Understanding Real Estate Syndication
Humans are bestowed upon with immense abilities which come at the expense of obligation, or needs. It is common knowledge that food, clothing, and shelter are essential for our survival. As humans grow, we are exerting a burgeoning pressure on earth’s resources and creating a demand for our basic needs. Since the space on earth is limited, we are competing to acquire land for fulfilling our basic need of shelter.
It is conspicuous that the demand for housing will never cease and hence, real estate is an asset which will seldom show a depreciating trend. It has been a preferred choice for investors due to the numerous advantages that it offers. Investing in real estate is an easy alternative when compared to other modes of investment, where active involvement becomes part and parcel of the game.
With time, real currencies lose their purchasing power. This is the reason why financial advisors always insist on building assets. An asset comes in varied forms, which include gold, bonds and debentures, shares, mutual funds, fixed and recurring deposits and so on. The problem with these assets is the fact that they are not immune to market conditions. Any volatility in the market may even lead you to lose your entire investment.
Real Estate has generally proven to a classic case of investment as not only does it provide you with an asset but also gives you an alternative source of income.
Advantages of Investing in Real Estate
Investing in real estate can be advantageous in many aspects. Financial growth is one of the most significant benefits of investing in real estate. These assets undergo tremendous appreciation over time. Building assets help you manage your finances during the trying times of inflation. It is also evident as the cost of living increases, your income, and purchasing power should increase as well.
The average rise in real estate prices for new homes has been 5.4 % from 1968 to 2008. All the 5.4 may seem like a small number but a Mere 4% rise throughout 30 years means that the house that you bought for $125k escalates to $762k. This is a whopping 500% rise in the price of your assets. The average inflation during this period has been 2.3% in the United States. Even after adjusting for inflation, you get attractive returns.
Although this may seem less when compared to other assets, real estate offers the kind of financial stability that other assets cannot. The price of real estate is bound to rise and may hardly experience a period of lull. This offers capital protection along with a definite rise in the value of an asset. Real estate properties can be put up for rent; this offers a real source of income every month from your investment. If you consider your earnings from the rent plus the kind of returns that you receive, real estate offers unprecedented growth of your assets. Putting up your property on rent guarantees cash inflow which may come handy during a period of financial crisis.
One more advantage of investing in real estate is the kind of tax benefits that you get. Although the kind of tax benefits that you get depends upon the local laws of your region, any discount, no matter how small it is, culminates to a large amount as your initial capital is large.
When you buy real estate through syndication, you may choose to walk out of a deal after a certain period. Investing through syndication allows you to add a buyout clause which lets you offer your share at the current prices. Such investments are quite useful in case of emergencies where a large amount of money may be required.
Apart from all the financial benefits that you may get from investing in real estate, there are a lot of conveniences that may arise out of investing in real estate. Most investor shy from investing a sum of money as it requires regular monitoring and a thorough understanding of the market scenario. Other investments are also prone to instabilities that may arise out of political turmoil and changes in the allocation of the financial budget of a country. Real estate investment is perfect for a passive investor.
A passive investor is someone who sees investment in assets as a secondary source of income; such an investor may not have the time and resources to study the market conditions. If market conditions are not monitored accurately, an investor may lose his entire investment. Real estate offers a lucrative alternative for passive investors as it provides guaranteed returns at a rapid pace which not only provides an alternative source of fixed income every month but also helps increase the value of your assets over the long term without being too involved.
As investing in real estate requires you to deposit a hefty sum, people have been looking at syndications as a viable option for investing in real estate. Investing through syndications help you minimize risks, and add clauses based on mutual trust and benefits in your partnership agreement when you understand the nuances of real estate syndications and how it may help investors of all types. There are certain precautions as well that one may exercise while investing in real estate through syndications. Having a walkthrough into the world of investment through real estate syndications may help you create a firm opinion regarding the investment.
Investment Through Partnerships
It is obvious that the larger the sum of money that you invest larger is the return that you may receive. Not all investors possess the kind of financial strength that may be required to extract large returns on your investment. In such cases pooling together, resources may help in the creation of a synergic partnership where every partner receive payouts from tenants.
Real estate syndication can simply be stated as the coming together of different kinds of people with their financial and intellectual resources to form a partnership which can invest in large real estate properties. This helps the members of the syndication to invest in properties that may otherwise be out of their financial reach. It is also worth noting that more than 90% of large multi-family purchases are a result of investments through syndications.
