaller (12-14 unit) projects over 10 years ago. It’s been a great experience and allowed me to develop a deeper understanding of landlording, investing and building and managing an investment team. I have achieved infinite returns on all of my projects so far (cashed out all my initial down payments and still cash flowing the properties) and have been able to multiply my net worth several times in the period.
3 years ago I invested in my first syndication deal as an LP. Today my strategy is to roll cash flow from my buildings and any cash out refinance proceeds into new syndication deals. So far, the syndications have offered a slower but steadier approach to wealth building. When balancing time and effort against returns, the syndications fit my current situation.
A recent case in point, in the beginning of January I had a major fire in one of my projects. Two and a half months later and countless hours with the insurance company, I have gotten a draft estimate of repairs. It will take another year of working with insurance and contractors to get the building back on the market. I am not looking forward to the effort.
Contrast this to an email I read this morning from one of my syndication regarding the bad weather in Texas. There are broken pipes, clogged sewers and other damage that they GP’s are evaluations and trying to get fixed. Not something that I would want to spend my time on. The email was an interesting read and an isolated case in my geographically diversified portfolio of syndications. The project is insured and it will get back on track and best of all, I don’t need to worry about it.
So in summary, all the feedback is right. It depends on your objectives and what you want to do with your time. For me, investing as an LP is the right thing at this moment. When my interests shift and I have more time or when I want to focus my energy on increasing my net worth then I would look at acquiring my own project to force greater appreciation.
Rental Property Investor · Fresno, CA · Member since 2016 · 25 posts · 18 votes
5y
@Chan Le You've got lots of good advice already here. What I'll add is that syndicated deals leverage economies of scale. Unless you are sitting on a big pile of cash you won't be able to purchase a multi million dollar property. That's where a syndication quickly has value. Additionally, as a generally rule of thumb 60+ units is where the the cost of property management per unit makes the most sense. Most individuals that purchase apartments will be in the 5-15 unit range. There isn't onsite property management yet you need to have property management available for your tenants. Let's say you do find a 7 cap property (which will likely either be distressed or D class) property management on this type of property may make that 7 cap a moot point. You could get away with managing the property yourself, but you need to ask yourself if your goal is to be an investor or a property manager or I suppose both :-)
With that being said I know people who are syndicators, passive investors and individuals that own small complexes. You have 24 hours in a day. Do you want to leverage other people time and experience so you can passively invest or do you want to have your time spent running the properties? Even with a property management company, if you are the owner you need to be actively involved.
I think the real question you need to be asking yourself is "How much is my time worth"?
Rental Property Investor · St. Paul, MN · Member since 2016 · 3k+ posts · 3k+ votes
5y
This all comes down do what you actually want to achieve and what you have time for. If you want to create the best returns with the least hassle, then passively investing to get 15% IRR is a solid deal, especially if you have a job or business that you enjoy and that makes you good money.
If it is the thrill of the deal and the challenge that comes with it that gets you excited, then being active is a must. Getting a 7% cap in a good market and neighborhood is not going to happen, but you can still get a 4-6 cap and complete a value add to give yourself a 30%+IRR.
Of course, you can do both and then after a few deals, decide which you prefer.
I'm torn between buying a few medium-sized multi family every year or just put my extra $$$ into syndications as Limited Partner. I guess LP in syndication will surely bring lower return than buy-it-myself, but how much of a difference in IRR are we talking about? 50% lower? My estimation:
- for LP in syndications, 20% target IRR (x2 capital in 5y) is the "industry standard" for the last few years, it looks like we are moving towards 15% target IRR for the recent deals I have seen, but no work needed is a really sweet deal to have.
- for people who buy it themselves, I estimate an average 7-cap can brings in ~30% IRR after 5 years assuming 5% annual property value increase and expenses at 50% gross rent.
Beside return, can an average out-of-state investor reliably get a few 7-cap deals every year from a good market without much marketing (using a commercial real estate agent for example)? Is such return too optimistic?
Chan, I'm an investor and support myself and my family from my investment income. And I invest in both direct real estate (via residential rentals) and syndication/crowdfunding passive investments. In my opinion, both have their pros and cons and neither is 100% superior to the other. And I feel the ideal portfolio can benefit from the diversification of both.
1) Directly owned properties are great because they give you maximum control and the ability to tweak them exactly how you want. So for example I'm very conservative and don't want any debt on them because I feel this hardens them in case of a severe recession. That's unusual and it would be very difficult to find a passive investment like that.
Also direct control means you know exactly what's going on. And, for those people who have more time than money, they can put in sweat equity into directly owned real estate. This will increase the return above what can be obtained on a passive investment.
The flipside of having the power to control everything is that can be alot of work (and a full-time job if you are putting in sweat equity). Not everyone wants that or is willing to put up with that. It also requires gaining a level of sophistication and knowledge that not everyone has the time, inclination or ability to do. And someone jumping into this as a complete newbie can expect that they have a decent chance of making some expensive newbie mistakes.
2) On the other hand, one of the main advantages of passive investments (via syndication/crowdfunding) is that you can hire a manager who has years more experience than you can ever hope to obtain yourself. And once you finish the due diligence, your work is done: it's completely passive. Also, rather than taking a large amount of money and investing into one single directly owned property, you can split it up into much smaller chunks across many different passive investments. This can allow a person to get much better diversification protection across geographies, asset types, strategies, investment subclasses etc. Versus putting all the eggs into one basket.
The downside is that someone has to be comfortable with turning over control to someone else. That means learning how to vet a manager. Not everyone can do that and not everyone feels comfortable turning over control. So it's not a fit for everyone. Also there is a management fee to pay for all of the above. So someone who is looking purely to maximize potential return (and has unlimited time) is unlikely to find this a good fit.
3) Turnkey operators are kind of in-between. However I would not consider them to be truly passive because they do not put any skin into the game like a good passive investment does (via a sizable coinvestment). This coinvestment is what mitigates the risk of the other party taking risks that could be a detriment to the investor. Turnkey operators don't work like that and they are more like a broker collecting a fee for their work (regardless of the long-term performance). So they are financially misaligned on long-term performance (and I think this is why there are so many people who have had bad turnkey experiences)
And, as someone who has done lots of rehabs directly myself, I have seen hundreds of ways that turnkey operator could take shortcuts (to the detriment of the investor but beneficial to their bottom line) which investor could never detect (or not until years later when it's too late). So personally I don't trust reviews from investors saying there turnkey operator is great (because really they have no way of knowing). And personally I cannot pull the trigger on a turnkey operator. However there are other investors who feel very differently and love turnkey operators.
4) Deal structure: as far as the returns you can expect, if you start to look around you will find that returns are all over the place and there really is no "industry-standard". They might range anywhere from 2 to 3% for very safe core strategy (stabilized asset in first class location) to multiple double digits for the more aggressive value add or ground up development strategy (with more execution risk but also more potential for a higher return).
Also, there is no such thing as an industry-standard for the lockup, as it can range anywhere from three year flip to 7-10 years to "indefinite" hold. So an investor can customize different portions of their portfolio based on what they are looking to do.
