Due Diligence on a Real Estate Syndication

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Real Estate syndication is an effective and efficient way to invest as a means for passive income. It enables people to connect and pool both their intellectual and financial resources in properties much more significant than they could ever afford or manage on their own and now modernized by technology; it’s convenient and less expensive with access from any desktop or office in America. Real Estate syndication, or stated merely crowdfunding for real estate property, has become an increasingly popular form of passive income in the last few years. Syndications allow multiple investors to come together furthermore combine their money/equity to invest in a shared property or projects much more significant than they could afford or manage on their own. Most syndications are leveraged with a commercial loan with hopes of sharing the profits based on money invested.

Modern technology has increased the popularity of real estate syndications by making it easier to connect with opportunities all over the country. With such opportunity available, here are few essential factors to consider when evaluating and making a choice for the most successful investment possible.

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  1. Voting Rights
    Most syndications are structured as an LLC (Limited Liability Company). The LLC’s contract should clearly state the responsibilities, voting rights, investment returns, and any issues with changing management of both the sponsor and investors.

  2. Investor Qualifications
    Most syndications are filed under one of two SEC Regulations and require you to be an accredited or a sophisticated investor. Exemption 506 (b) uses sophisticated investors, which only requires that the investor has a financial education. Also, the investor and sponsor must have an established relationship and must be part of the sponsor’s current client base.

    506 (c) requires accredited investors with verified net worth of $1M exclusive of home income requirements of $200K single or $300K married. A 3rd party service or CPA usually confirm net worth.

  3. Sponsor Track Record
    Syndications are passive income meaning that you will not have an active role and no liability in managing the property, so it is essential to choose a sponsor that has prior success and knowledge of the property type they want to invest. Vetting the sponsor is as crucial as choosing the deal itself. Due Diligence on the Sponsor Syndicator must be done. Do not rely solely on SEC accreditation. Consistency in the outcome in past projects is a good indicator of performance success of future projects. A good sponsor should not only produce the good points of the investment property but should also supply risk and income information.

  4. Preferred Returns
    Many returns are collected via the monthly rents from the tenants also known as Net Operating Income (NOI). The sponsor will structure the “claim of profits” as a preferred return to investors.

    A preferred return is a profit distribution preference whereby profits, either from operations, sale, or refinance, are distributed to one class of equity before another until a certain rate of return on the initial investment is reached. A preferred return represents an annual return on the principal amount invested (i.e. 8% on $50,000 = $4,000/year). This return must be paid out before any profit sharing is paid. Some deals will have a return on the actual net cash flow received. Most often, NOI is increased when property occupancy is at a maximum and expenses are at a minimum.

  5. Dividends
    These are payments made during the “hold period” of the deal usually paid out quarterly or monthly. Dividends are dispersed at the discretion of the sponsor and can be disrupted at any time by vacancies, unexpected expenses, or anything that may arise during the course of the holding period.

  6. Profit Split
    Before entering the syndication, both the sponsor and investors should discuss and come to a profit-sharing agreement. The profits are what is left over after all closing costs and fees are paid. The profit-sharing agreement states the percent of profit that is split among investors as well as divides any losses.

  7. Sponsor Fee
    Syndication sponsors will be compensated from one or more of the following.

    Upfront Fees: These fees are a onetime fee paid by the investors to the sponsor as compensation for money and time invested in finding and vetting the deal, performing due diligence, raising capital, securing the loan and organizing and finalizing the syndication.

    Asset Management Fee: During the holding of the property, this is the fee the sponsor collects as compensation for managing the property.

    Profit Splits: Splits are paid at the time of the sale of the property and will vary based on the value of the property when sold.

  8. Taxes
    Competent sponsors should be knowledgeable in the workings of how to reduce the amount of taxable income received from real estate deals and operations. At the end of the year, the property generates a rental income/loss. The sponsor will distribute a K-1 to each investor for their share of income/loss. A “K-1” must be filed with all partnership tax returns.

  9. Reporting Periods
    Sponsors should supply progress reports regularly, with most providing them on the same schedule as the dividends being paid. Some sponsors give very detailed accounting reports, and some only provide an overview of the cash flow for the property. The sponsor’s past property reports will be the best indicator of what will be reported on the property you will be investing.

  10. Exit Plan
    Syndications are passive investors meaning the sponsors decide how to plan and execute the sale of the property. Good sponsors have an exit plan in place and will have most likely submitted this to the investors when submitting the initial property investment specs. Most properties are held for-profit contingent on market conditions, however.

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, multifamily investing
, multifamily syndication investing, raising money for real estate syndication, commercial real estate multifamily investments

A real estate syndication is a fantastic option for getting involved in more prominent and more dynamic investment opportunities that one most likely could not afford alone. Many different online resources can assist a potential investor in finding the perfect real estate syndication by joining social media groups or local real estate syndication meet-up groups.

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