“This Sounds too Good to be True.”
“What’s to Stop these People from Taking my Money and Disappearing?”
As a first-time money raiser for an apartment syndication (pooling money to purchase and operate large scale apartment communities and sharing in the profits), these were two common responses I heard when approaching potential investors. This is completely understandable; I used to be skeptical also.
When I first committed to raise equity for a syndication I had been advised to concentrate my efforts on existing real estate investors, as people unfamiliar with these investments typically stray from the unknown. I get it; it’s more work walking a new investor through the process than someone who knows, trusts, and can evaluate these opportunities. These advisors weren’t totally wrong as 70 percent of those who invested in my first raise were existing real estate investors. When I saw that number, I came to realize that apartment syndication can benefit more people than it currently does. To do that we first need to debunk some preconceived notions.
Are apartment syndications too good to be true?
The short answer is no.
On average they provide higher returns than more mainstream investments and arguably less risk. Are they risk-free? Absolutely not. Let’s look at some of the pros and cons
- Cash Flow – As a limited partner you share in the profits of the project which are typically paid monthly or quarterly. Deals are structured differently, but you could reasonably expect to see 8% annual return in just cash flow.
- Forced Appreciation – Appreciation of the asset is usually achieved from a value-add business plan and realized by the investor at the conclusion of the project.The appreciation does not rely on outside forces (i.e. the market environment). This is not to suggest the greater market environment does not have an impact on the asset; it does. It merely states that the true value-add component comes from within.
- You are a TRUE passive investor – As a passive investor you can literally sit back and collect distributions without any of the headaches associated with running your own deal.
- Shared Tax Advantages – Real estate provides significant tax advantages. As a passive investor you share in these benefits and are provided with the tax documents (K1) to utilize them.
- Ability to invest in a self-directed IRA, solo-401K, or Qualified Retirement Plan – Most syndications allow you to invest your retirement funds if they are in a self-directed account.
- Minimum Investment – The minimum to invest is typically high. The most recent deal we raised for had a $50,000 minimum.
- Private Placements – Syndications are private placements and not available to everybody.You either have to qualify as an accredited investor or as a sophisticated investor with a pre-existing relationship with a member of the sponsorship team.
- Illiquidity – Apartment syndications are long term investments. Your capital is typically tied up for 5 years or more.
- Trust in Others – Whereas being purely passive was listed as a “pro” above, for some people that is hard to do. Typically, you do not have a vote in the operations. You will be communicated with regularly and be provided with financial information on the project; but your role here is strictly passive. Whether that is a pro or a con is dependent on you.
What’s to Stop These People from Taking My Money and Disappearing?
Investing a large sum of money is a big decision, especially if it is with a group of people that you might not know. A friend said, “If my money goes away in the stock market, I can see where it went. What’s to stop these people from taking my money and disappearing?” It’s a valid question and for me, one that boils down to trust. You MUST TRUST the person presenting you the deal. Don’t be shy. Ask questions. BE SKEPTICAL. Do your research on the partners. What’s their track record? How did past investments perform relative to the business plan? If they have a proven track record you will be able to see it and judge the risk accordingly. My personal answer to her question was “I’m investing as a limited partner in this deal as well and trust the rest of the sponsorship team. All investments carry risk and deal operator is probably the biggest of them all. The legal documents associated with the deal ease that fear for me, but it really comes down to trust.”
The Bottom Line
When it comes down to it, investing in apartment syndication isn’t for everyone. If you need your investment before the end of the deal, it’s not for you. If you need to be in control of the deal or the operation of the property, passive investing isn’t for you. If you don’t trust the partners offering the deal, don’t invest. But if you can relinquish control of your investment for the allocated time and if you are ok with someone else guiding your investment then apartment syndication might just be for you.