“Real estate syndication is a partnership with several investors who pool their capital and skills to purchase and manage property.” Bradon Howliet, Branstar Capital
The concept of real estate syndication is well known, yet most aspects are misunderstood to some degree.
Take, for instance, the idea that going into real estate syndication requires enormous expertise, which isn’t correct. A wrong notion of this subject can deter you from making valuable investment decisions.
Thankfully, we’re here to guide you through the concept of real estate syndication.
Table of Contents
Key Takeaway
- Real estate syndication deal is a partnership between several parties to purchase and manage investment property
- A syndication’s structure can either be equity-based, debt-based, or hybrid
- An SPV is usually used to pool capital from individual investors
- An Individual investor is often assessed to ensure they meet the income criteria
Basic Terminology
We’ve provided a list of some of the widely used terms on the subject.
| Term | Meaning |
| Syndicator/Sponsor | An individual or company responsible for organizing the syndication |
| Investor/Passive Investor | Individuals or entities that contribute capital to the syndication |
| General Partner (GP) | The partner responsible for managing the investment |
| Limited Partner (LP) | Investors in the syndication with limited liability |
| Operating Agreement | A legal document outlining the rules and regulations of the syndication |
| Special Purpose Vehicle (SPV) | A legal entity used to pool capital from individual investors |
| Private Placement Memorandum (PPM) | A comprehensive document provided to potential investors detailing the investment opportunity, risks, terms, and legal disclaimers |
| Capital Call | A request made by the syndicator for additional funds from Investors to cover unexpected expenses or additional investments |
| Distribution Waterfall | The structure outlining how profits are distributed among investors and sponsors |
| Cash Flow | The net amount of money generated by the property after all expenses, including debt service, are paid |
| Exit Strategy | The plan for selling or refinancing the property to realize profits for the investors |
How Does Real Estate Syndication Work?
Syndication isn’t a modern concept. To fully understand how it works, we can trace its roots back to ancient civilizations.
For instance, entrepreneurs in the Mesopotamian city of Ur often collected small investments from citizens to supplement their debt capital and help fund projects like palatial construction.
Excavations of tablets from that time confirm that profits from these ventures were based on ratios. GL/LP relationships also existed, where higher risk-taking individuals had a greater share and investors enjoyed liability protection.
Similarly, modern-day real estate syndication is based on this model.
A syndicator first identifies a project they intend to raise capital for. They then move to build their capital stack. When they identify a need for additional equity, an SPV is created for passive investments.
At this stage, individual investors can purchase stakes in the syndication entity without the burden of liability.
Members of a Real Estate Syndication
A syndication can be comprised of these five categories of members:
- Syndicators are the brains of the entire operation. These individuals or entities are experienced in strategizing real estate investments.
- Limited Partner investors are entitled to a smaller percentage of the cash return but are also less liable.
- Managing entities helps manage relationships between party members. They can also offer on-demand access to guidance, asset managers, and investment opportunities.
- Passive investors provide capital based on their risk appetite. They also work with GPs and LPs to monitor their investments.
- Joint venture partners perform specific roles within the partnership to which they carry the liability.
Types of Real Estate Syndication
1. Equity Syndication
In this type of syndication, investors pool their capital to acquire ownership of a property. This means they become part-owners of the property and share in the profits or losses generated.
In an equity syndication, the profits are divided equally among all investors. This is known as a ‘Straight-split’ structure.
2. Debt Syndication
Here, investors provide loans for property owners or developers. Investors lend money to a real estate project in exchange for interest payments. Usually, this structure involves no liability on the investor’s part but provides less returns.
The structure here is known as ‘Preferred return’ as investors receive a predetermined return before profits are shared with other investors.
3. Hybrid Syndication
Investors can choose to provide equity and debt capital to a real estate project. This type of syndication requires a more complex structure, ‘Waterfall structure,’ with different tiers of returns for various investor classes.
What Benefits Does it Offer?
Regardless of your role in the syndication, you’ll enjoy these benefits.
For Investors
- Lower Entry Barrier: Entering syndication requires low investment amounts compared to purchasing a property.
- High Return Potential: Depending on your syndication structure, there are chances that you enjoy good returns through property appreciation, rental income, and tax benefits. All of these come with minimal risk.
- Portfolio Diversification: Investors can diversify their real estate portfolio by investing in multiple properties through different syndications and reducing risk.
- Tax Advantages: Most real estate investments offer tax benefits like tax-deferred exchanges and depreciation deductions.
