What is real estate syndication?
Real estate syndication is nothing else but the pooling of capital by a group of investors to acquire a large property. It is a partnership between several investors with a combination of not just each other’s capital but also their resources and skills. Real estate syndication is similar to the crowdfunding of real estate. It is an old real estate investment technique that is being revived by today’s technology.
A syndicate, in general, comprises two entities- a Syndicator or Sponsor or a General Partner and the Investors or Limited Partners.
A Syndicator’s major roles in this whole operation are to find a real estate niche, underwrite properties, perform due diligence on the property, come up with a business plan, find investors to fund the purchase, and manage the property operations.
Most syndications being an LLCs or Limited partnerships with the sponsor taking up the role of the manager and investor as a limited partner. The investor simply provides funds and in return gets a percentage of profits as per the terms and conditions and rates agreed upon.
Recently real estate syndication deals have grown immensely in both inefficiency and credibility. As real estate syndicates allow even small investors to invest in bigger projects it helps them diversify their portfolios.
Types of real estate syndication
Commonly a real estate syndication can be of two types:
1. 506(B)
Often referred to as the “friends and family” offering, 506(B) allows sponsors to raise funds from an unlimited number of accredited investors and up to 35 non-accredited investors.
Here, sponsors can take capital from both accredited and non – accredited investors provided they have an existing relationship with them. Under 506(B) sponsors are not allowed to advertise to the public and must source the investors from his/her inner circle.
2. 506(C)
The 506(C) is for accredited investors only.
Accredited investors are investors whose annual income is more than $200000 for the last 2 years or who have a net worth of over $1 million.
The advantage of running a 506(C) is sponsors can advertise publicly, and look up investors using crowdfunding platforms.
Read Lilypads’ article on Real estate syndication here.
The pros and cons of Real Estate Syndication
1. Large investment opportunities
Investing in commercial real estate is considered one of the best opportunities in the real estate market. However, investing in such an asset class requires a higher capital requirement.
One of the main advantages of real estate syndicates is that as a rookie investor, you get the chance to work with property syndicators.
Also, you can pool your funds with accredited investors and grab some of the most profitable deals in the market.
A renowned commercial property syndicate has good sources in the commercial real estate world. They are the first ones to know when a lucrative property is about to drop in the market.
Moreover, they can also have access to some off-market properties that are not listed for sale. So, one of the main advantages of a property syndicate is access to such lucrative syndication deals.
2. Diversification of portfolio with real estate syndication
Investing with the help of an established syndicate gives you the chance to pour in as low as $10,000 in a seven-figure investment.
Therefore, it gives you the option to diversify the risk of your capital.
Instead of pouring all your funds into one property, your pool in with other investors in a fund group. By doing so instead of owning 100% of a single property you now own a part of the fund which owns multiple properties.
Thereby, you can diversify your investment and limit yourself to various exposures like maintenance, vacancy, management, etc.
3. Real estate syndication offers passive Investment opportunities
As you have already seen earlier a General Partner oversees most of the work. From managing properties to hunting investors and executing business plans and closing deals.
A General partner handles the sweat equity in real estate syndication and delivers preferred returns to passive investors.
Passive investors might want to invest in commercial real estate but most of the time lack the knowledge and experience.
Therefore, passive investor can simply put their capital in the fund with a sponsor while they sit back and enjoy the cash flow, value appreciation, etc.
4. Tax-sheltered
By acquiring a piece of real estate, tax benefits are passed down to investors connected with that property through K-1 filings.
Real estate investors show far less income than what they earn in a year because of depreciation. As commercial properties undergo wear and tear over time.
The IRS allows investors to write off that piece against the income earned from the cash flow.
5. Safeguard against inflation
Over time with inflation, everything loses its nominal value be it money, shares, or bonds.
The only asset class that doesn’t devalue with inflation but rather increases its valuation with time is real estate.
According to the National Association of realtors, real estate appreciates at a rate of 6% per annum.
6. High returns and low risk
As discussed, investing in real estate syndication diversifies your portfolio and lowers your risk.
This is because you invest in multiple projects across a wide variety of asset classes with no correlation between them.
If any one of them fails to perform, it won’t affect your returns largely as it is backed by other assets. Also, the risk gets divided among all the investors as it is a group venture.
7. Forced Appreciation
With time the valuation of a property increases, so property managers can increase the rent and reduce expenses.
As a result, the ROI (Return on Investment) increases.
Cons of real estate syndication
1. Illiquidity
Your investment is frozen in real estate syndication. That means your money is tied for the long term, generally 5 to 10 years.
2. Cannot control the term period
As there are a group of investors involved. You cannot determine the term period for the investment.
3. Selecting bad sponsors
It is very important for passive investors to perform some due diligence before choosing a sponsor. As most of the work is done by sponsors you should choose the right ones. Your return on investment is as good as your sponsors.
The Lilypads Bottomline
If you want to invest for the long term and looking for passive income, strong cash flow, and tax benefits then real estate syndication is the right investment option for you. Provided you do some research in choosing the right sponsor.