When developing a real estate investment portfolio, it’s always suggested to have a diverse selection of properties to generate profit. If your real estate investment portfolio consists only of single-family homes, you might consider investing in an apartment building or commercial property. Here’s the downside: these properties are expensive and often require a very high level of management expertise. But don’t let that deter you. If you want to invest in bigger, better properties—and you lack the necessary capital or experience—then you might consider participating in real estate syndication.
In this article, we’ll explore what estate syndication is, why real estate investors should potentially consider a real estate syndication, as well as how to profit from one. With Fortune Builders’ helpful and comprehensive guide for understanding real estate syndication, real estate investors can be one step closer to making profitable investments and rounding out their real estate portfolio.
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What is Real Estate Syndication
Real estate syndication (also known as “property syndication”) is a partnership between several investors to tackle a real estate project. The investors combine their capital and resources to purchase a property that they wouldn’t be able to purchase individually. They also work together to manage the property if the property will be held as a rental.
In short, real estate syndication is just a fancy way of saying “real estate partnership.” The legal structure of these partners is typically either a Limited Liability Company (LLC) or a Limited Partnership (LP). Real estate syndication was established by Congress through the JOBS act and responded to the criticism of real estate projects only being pursued by the most wealthy investors. Real estate syndication opens the door to real estate investment to anyone interested in learning how to arrange for one.
There are usually two types of roles in a real estate syndication:
Syndicator or Sponsor
One of the most prominent members in the real estate syndication process is the syndicator, also commonly known as the “sponsor.” The syndicator is tasked with acquiring the property, renovating it, and/or managing it. These are typically individuals that possess working experience within real estate and are well-versed in what it takes to properly operate and manage a real estate property.
The syndicator or sponsor is usually the person that orchestrates the real estate syndication and arranges for the involvement of all legal parties. The syndicator will operate as the General Partner for the contract, at times even using their own funds to invest within the project. It’s also common for the sponsor to offer their skills, expertise, and labor to the project instead of capital investment. Regardless of the specific arrangements, the sponsor will always be an integral part of any successful real estate syndication.
Investor or Limited Partner
The other major player within a real estate syndication is the investor or investors. They are also commonly referred to as Limited Partners. Investors provide the capital to purchase a property, but they have a mostly passive role. These real estate investors often have an interest in acquiring property to gain a percentage of profits, but will typically leave the day-to-day operations to the sponsor who has gained more direct experience. For this reason, investors will typically pay the sponsor fees for their expertise.
As passive members of the real estate syndication, they will be the source of capital and own a percentage of the real estate based on investment amount and number of potential parties.
Joint Venture Partner
There’s often a third party involved within many real estate syndications, known as a joint venture partner (JV partner) or “equity partner.” Within any massive real estate investment, it’s valuable to have transparency and proper communication amongst all parties, especially for a real estate syndication with numerous investors. The JV partner makes sure that there is strong communication and transparency between the syndicator and investors. Sometimes, the JV partner may assist the syndicator with reporting and taxes.
Why Participate in Real Estate Syndication
Considering a real estate syndication can be a lucrative maneuver for those looking to capitalize on their interest or experience in real estate. Especially for those who already have property management experience, a real estate syndication can lead to passive income, tax-saving benefits, as well as generally limited downsides in the case of a good working relationship between syndicators and investors.
Daniel Hedegaard from CoolParcelIn gives his opinion that “real estate syndication enables investors to aggregate their financial and intellectual resources in order to invest in properties and projects that they could not otherwise afford or manage on their own”.
Now that we’ve explored the definition of a real estate syndication, do you think this would be a good professional move for you? Here are the top reasons why you might participate in real estate syndication:
You don’t have enough capital to buy a certain type of property
You have money to purchase a property, but you don’t have the expertise to manage it
You want to acquire more properties and build your wealth
Any real estate investor, beginning or seasoned, can benefit from real estate syndication—so long as you know how it works.
How Does Real Estate Syndication Work?
When you participate in real estate syndication, you need to determine whether you will be the syndicator or an investor. Your skillset, experience, and capital will determine which role you’re better suited for.
The syndicator has the most demanding and involved job. As the syndicator, you’ll be tasked with acquiring the property (which means completing all the steps required to complete the transaction). If the property is a fix-and-flip or a rental, then the syndicator must oversee the renovations and property management, respectively.
Real Estate Syndicator Responsibilities
You’ll have a considerable amount of responsibility as the syndicator. The investors have a mostly passive role—once all the money is invested, they’ll take a back seat and let you handle everything else. You’ll have to communicate with them regularly about the progress of the investment.
The syndicator might be a good role for you if:
You’re great at scouting and finding suitable properties
You’re experienced in property management
You’re knowledgeable about house flipping
You understand how to do accounting and reporting for real estate
Real Estate Syndication Investor Responsibilities
On the other hand, you might be better suited for an investor role if:
You have sufficient capital to invest, but you’re not experienced in property management or acquisition
You participate in real estate investment as a passive income
There’s a predetermined exit strategy in a real estate syndicate. In some cases, the exit strategy is to renovate and sell the property for a profit. In the case of a rental property, the exit strategy is usually to “stabilize” the property or make it produce a steady cash flow from tenants.
