If you're a passive investor, can you answer the "How" ?

Question

You are beginning to hear more stories about paused redemptions & distributions, new offerings with reduced rates of returns & capital calls. Not what LP's want to hear. This post is lengthy but hope anyone interested in passive investments take the time to read this and truly understand what I write. Let's start with the pitch. That's the story that gets an investor interested. The “why” leads the discussion, and capital raisers choose that “why” carefully. It's a calculated marketing decision.

• -There’s a shortage of affordable housing, so we’re buying or developing it.
• -Homeownership is out of reach for many families, so we’re building rental communities for households earning less than XYZ a year.
• -Office buildings are becoming obsolete, so we’re converting them into apartments.

-There’s a shortage of affordable housing, so we’re buying or developing it.

-Homeownership is out of reach for many families, so we’re building rental communities for households earning less than XYZ a year.

-Office buildings are becoming obsolete, so we’re converting them into apartments.

These are a few common examples and stories that are easy to understand because they reflect what people see in the news. But investment analysis has to move from why to how: How will the business generate enough cash to operate, return investor capital, and produce the projected profit?

Specific to the examples I shared above: How will affordable housing cover rising operating expenses and major repairs? Can new rental homes be built at a cost that households earning $70,000 can afford? Does making the numbers work require cheap land in a location with weaker fundamentals and questionable demand? And if jobs have left an office district, who will live in the apartments created from its vacant buildings?

Sometimes the story has little to do with the real estate. A capital raiser may focus on investor frustrations and instead lead with: “simple taxes,” “no K-1s,” a fixed return, or a fixed investment term. Those claims alone should not be disqualifiers, but they do not excuse the same question: How will the underlying assets generate the cash needed to deliver what’s being promised?

Diligence is important & professional advice remains essential. An attorney can explain the offering documents, confirm SEC compliance, explain investor rights, the mechanics behind distribution provisions and capital calls. A financial advisor can assess how the investment fits your portfolio. A tax professional can explain the tax consequences. But those reviews do not, by themselves, tell you whether the business strategy holds up in today’s market.

That takes the knowledge that can only be obtained by being active in today's market. No, investing in the past is not adequate. Those who are active and understand the realities of owning real estate today are far better suited to vet passive investment opportunities because they can lean on their current experience to vet the "how". If you aren't active today, follow investors and operators who discuss the deals that no longer pencil out and the changes they are making. Attend local real estate investor meetings and ask active buyers, developers, lenders, and property managers what has changed in their businesses. If a sponsor’s assumptions and strategy sound exactly as they did several years ago, ask why.

A compelling story can explain why an opportunity might exist but diligence has to establish how this particular investment can succeed in 2026. We are going to continue to see LP's disappointed if they don't learn to analyze the "How" before making investments.

Kasing Ng · Answer

Hi Stuart, I am answering from the tax professional seat you named, not as the passive investor the title asks about. You listed simple taxes and no K-1s as part of the pitch, and that part is worth pulling on.

The tax benefit gets sold as a why just as often as the real estate does. Big first year depreciation, cost seg, bonus. It deserves the same how. Two questions decide whether that benefit is real for a given investor. Whether they can actually use the losses this year, or whether the passive rules suspend them until there is passive income or a sale. And whether the after tax return still holds once recapture takes part of that deduction back at the exit. A deal that leans on the tax line to clear the hurdle is a story wearing a number, and it fails the how test the same way a weak operating assumption does.

None of this replaces vetting the business itself. The tax pitch just has to clear the same how as everything else in the deal.

Stuart Udis · Answer

@Henry Clark Agree with your assessment. I get multiple emails a week from LP's with paused distributions asking if I will write a "demand letter" to the GP. First off, its not a service I provide but ordinarily offer to review their PPM/OA to point out precisely why their GP is able to pause distributions and at least 80% refuse to turn over the documents. I offer this because it takes me mere minutes to identify the language and want to help educate them moving forward. With the access to AI, there's truthfully no reason for any LP to not understand these measures. Now Syndicators are pivoting their offerings to focus on safety such as "bond" offerings because they want the LP's to remain as passive as possible and not look into the underlying real estate but in all honesty very few actually care to burden themselves with underlying the real estate let alone who is overseeing the strategy.

Mark Robertson · Answer

Stuart, I'd add a timing question to the "how": can the deal stay funded long enough to execute the plan?

I'd ask the sponsor for a monthly cash forecast through stabilization and the next debt maturity, with a downside case that combines slower leasing, higher expenses and a delayed refinance. Then ask: "In that case, what month do we run short of cash, and what happens next?"

The useful follow-ups are pretty specific:

• How much cash is actually available after committed renovation spending and lender-required reserves?
• If refinancing brings in less than the loan payoff, where does the difference come from?
• Does a loan extension require a paydown, a fee or another condition the deal might struggle to meet?
• If more equity is needed, is it already committed or does the plan depend on a future capital call? What happens to an LP who cannot participate?

How much cash is actually available after committed renovation spending and lender-required reserves?

If refinancing brings in less than the loan payoff, where does the difference come from?

Does a loan extension require a paydown, a fee or another condition the deal might struggle to meet?

If more equity is needed, is it already committed or does the plan depend on a future capital call? What happens to an LP who cannot participate?

I'd also ask the sponsor to reconcile projected distributions to cash left after operating expenses, debt payments, capital work and reserves, and identify any portion funded by borrowing or investor capital.

Henry's point about matching financing to the exit is key. "We can hold longer" needs a funding plan for that longer hold. An attractive eventual sale price doesn't answer how the deal gets through the months before it.

For LPs here, has a sponsor shared that monthly downside cash forecast, or mostly an annual return projection?

Henry Clark · Answer

OP I would break the “How” discussion down further operationally.