The difference between conventional partnerships and syndications is that syndication is very well-structured and each person has a well-defined role. A person with meager financial resources can also be a part of such syndications if he possesses the right intellectual understanding for identification of the market, the expected appreciation and a fair idea of daily operations involved in managing the property.
A real estate syndication may be formed for investing in almost any class of real estate. However, there are three classes of real estate which may reap huge returns on your investments. They are large multi-family apartments, self-storage facilities and home parks which have been manufactured. Generally, these assets are often overlooked due to the high cost of entry and limited access to the knowledge regarding how to invest in these assets. Becoming part of syndication may grant you the necessary financial aids and appropriate knowledge regarding investment in these assets.
Syndication opens the floodgates for investment in real estate as it introduces you a team of people who have access to the latest happenings in the real estate market. Individuals are also unable to deal with the hassles of property management and the flow of a deal. Being part of a real estate syndication acts as a catalyst for imparting you the ability to invest in high-value properties without the hassles of being involved in daily operations of your property as well as the deal flow.
Structure of a Real Estate Syndication
A real estate syndication brings people with varied financial and intellectual abilities to form a coalition. The members of syndication include the sponsor who is also known as the syndicator, the general partner or the operator. The other important part of any syndication are the limited partners, generally the passive investors and the property management team which coordinates between the syndicator and passive investor.
Syndication also often involves are other lesser known team members involved which help in the actualization of a deal. They generally work at the backend for the smooth functioning of a deal. These include members like a commercial broker, an attorney or a team of attorneys, CPAs, and lenders.
Each member is assigned a specific role which needs to be fulfilled for imparting strength to syndication. Any deficiency in fulfillment of their roles may lead to the complete breakdown of syndication.
Initiation of any deal is generally carried out by the syndicator. They lay the founding stone upon which pillars of the agreement are erected. They are involved in activities for identifying the right market and underwriting the property. Syndicators work towards securing finances for the property and also oversee the daily operations mandatory for effective management of a property. Any syndication is strengthened when the syndicator can ensure strong relations between the investors which can help to manage the assets effectively.
Any syndication is, however, incomplete without funding. This is why passive investors form the critical element of syndication. Passive investors provide the finances necessary for closing a deal. In simple terms, passive investors invest their money towards buying the asset. The limited partner may be an individual, or a group of individuals forming a percentage-based partnership. When a group of individuals invests, the amount of profit that an individual receives is determined by their share in total investment. Further, the deal is devised in a manner which splits the profit into an agreed upon rate between the syndicator and the investors.
We have a fair idea about why real estate is one of the best financial assets to invest in and how a syndication functions and can help obtain maximum benefits from investments in a real estate asset. Now, we look at the main reasons why investing through syndication is one of the best options for a passive investor.
Why Should You Invest Through Real Estate Syndication?
A real estate syndication is one of the best mediums for wealth generation due to the following reasons:
Diversification of Investment Portfolio
An Investment portfolio is the representation of various asset classes that one invests in. In the financial markets, assets generally follow the trend of ‘high risk, high reward’ and ‘low risk, low reward.’ It is always advised that people invest a part of their wealth in high-risk assets as the earnings obtained by investing in such assets may exceed by earnings obtained by all your assets combined. This is the reason why one should have a mixture of high-risk, medium-risk and low-risk assets to obtain greater returns and protect your initial capital.
A real estate syndication may help you build a diverse portfolio only through passively investing in real estate. The value of real estate depends upon some factors like geography, niche, sponsor and the rate of development. Real estate syndication helps you diversify your portfolio by assisting you to invest in a variety of properties which can help obtain maximum gains with minimum risks.
Niche diversification allows you to invest in different asset classes. Sponsors generally specialize in one of the asset classes where they can offer you a competitive advantage. An example of this can be in the form of dividing your total investment amongst asset classes like apartments, parking units and, self-storage units. A dwindling economy or a sluggish rate of development in a particular area may slow down the sale of assets like commercial spaces but at the same time may boost the sale of small apartments, mobile homes, and self-storage units.
