What is a Real Estate Syndication? Part 2
We’ve covered the basics of real estate syndication in Part 1.
In this blog, we will take a deeper dive in to real estate syndication which will give you the overall view of syndication investments and lay the foundations to realizing your financial freedom.
Real Estate Syndications Part 2
Who can invest in real estate syndications?
Can I invest in a real estate syndication with retirement funds?
What are the risks of investing in real estate syndications?
What about taxes?
What’s the process for investing in a real estate syndication?
What happens after I invest in a real estate syndication?
What is Honey Pot Investments’s role in all this?
Who can invest in real estate syndications?
A large majority of real estate syndications are open to accredited investors only, though some are also open to non-accredited, sophisticated investors (i.e., investors who can demonstrate that they understand real estate syndications and their risks).
In order to be considered an accredited investor, there are some criteria, but here are the two most common ways.
You must have at least $1 million in net worth, not counting your primary home.
You must make $200,000 per year as an individual, or $300,000 jointly with your spouse, have made this amount or more for each of the last two years, and intend to make this amount or more this year.
If you meet either one or both of these requirements, then you are an accredited investor.
If you’re not yet an accredited investor, there are still some real estate syndication opportunities out there for you. However, you may need to look a little harder for them. This is because the opportunities for non-accredited investors cannot be publicly advertised, and also in each syndication deals, the sponsors can only give limited numbers of "spots" to non-accredited investors.
What are the fees involved in Syndications?
There are two main types of fees that are paid to the general partners when you invest in a real estate syndication.
The first is an acquisition fee (typically 1-3% of the purchase price), which is paid out upon the deal closing. This is for all the work the general partners have put into the acquisition of the property.
The second type of fee is an asset management fee, which is an ongoing fee (usually 1-3%) that is deducted from the cash flow each month, for the ongoing work of managing the asset.
As a passive investor, you don’t have to write a separate check for either of these fees. These fees are already part of the underwriting. So if a deal deck says projects an 8% annual return, that’s already accounting for the fees involved. You just write your $50,000 check, and that’s it.
Can I invest in a real estate syndication with retirement funds?
Yes! In fact, this is one way that many passive investors get started with real estate syndications.
To invest in a real estate syndication with retirement funds, you need to first roll over your existing retirement funds (401k’s, IRAs, etc.) into a self-directed IRA or solo 401K account. More on this in a separate blog.
This process may take weeks so be sure to factor in appropriate time if you are thinking about investing in a near future syndication deal.
Once your money is in the self-directed IRA/solo 401K account, you can choose what you want to invest it in. Any returns you make on the investment must go directly back into the self-directed IRA/solo 401K account, never into your personal accounts.
What are the risks of investing in real estate syndications?
All this sounds great, but what about the risks? Great question. After all, a real estate syndication is an investment, and no investment is a guarantee.
One of the biggest risks is the risk of execution. When you invest in a real estate syndication, you’ll see glossy marketing packages, and the sponsors will answer your questions with lofty ideals.
However, when the rubber meets the road, the sponsor team needs to be able to execute on the business plan in the face of unforeseen circumstances. This is why we invest only with sponsors who have a proven track record and who prioritize capital preservation, so we know that they will protect your investments and will do what they say they’re going to do.
Another potential risk is changing market conditions. No one can predict what market conditions will be like at the end of a project’s hold time. Maybe the entire country will be in a recession. Maybe the local economy will be in a lull.
This is why it’s so important to ensure that the loan provides some buffer time. That is, if the projected hold time is 5 years, check to make sure that the loan term is for at least that long, and ideally longer than 5 years, so there’s a buffer in case we need to hold the property longer than intended.
At the end of the day, as a limited partner passive investor, your liability in the real estate syndication is limited. That means that, at worst, you could lose your original investment, but you could not lose more than that (e.g., you can’t lose your house).
What about taxes?
When you invest in a real estate syndication as a passive investor, you are a part-owner in the underlying asset. That means that you get your share of the tax benefits.
One of the biggest tax benefits is accelerated depreciation through cost segregation.
When you invest in a rental property, you can depreciate the rental property on a schedule of 27.5 years.
When you invest in a commercial real estate syndication, the sponsors will most often order a cost segregation study. What this means is that a cost segregation expert will come and take stock of all the assets on the property – light fixtures, carpeting, HVAC, foundation, landscaping, etc. – and create a cost segregation report. That report shows which assets are eligible for accelerated depreciation.
For example, instead of depreciating the carpeting over thirty or so years, you might be able to depreciate it over 5 years. This accelerated depreciation can front load all the depreciation benefits into the first few years of ownership, which is perfect for a real estate syndication that projects a hold time of 5 years.