When the exit strategy is accomplished, the syndication is complete.
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Choosing A Real Estate Syndication Structure
At the beginning of a real estate syndication, all the participating investors must decide how to structure the company for tax purposes.
Syndications are most often structured as limited liability companies (LLCs) or limited partnerships. Investors, for that matter, are members or limited partners, respectively.
The investors then work out a syndication agreement. The syndication agreement outlines:
Communication Practices: The agreement stipulates communication terms between the syndicator and investors (it might, for instance, mandate monthly or quarterly meetings). The purpose is to ensure transparency about the progress of a syndication and the overall performance of a property.
Voting Rights: Investors may be able to vote on what to do with the property once it’s acquired. Voting practices are outlined in the agreement.
Profit Distribution: The agreement outlines how much of the profits each investor is entitled to—more on that in the next section.
There’s no one kind of syndication agreement—they vary from one syndicate to the next. While each real estate syndication agreement might look different, generally speaking, the three outlined elements mentioned above will almost always be included in some shape or form. Naturally, real estate syndication agreements deal with numerous complicated legal processes, so it’s important to seek guidance from an experienced real estate attorney for a thorough and successful syndication agreement.
How to Profit From Real Estate Syndication
With real estate syndication, your profit is largely dependent on your role and the exit strategy.
Some groups elect to split profits equally, but many real estate syndicates do not. It’s common for passive investors to receive about 70%, while the syndicator gets about 30%.
Investors usually earn more because they put in more money. A syndicator only contributes between 5-10% of the investment or nothing at all.
However, a syndicator may get a higher percentage if they manage a fix-and-flip or acts as the property manager for tenants. While the specific breakdown of capital will vary based on the specific real estate syndication, there are numerous ways that both syndicators and investors can increase their profits when moving forward with a syndication.
Because the syndicator oversees the property transaction, they receive an “acquisition fee” that’s between 1-5% of the transaction value.
If you’re the syndicator, then you may be able to negotiate your acquisition fee on the syndication agreement. Don’t ask for fees that are too high, or else other investors may not want to participate with you. But you also shouldn’t undervalue yourself, especially if you’re tasked with finding the property and structuring the deal.
Asset Management Fees
If the syndicate is purchasing a rental property, all the members could elect to pay a property management company to find tenants, collect rent, perform maintenance, etc.
But the syndicate can also give property management duties to the syndicator. In that scenario, the syndicator will earn a property management fee that’s usually around 10%. The syndicator will earn an even higher share if they’re tasked with conducting a fix-and-flip.
Cash Flow & Appreciation
Whether the syndicator invested money or not, they still get a piece of the pie. The passive investors, however, earn a “preferred return” that’s much higher.
For example, if the passive investors each get 12%, the syndicator will probably get around 5%. But once again, it all depends on the structure and how many responsibilities that syndicator takes on.
Suppose the property is going to be sold. In that case, each investor will get a percentage of the sale’s profits (ideally, the property will have appreciated in some way—many real estate syndicates do house flipping to maximize the return).
But if the property is going to be rented out to tenants, then the investors will all get a percentage of the profits generated by rent.
Real Estate Syndication Scenario
Let’s describe how a real estate syndication might play out.
You join with a group of investors to purchase an apartment building. Since you have the most experience managing properties, everyone agrees that you’ll be the syndicator. A limited partnership is formed. It’s decided that the six investors will get 15% each. You contribute a smaller amount of capital and receive 5%. But you’ll get an additional 5% because you’re going to be managing the property, and you’ll also earn a 2% acquisition fee. You’ll earn 10% total.
The property is purchased for $1 million. You earn $20,000 just from the acquisition fee. Now the property is rented out to tenants and generates a profit of $150,000 per year. With your 10% stake, you’ll receive $15,000 per year. Over 10 years, you’ll earn $150,000.
After ten years, the syndicate votes to sell the property for $1.5 million. From the sale, the investors will earn 15% each, and you’ll earn 10%. That’s another $150,000. The syndication is complete. Your total profits are:
20,000 + 150,000 + 150,000 =
Given your 5% investment of $50,000, your return amounts to $320,000. That’s an increase of 640%. This is a great snapshot into the potential profitability of a real estate syndication
To summarize everything we’ve learned, you partner with other investors in a real estate syndication to purchase a property that you wouldn’t be able to afford otherwise. There are two roles in a real estate syndicate: syndicator and investor. Syndicators are tasked with acquiring the property and may also be charged with renovating or managing the property. Investors contribute more money to the acquisition, but they play a more passive role. Investors will typically earn more money in a real estate syndication, while the syndicator’s earnings may vary depending on their responsibilities.
Making educated real estate investments is all about understanding the options that are available to you. By knowing what a real estate syndication is, anyone with property management experience or enough capital can dive deeper into the world of real estate to hopefully generate passive income and diversify their portfolio.
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