Real estate syndication has become an increasingly popular way for investors to get involved in larger real estate deals. By pooling capital from multiple investors, syndications allow people to invest in commercial properties and apartment complexes they may not otherwise have access.
However, there are some important things investors should understand before jumping into a real estate syndication. Doing proper due diligence upfront can help set realistic expectations and lead to a more informed investment decision.
1. The Sponsor’s Background And Track Record
One of the first things potential investors will want to research is the background and track record of the sponsor leading the syndication. The sponsor is the person who originates the deal, raises capital and manages the investment on behalf of the passive investors. You’ll want to understand the sponsor’s experience in real estate, specifically with the type of project they are syndicating. Request examples of previous projects they’ve syndicated and how those investments performed. Look for a sponsor with a proven ability to successfully execute deals and achieve projected returns.
2. The Deal Fundamentals
Beyond the sponsor, you need to carefully evaluate the specifics of the deal itself. Be sure you understand the business plan, including the projected income and expenses over the hold period. Closely analyze the assumptions baked into the projections—overly optimistic assumptions can inflate the numbers and mask risk. Also, review the exit strategy and anticipated timeline.
Many syndications aim to sell or refinance after several years. Finally, understand how the sponsor makes money from the deal. Most charge fees like acquisition fees and property management fees, which should be reasonable.
3. Understanding The Risks Involved
Real estate syndication provides diversification, professional management, and access to larger properties most investors couldn’t purchase outright. However, you are still investing in an illiquid asset class subject to market fluctuations. Leverage is frequently used, creating risk if occupancy decreases or expenses increase.
Thorough due diligence around anticipated costs and realistic exit timing is key to mitigating risk. Also, study macro trends impacting the local commercial and multifamily markets the deal targets. Understanding fundamentals like job growth and housing supply/demand is important.
4. Expectations Around Time Frame And Cash Flow
The timeframe for real estate syndication deals is generally 5-7 years from start to finish. You commit capital upfront but don’t expect to see returns right away. Most syndications aim to drive returns through appreciation over the long-term hold period rather than immediate cash flow, which is limited. Be prepared to wait years before realizing profits. Also, establish realistic expectations around monthly or quarterly distributions. Many syndications project just enough cash flow to cover taxes, not substantive distributions. View any dividend payments as a bonus, not guaranteed income.
5. Securities Regulations
Most real estate syndications involve securities regulations since they raise money from passive investors. The sponsor handles compliance, but investors should still understand their rights around disclosure documents, periodic reporting, and disbursements.
The most common exemptions sponsors use are 506(b) and 506(c) under Regulation D. 506(b) allows limited advertising while 506(c) permits general solicitation. Either way, verify the sponsor files a Form D with the SEC and is upfront about risks in offering documents. Thorough documentation demonstrates good faith compliance efforts.
6. The Cost Of Entry
Given the long-term, illiquid nature of syndications, minimum investments are usually $25,000-$50,000. The high minimums mean syndications are better suited to accredited investors with substantial assets available to tie up for years.
Some sponsors may allow investors to purchase fractional shares for less capital but may limit voting rights. If you have limited funds, getting exposure through a real estate investment trust (REIT) may be a better option than syndication. Weigh the capital you must commit versus other uses those funds could be deployed for over 5+ years.
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