Typically we see anywhere between 50-75% of your investment amount being tax deductible. So if you invested $50,000, you will have a tax deduction of $25,000 to $37,500 that you can use to offset any other passive income gains!
What’s the process for investing in a real estate syndication?
Here are the basic steps for investing in a real estate syndication, once you’ve defined your investing goals and found a sponsor you want to invest with.
The sponsor announces that the deal is open for funding, usually via email.
You review the investment summary deck and decide to invest.
You submit your soft reserve, telling the sponsor how much you’d like to invest.*
The sponsor holds an investor webinar, where you can get more information and ask questions.
The sponsor confirms your spot in the deal and sends you the PPM (private placement memorandum).
After signing the PPM, you wire in your funds or send in a check.
The sponsor confirms that your funds have been received.
The sponsor notifies you once the deal closes and lets you know what to expect next.
*Real estate syndications are almost always filled on a first-come, first-served basis. Thus, sponsors use a soft reserve to help them determine who’s interested in investing.
By submitting a soft reserve, you are telling the sponsor you’re interested in the deal and want to invest X amount. The soft reserve does not guarantee you a spot in the deal, nor does it lock you in. You can always back out or change your mind later.
Quick tip: If you’re thinking about investing in a deal but aren’t sure whether you want to invest $50,000 or $100,000, go ahead and put in a soft reserve for $100,000. This holds your spot in the deal.
If you decide later that you only want to invest $50,000, you can easily decrease your investment amount. However, if you had put in a soft reserve for $50,000 and later wanted to increase it to $100,000, you might not be able to increase your soft reserve amount if the syndication is already over-subscribed.
What happens after I invest in a real estate syndication?
After you’ve sent in your funds for a real estate syndication deal, your active participation is done. Now you can sit back and wait for the cash flow to start rolling in.
Depending on the particular deal, you may receive either monthly or quarterly cash flow distributions, and they may start immediately, or not for a few months.
Regardless, you should start receiving monthly updates as soon as the deal closes. These monthly updates will include information on the latest occupancy and progress on the renovations.
Every quarter, you will receive a detailed financial report on the property, and every spring during tax season, you will receive a Schedule K-1 for your taxes, which will report your share of the income and losses for the property.
What is Honey Pot Investments’s role in all this?
Here at Honey Pot Investments, we know how hard it can be to find great real estate syndication opportunities. So, that’s exactly what we do. We are syndicators ourselves, and we also connect our investors with other great real estate syndications to partner with.
We work hard to find the best real estate markets to invest in and partner with experienced sponsor teams in those markets. We’ve been in this space for a while, so we know many of the larger players and work hard to vet all of the sponsor partners we work with, to make sure they have a strong track record and know what they’re doing. We are also syndicators ourselves so we will study sponsors underwriting criteria and do our own to make sure the particular deal meets our criteria of safety margins.
We help you diversity your portfolio. Most syndicators specialize in a specific geographical area. By working with different syndicators, we can help you allocate your investments in different markets.
Once we find a deal with a great sponsor, a deal we’d invest in personally, we partner with the sponsor and open up that real estate syndication opportunity to our investors ensuring your spot.
Our investors don’t pay any fees by working with us. We are merely the conduit between our investors and the sponsors. The main benefit we provide our investors is in the investing experience.
We provide a lot of resources to our investors and make sure to make ourselves available to our investors, to answer any questions along the way (sponsors can often be busy with the acquisition of the property and might not have time to answer investor questions).
If you’re interested in investing passively in real estate syndications, a great first step is to join the Honey Pot Investor Club. After we get to know you, we’ll help you find real estate syndication opportunities that meet your investing goals.
Summary
Real estate syndications are a great way to invest in real estate without having to deal with the hassles of being a landlord. As a limited partner passive investor in a real estate syndication, you can sit back and collect passive cash flow without having to worry about renovations, tenant turnover, or broken toilets.
That being said, there’s a LOT to learn when you first invest in real estate syndications. Because most real estate syndications are for commercial properties, there’s a lot to learn in the way of vetting properties, underwriting, and sponsor teams. There’s also a lot of due diligence you must do in researching markets and finding good real estate syndication opportunities.
It takes months sometimes years to find a right opportunity. Once the right asset is identified, there is months of work that required to negotiate and vet a property.
After years of investing in rental properties, we can say that being a passive investor in real estate syndications is the best passive long-term wealth building vehicle out there. You don’t have to do any of the work, and you get all the benefits of owning real estate. Sometimes, the returns from our syndication investments are even better than those from our personal rental properties.