HOW will these be achieved? Point A to B:

Occupancy level now versus objective

Rent rate increases

Market capacity

Inventory coming on board during the build out period.

Capex

Capex management or execution experience

Does financing period match Exit strategy period

Capital Debt stack now and under stress

Layered Exit strategy

Again Syndication investing or other is not Passive. You are acting as an Investment Banker. A person should be able to analyze at least 10 deals and explain why they chose operationally (risk management) how they ranked them.

Don Konipol · Answer

I have the advantage (disadvantage?) of being older than most posters on BP by a WIDE margin. That only means I’ve experienced a greater number of economic “situations” and no, I don’t consider the current 6-7% mortgage rate to be “sky high”. My first mortgage was a 6% assumption (actually sub to). My second was a new mortgage at 13 7/8% and that was a “buydown” from the prevailing 16%+ quoted. 1981. I built a lot of “net worth” dealing between those two interest rate extremes.

So, while I agree with Stuart’s analysis IN GENERAL, my personal believe is that we’ve become so “sophisticated” in real estate development; we have so much capital chasing a relatively small number of “top draw” opportunities and hence settling for the mediocre; economic variables now change in months rather than years; and it seems everyone who ever bought a couple of properties is now qualified to sponsor a Reg D offering. All of this combined results in the fact that an individual would need CFA like knowledge to be able to adequately analyze the chances of success for many of these offerings, especially the ones highly leveraged.

Here’s what we did in our investment fund. We hired an experienced real estate / financial analyst with CFA training and put him on a partnership track. And although I hold an MBA in finance, a Masters in Real Estate, am a licensed broker in three states, he produced analysis on possible transactions that I personally didn’t have the experience or knowledge to analyze, and hence would have passed on the deal.

Bottom line is that the economics of real estate investment have become so complex and interdependent with various world and national economic forces (did anyone anticipate real estate prices dramatically INCREASING immediately post COVID?) that it’s all anyone can do to keep up with the changes in their own investment niche, let alone the full spectrum of real estate. (Recognizing that the real estate industry covers a wider variety of different “products” than any other industry I can think of).

So, for investors large enough to absorb the cost, I would recommend engaging a TRUE real estate consultant and adding him/her/they to your list of professional providers (attorney, broker, mortgage broker, accountant). On various projects we employed consultants holding the Counselor of Real Estate designation with good success. For my investing in publicly traded REITs I am advised by a CFA holder specializing in REIT investments and aligned with my personal approach.

Among my investing activities I run a real estate investment fund, and a company that syndicates thru Reg D high yield commercial mortgage note investments. And my advice to investors is if you aren’t capable of fully understanding ALL aspects of the passive investment you’re contemplating, and or you won’t or can’t engage a professional, experienced, knowledgable advisor, then DON’T invest in the syndication. It will save you worry, aggravation, sleepless nights, anger, and probably a lot of money.

Chris Seveney · Answer

@Kasing Ng far too often I see people invest in a deal because of tax benefits without actually understanding the economics of the actual deal. Then when they take early-year depreciation, the property goes to foreclosure, and they get wiped out from their own investment. Not only did they lose their initial investment but they also have to pay back Uncle Sam for some of that depreciation they took

Henry Clark · Answer

OP. There is no answer, added knowledge means nothing, even additional training means nothing, etc for the LP. "Passive".

The LP is a person walking up to a $25 all U Can Eat Buffett. They don't want to cook. They don't like Cooking. They don't know what something is they take a few. If they don't like it, they set it off to the side and get a new plate. Costs the same, since in the $25. No harm No foul "To Them". "Passive".

The majority of LPs will never learn, nor will they ever do the "Non-Passive" education or Due Diligence. They paid their $25 and want the experience they expect. Problem is on the Buffet you can waste food and change the meal. As an LP your stuck with an illiquid asset, no one to complain to (GPs don't have to answer) and instead of $25 it is $50,000.

There is no "Passive". An unlike the Buffet where you can waste food, the $50,000 is on the LP.

Divin Kanyama · Answer

Great perspective, @Stuart Udis. A compelling “why” may get an investor’s attention, but the “how” is what ultimately determines whether the investment can perform. A strong narrative around affordable housing, build-to-rent communities, office conversions, fixed returns, or simplified tax reporting may explain why an opportunity sounds attractive. It does not explain how the property will consistently generate enough cash to cover operating costs, debt service, reserves, investor distributions, and the eventual return of capital.

As a CPA and real estate investor, I believe LPs need to look beyond projected returns and tax benefits and understand the assumptions supporting the deal. That includes current and achievable rents, realistic vacancy and collection rates, insurance and property-tax increases, payroll and maintenance costs, debt terms, reserve levels, and the timing and cost of the exit. Investors should also understand what happens if rents grow more slowly than projected, refinancing is unavailable, renovations cost more than expected, or the property takes longer to stabilize. A deal should not work only under the sponsor’s best-case assumptions.

The sponsor’s experience and alignment also matter. LPs should understand how the sponsor handled previous challenges, how fees are structured, when a capital call may be made, whether distributions can be paused, and how much flexibility exists if the original business plan no longer works. Attorneys, financial advisers, and tax professionals each provide essential guidance, but their reviews serve different purposes. Legal compliance and favorable tax treatment do not make weak real estate economics strong. Ultimately, investors still need to determine whether the business plan reflects today’s financing costs, operating realities, and local demand. Paused distributions, capital calls, and revised return expectations are important reminders that a persuasive story is not a substitute for disciplined underwriting, realistic downside analysis, and current market-based due diligence.

If you're a passive investor, can you answer the "How" ?

If you're a passive investor, can you answer the "How" ?

Most Popular Reply

8 Replies