Syndications work in close association with local markets which cuts down your work of being updated with the latest trends which may elevate the value of real estate assets. If you’re investing individually in real estate lying outside your state, it becomes very inconvenient to stay abreast with the latest trends that are influencing the rates of an asset. A passive investor investing through syndication can achieve this diversification without having to be physically present in a particular geographical location.
A sponsor may not guarantee sound judgment of an asset through their entire lifetime. Sponsors are bound to make mistakes which may spoil the fruits of your investment. Syndications allow you to invest with a variety of sponsors which may help you gain insight into the market and impart you the desired knowledge to identify the right deals further during your investment.
Large Investment Opportunities
Real estate asset classes which may help extract maximum returns are generally priced exorbitantly. As an individual, it is almost impossible to invest in an asset within a price range of $5,000,000 to $500,000,000. Syndication allows you to invest in these type of assets and get a feel of the kind of returns that are obtainable from these high-end assets.
In syndication, a per person investment may be as low as $25000 with investors generally investing in the range of $50000-$10000. These investments may seem very small when compared to the actual price of the asset yet it offers entry to the world of high-end real estate asset classes without being actively involved after investing your money.
Freedom to Invest Passively
Not all investors possess the time and energy to keep track of their assets. Syndication frees you from the responsibility of managing your asset, daily operations and all the other perspective. The syndicator handles all the aspects associated with an asset like finding a profitable property, managing the daily operations at the property, generating financial reports regularly and also manages the investor relations. This grants you complete independence from your investment and still allows you to grab a share from the profits obtained from the assets.
The syndicator typically collects his payment depending upon the performance of the deal with a combination of the cash flow and appreciation. When one pays the sponsor fee, you are granted the freedom to remain passive as an investor. Post investment, you can earn your gains in the form of quarterly or monthly cash flow distributions and lump sum payouts at refinancing and disposition without having to worry about the real estate that you’ve invested in.
Investing through syndication offers you a great opportunity to save the taxes that may arise out of your investment. If a sponsor purchases a property and holds it for cash flow, there are certain factors which will help reduce the taxes. Some of these factors are depreciation, interest payment write-offs, expense write-offs and so on. Combining these benefits may lead you to pay zero taxes and sometimes may even result in negative taxation.
The only tax that you’re supposed to pay is the one that arises on the gains that you receive from the property when you sell it. However, syndications contain various exchanges which help you roll over your investment to the next deal. This pushes your tax liabilities even further, and you get a chance to compound your money without paying any taxes.
Apart from the organic growth that a real estate asset may attain through its lifetime, syndications can also induce a forced appreciation of an asset which may result in guaranteed returns on your investment. Multi-Family apartment syndication is valued by its Net Operating Income (NOI). Syndications possess expertise in increasing NOI through capital improvements and reducing operational inefficiencies.
Generally, one of the following ways are implemented to induce forced appreciation in a real estate asset, either you increase the income, decrease your expenses or use a method combining both. Using any of the following methods can help increase the net NOI.
Reduction in Risks
Investing in real estate assets through syndications can help mitigate the risks that are generally involved when investing in any financial assets. Any asset class goes through a cycle of ups and downs; some assets are even subjected to a complete shutdown. However, real estate is relatively immune to such scenarios. Apart from the fact the value and rate of growth of a real estate asset are quite stable, another potential reduction in risk stems from the fact that since syndications contain pooled resources from different investors, the investment risk gets dispersed among all the investors. This reduces the level of risks involved in investments to a highly comfortable level.
Investing through syndications also adds an extra layer of protection which shields you the liabilities arising out of the fund’s manager or the debt obligations. This occurs due to syndicators bearing the entire brunt of the investment documentation. The two layers to your investment come in the form of syndicator and passive investor with syndicator being the layer that absorbs all the legal damages during any debt obligations. As the investor is not involved in making any decisions concerning the management of the fund, he is not liable for any decision that influences the fund’s performance. This also removes the investors from any potential lawsuits that may surface out during the fund’s performance. The investor is simply treated as a source for capital inflow for investing in a real estate asset.
Scaling up is a term used to denote an increase in the number of assets under management by a particular investor. As the number of units under management increase, it becomes easier to lower the expenses incurred on these assets. Reduction in expenses boosts up the NOI.