- Expertise: To sponsor a syndication, the party would need a level of experience and expertise in the real estate market. Investing in a good syndication can ensure your funds are in trusted hands.
For Sponsors
- Risk Sharing: Structures like equity syndication ensure that sponsors can distribute the risk associated with real estate investments with multiple investors.
- Scalability: Syndications allow sponsors to grow their real estate assets and expand their business operations.
- Access to Capital: As a sponsor, you can raise significant capital for large-scale real estate projects that would be difficult to finance alone.
- Expertise leverage: There’s a higher chance of completing a successful project by combining your expertise with investors’ funds
Are There Any Disadvantages?
- Management Challenges: A syndication structure might be good, but can get ruined through poor management. Investors must assess sponsors properly through verifiable track records.
- Loss of Principal: Real estate investing is risky. There is a chance that one can lose their entire investment.
- Regulatory Risk: Laws regarding real estate matters constantly change, which can pose an issue for the parties involved and affect the profitability of the investment.
- Unstable Market: This is often a major issue with real estate investments, considering the volatility of the market. An economic downturn, for instance, can impact property values and rental income.
- Liquidity Risks: Like every real estate investment, syndications are illiquid. Converting investments to cash often takes multiple processes and a lot of time.
Real Estate Syndication: Where to Begin
There are two options here: you can start a syndication either as a sponsor or an investor.
Becoming an Investor
The trick with investing is doing proper due diligence, as you don’t want to end up investing in a poorly managed syndication. These steps would guide you in choosing a reputable syndication sponsor.
Step One: Learn the Basics
Start by familiarizing yourself with the key terms like GP/LP. This will help ensure your process is smooth. Also, understand the different syndication structures and the associated risks.
Usually, you’ll be evaluated before investing to ensure you meet specific income or net worth criteria. Ensure your statements are intact.
Step Two: Find Reputable Sponsors
One of the best ways to find experienced sponsors is through other investors or real estate professionals. You want to network with these people and learn about where they’ve put their money in the past, as well as the outcome.
Once you’ve got some options, proceed to research. Check if these sponsors have a good track record, reputation, and experience. Also, try to learn about their investment strategy and see if it aligns with your goals.
Step Three: Assess Investment Opportunity
Evaluate the real estate syndication deals to ensure you choose the right ones based on your goals. One way to do this is by going through the investment thesis. This can show you the sponsor’s strategy and the details of the specific property or project.
Another vital aspect you should consider is the financials. Review the projected returns, cash flow, and exit strategy.
Step Four: Invest
Once you’ve completed every assessment and are ready to go, contact your sponsor to sign the necessary paperwork. Then, regularly check the project’s progress and financial performance to confirm everything is intact.
Becoming a Sponsor
Unlike a regular investor, sponsors require a combination of skills in leadership and real estate. The steps below will guide you.
Step One: Develop an Ideal Investment Thesis
To develop an investment thesis, start by identifying your niche – the type of property you’ll focus on. You can choose from the multifamily, industrial, or commercial real estate category.
Another key aspect to consider here is your strategy. Do you intend to use a value-added, core, or core-plus approach? You can also determine this based on what suits your investment goals.
Step Two: Build Your Team
Real estate syndications comprise several key members, including a legal counsel, financial advisor, property manager, and investor relationship manager, to name a few.
You can either hire these experts in-house or outsource them, depending on your financial strength and other concerns.
Step Three: Create a Legal Structure
Setting up legal structures is as important as completing your projects. The first step is to determine what legal entity would be best for your real estate syndication investment.
You can choose to limit investors by equity or debt. If you’re confused about the best step to take, contact a financial advisor.
After that, draft your legal documents, which would include operating, partnership, and investor subscription agreements.
Step Four: Security Capital
When looking to gather capital, especially for your first syndication, the best place to start is within your contacts. These people likely already trust you based on your relationship and can entrust their money in your hands without much question asked.
If you’re successful with this, you can seek funds from those outside your current network. You’ll often find willing investors at real estate events, such as a project launch.
Before proceeding to discuss with an investor, ensure that you
- Already have some amount of equity invested
- Adhere to securities laws and regulations
- Make your presentation compelling enough to attract investors
- Have a well-thought-out implementation process and exit strategy
Learn More From Expert Physicians
Depending on what side of the table you are sitting on, you may not need much expertise or funds to enjoy the benefits of real estate syndication.
However, you should equip yourself with valuable information to avoid pitfalls. If you ever need help with navigating your finances as a medical professional, you can contact us at Physicians Thrive.
