Investing Passively In a Commercial Real Estate Syndication
One of the biggest reasons people choose not to invest in real estate, particularly commercial real estate, is the overwhelming sense of all the work and direct involvement in analyzing an investment opportunity, building the right team and of course, managing the property.
If this is your idea of what being a commercial real estate investor is about then you are right, to some extent. There are other ways to become an owner of large multifamily properties, and that is to become a passive investor (aka Limited Partner) in a real estate syndication. This is a very different approach which allows you to remain hands-off from the day to day operation of the property. In other words, you will rely on other professionals to do the work, and you can enjoy the income.
To become a passive investor, there are a few key factors to keep in mind. Of course, as with any type of investment, understanding your tolerance for risk should be a top priority. Usually, this is a factor of your age, income, and savings based where you are in life and where you need to be in 5, 10, 20 or more years. The more comfortable you are with risk, the more opportunities you will have for unique investment opportunities in real estate.
Understanding the Basics of Real Estate Syndications
A simple way to explain a Real estate Syndication is to see it as a bus ride. Everyone riding the bus is going to the same place but some are passengers enjoying the ride in the back and the others are driving the bus (also enjoying the ride). The bus drivers are the sponsors of the syndication and the passengers are the passive investors.
A sponsor or a syndicator, along with a group of investors, pools resources – both intellectual and financial – together to buy properties that are much more expensive than they could afford on their own. More than 90% of purchases involving large multifamily properties are performed through syndication.
When a syndicated deal is carried out, the following people are involved:
- Sponsor (also known as the operator, syndicator, or the general partner)
- The limited partners (also referred to as the passive investors)
- Property management team (third party or part of the sponsor’s team)
In almost every case, other people are a part of the team as well, and they help close the deal behind closed doors. Some of these individuals include but are not limited to:
- Real estate and Securities Attorneys
- Lenders and or Mortgage Brokers
- Certified public accountants (CPAs)
- Commercial brokers
Out of all the people involved in the transaction, the syndicator or the sponsor is considered the most important, perhaps because he is responsible for several tasks, including:
- Initiating the syndication
- Identifying the market
- Securing financing
- Identifying the investment opportunity
- Underwriting the deal
- Leading the renovations and the business plan
- Ensuring a healthy relationship with the investors
- Performing the management of the real estate asset
As for the passive investor or the limited partner, he can be an individual or a group of people that will provide the private equity funds for the deal. The investors’ role in real estate syndication is quite simple since they invest their money in the project that the syndicator runs and manages. Then, they earn a percentage of the profits based on a prearranged structure.
Qualified investors can reap the benefits of investing in this type of real estate projects. Here are some of the reasons why syndication can be a great way to be a profitable investor:
- Diversification: Through diversification, investors can mitigate their exposure to risks because they can spread their investment across different properties and even different sponsors. This way, they balance the reward and the uncertainty in their investment portfolio.
- Opportunities: Through syndication, investors can gain access to substantial investment opportunities, particularly in commercial properties. With the purchase price ranging from $5 million to $500 million, syndications provide the ability to pool funds with other investors. There is no need to give a seven-figure investment.
- Involvement: Perhaps the most significant benefit of syndication is the ability to become a passive investor. With such investment, the investor is removed from the asset completely. He also does not have connections with the operational perspective and the management of the property. It is because the sponsor or the syndicator will manage all the aspects of the deal, including hiring a property manager, handling relations with the investors, and locating a profitable property. In exchange for some fees, a person can sit back, relax, and get his payments quarterly or monthly.
- Forced Appreciation: Commercial real estate is a business valued by its Net Operating Income or NOI. With operational and physical improvements, the property’s value can be increased by increasing the NOI.
- Reduced Risk: Since syndication means investing with experienced real estate operators who have a proven track record, the risk is significantly reduced vs trying to tackle commercial real estate as a single investor. Through syndication with a sponsor, there is another layer of protection between the investor and any liability that may result from debt obligations or the management of the funds.
Real estate syndication can help create long-term wealth as the investor receives a passive stream of income along the way. And while this method is not fit for everyone, it certainly opens up the opportunity for many people out there looking to jump into real estate investing by joining forces with other investors and experienced real estate professionals that can lead the way.