Real estate syndication refers to a group of investors pooling their funds to invest in property. Syndications are popular among investors because they provide an affordable way to invest in real estate without needing to purchase or manage properties themselves. Most real estate syndications follow a three-phase process: raising capital from investors, acquiring and managing properties, and eventually disposing of properties. Investing in real estate can be complex, so understanding how syndications work in each phase is important.
Phase 1: Raising Capital From Investors
The first step for any real estate syndication is raising enough capital from investors to acquire properties that meet the investment goals. Project sponsors estimate how much capital needs to be raised based on the cost of their desired acquisitions. They then sell interests in the syndicate to angel investors and crowdfunding platforms. This process can take 6 to 18 months or longer depending on the targeted raise amount.
Regulatory Considerations with Capital Raises
Capital raising for real estate syndications in the U.S. is regulated by the Securities and Exchange Commission (SEC) under Regulation D, Rules 506(b) and 506(c). These regulations outline requirements like the maximum number of non-accredited investors, disclosure filings, advertising rules, and verification processes for ensuring investors meet income or net worth requirements. Project sponsors should ensure full compliance with regulations to properly raise capital from investors.
Importance Of Investor Transparency
Transparency with investors is also critical during the capital raising phase. Investors need open access to details about how their money will be used, projected returns or profits, timeframes for raising funds and acquiring properties, and all associated risks. The project sponsors’ experience, investment strategy, and performance track record should also be transparent to build confidence in the offering. Clear communication and transparency set the foundation for a successful long-term relationship between sponsors and investors.
Phase 2: Acquiring And Managing Properties
Once enough capital has been raised, the syndicate can begin acquiring properties that match its investment thesis. The properties are then overseen by professional property managers who handle day-to-day operations like leasing units, collecting rent, dealing with maintenance and repairs, optimizing expenses, and ensuring compliance with regulations. Project sponsors remain actively involved in overseeing the managers and reviewing financial performance.
Importance Of Effective Property Management
Effective property management is essential to the success of a real estate syndication during this phase. Skilled managers can maximize occupancy rates, increase rental income, and limit costs—all of which directly impact investors’ returns. Property managers are also responsible for maintaining the properties, so their work is important for upholding the properties’ value and condition. Poor management, on the other hand, poses risks to the investment.
The syndicate holds and manages properties for an average period of 3 to 10 years. The actual hold period depends on the investment strategy and economic conditions. Some syndicates may dispose of properties sooner if attractive exit opportunities arise.
Phase 3: Disposing Of Properties
The final phase for a real estate syndication is disposing of properties and distributing profits to investors. Properties can be disposed of through:
- Selling to third-party buyers: The properties are sold at a price that (ideally) results in strong returns for investors based on factors like rental income generated, expenses incurred, and appreciation in property value during the hold period.
- Refinancing: The syndicate is able to extract additional equity from the properties by refinancing mortgages at lower interest rates and cashing out a portion of the equity. The refinanced proceeds are then returned to investors.
- Merging or exchanging properties: The syndicate trades or combines properties with another project to increase diversification or geographic focus, which may provide benefits for both syndicates’ investors.
Once the disposition process is complete and net proceeds are calculated, final distributions are made to investors based on their equity shares in the syndication. Investors’ total profits depend on the overall financial performance of the properties during the life of the investment.