Managing multiple properties also reduces the cost of operations significantly. Any property management related activity becomes easier when the property is spread over a condensed area. Also, maintenance activities become cheaper as the cost of renovations reduce by a great margin when we order in bulk. Any material which may be required for carrying out repairs and upgradations may attract discounts and other deals for ordering in bulk.
Higher Stability and Consistent Returns
Assets are measured in terms of their performance over a longer period. No asset class can deliver the same amount of consistency as real estate assets. An asset may seem attractive initially when it starts offering returns. However, they may fizzle out in the long term or offer reduced returns after a certain period.
The three most popular forms of investment are stocks, bonds, and real estate. Bonds and stocks are very volatile and constantly fluctuate in their value. Since the 1920s, real estate has seen the least number of downs. A down is a period when an asset class undergoes a great reduction in its value which may not be indicative of the true worth of an asset. Stocks and bonds have experienced down periods, three to four times more than real estate.
In the last 90 years itself, the S&P 500 has been through 28 down years, which means that it has one down year after a period of every 3.2 years on an average. Although a stock market may seem an interesting option, the market scenario can completely turn the fortunes of investors upside down.
When put into words and statistics, 3-4 times more stability in the value of real estate assets has resulted in more income, more equity, consistent rate of returns and a greater amount of wealth generation. It can be ascertained without a doubt that real estate indeed is the best option for long-term investments.
Helps Curb the Menace of Inflation
There is a reduction in the purchasing power of every currency due to inflation. A decline in the value of your investment is not desirable. This is the reason why people generally tend to invest in hard assets like gold and real estate.
The best part of a real estate asset is that the rental payments can be adjusted according to the inflation scenario. The constant demand for apartments and houses ensures that the prices are always on the upward trend. Any deterioration in wealth that may arise out of inflation does not affect the multifamily sector, as the rise in prices of real estate assets curbs and the rents payouts from tenants excessive hikes fueled by inflation.
The Assets That Always Perform
Once we know the advantages of investing through real estate syndication and the basic functioning of it, let us look at a few assets which syndications recommend highly.
● Self-Storage Units: As the economy reaches new heights, it is followed by a rise in the disposable income of people. This leads to people buying more stuff than they need. During periods of recession, people lose their homes to foreclosures or are forced to downsize their houses. A self-storage unit helps people store their stuff during these periods. It is often said that the demand for self-storage units has been inelastic. This helps the sector to flourish during any period. An interesting fact about storage units is that around one-third of storage space is filled with items which have been lying around in those units for more than three years.
● Manufactured Home Parks: It has been estimated that more than 10,000 baby boomers retire each day with little to no means of income. Additionally, home parks are not quite favored by the municipalities as they offer little tax revenue. Building new parks also come with various stigmas associated with them. It is costly to relocate manufactured homes, and the rent of these lots is quite affordable. Hence these home parks are highly preferred by tenants. Investing in such assets can help you generate a reliable stream of income. If tenants extend their period of stay, one can easily escalate the rate of lot rents and gain additional income.
● Multi-family Apartments
Owning a house is highly difficult for people due to the lack of affordability and the cost of mortgages. Houses can also chain you down to one place and restrict your freedom to work and travel in different parts of the country. As more people are now willing to relocate to different places for work without being burdened by the cost of living, multi-family apartments are in great demand. Investing in these assets also result in the formation of a steady source of income as these houses can fetch you a good amount of rental payment.
Why Should One Invest in Syndications?
Real Estate syndications are laced with numerous advantages that can greatly help a passive investor grow his assets without the fear of market volatilities. Investing in real estate through syndications can open up new avenues for you and help you multiply your assets rapidly. Syndications are safer, stable, consistent and offer great returns on your investment.
Investment through real estate syndication can begin at any stage of your financial growth. A beginner may benefit as syndications allow diversification of the investment portfolio, a higher inflow of cash and an alternative source of income without having to shell out a large sum of money. People already involved in the real estate sector can look to upgrade their investment by pooling together resources and investing in high-end properties.
It is quite evident that despite the numerous advantages that it offers, some of the investors might still be skeptical regarding the outcome of their investments. However, it has been statistically proven that real estate assets classes are more stable and undergo greater appreciation due to being under the influence of constant demand. It is rightly said that we do not regret the things we did, but the things that we could, but didn’t. It is high time that one takes a plunge in the vast sea of rewards that real estate syndications offer.