So, you’re interested in spreading your wings in real estate investing. However, to become an accredited investor and invest passively in potentially lucrative deals, you must meet specific income/ net worth requirements.
If you do meet these requirements, taking part in accredited investing is one of the smartest decisions you can make. Why? Because these types of passive investors can generate cash flow without having to work a regular 9-to-5. In addition, you can easily generate higher returns and lower your risk when you participate in an apartment syndication deal versus trying to handle your own deal.
If you don’t have much experience in real estate investing, don’t worry. Accredited investors can invest with me. I am confident that I have the experience, tools, and knowledge you’re looking for to help you to maximize your time and revenue as an accredited investor.
Take a peek at the blogs below to become familiar with the accredited investor definition, and explore how to get started in this field. For instance, you can find out the benefits of investing in apartment syndication deals, and the best places to invest in such deals. Then, if you enjoy what you read, feel free to check out my hundreds of other blog posts for other valuable real estate investing insights. Also, take a peek at my Best Real Estate Investing Advice Ever book for even more strategies for winning as a real estate investor.
Want to go from working 20, 30, 40 or more hour per week while doing one deal a month to working an hour per day while doing over 100 deals per year?
Mike Simmons, a wholesaler and fix-and-flip investor who Theo interviewed on the podcast, was able to go from a solopreneur to operating a business that runs without him by following one simple trick.
For nearly five years, Mike worked 7:30am to 4:30pm in a W2 job. After work, on weekends, and sometimes even during his lunch breaks, he would work in his fix-and-flip business. Since it was just him, he did it all. He found the deals. He negotiated the contracts. He attended closings. He managed the contractors. Overall, he spent 20 to 30 hours on his business each week, resulting in one deal per month.
Flashing forward to present day, Mike almost never sees the houses that he buys. He doesn’t attend closings. He doesn’t find deals or buyers. Yet, he completes over 100 deals per year.
His secret? Every step in the flipping and wholesaling process is automated, and he has hired an employee who is responsible for overseeing each of these processes.
When to Hire?
The first step in going from solopreneur to a business that can run without you is knowing when to start delegating. In other words, when do you hire your first employee?
The answer depends on how quickly you scale your business.
Here are three examples of when you should hire your first employee.
You identify a bottleneck. Mike’s first bottleneck was the process of ensuring a wholesale transaction is completed once a deal is under contract and an end buyer is identified. He spent more time on this part of the process and less time finding deals and finding buyers (among other things). So, his first hire was a transaction coordinator to oversee this step in the process.
Your business is generating enough income to pay the salary of an employee. Mike paid his first employee $12 per hour. So, he was generating at least that much income in his business
There is something you really dislike doing or are really bad at. Another reason why Mike’s first hire was a transaction coordinator was because he had poor attention to detail skills. He needed an employee who was detailed oriented.
Who to Hire and In What Order?
As I mentioned above, you hire your first employee when you’ve identified a bottleneck in your real estate process and/or when there is something you don’t like doing or are not good at. Also, when your busines generates enough income to pay an employee’s salary.
After you’ve first hire, who do you hire next?
The decision on who to hire next is similar to deciding who to hire first. Either there is something else you don’t like to do or are bad at, or a new bottleneck is created by the previously hired employee.
Mike’s second hire was a salesperson. Mike thought of himself as a decent salesperson. However, he didn’t like it. After hiring a salesperson, not only was he able to focus on aspects of the business that he enjoyed more but he was also able to complete more transactions due to the higher level skills of this new hire.
Mike made his third hire based on a newly created bottleneck. The salesperson was responsible for answering the phone calls for income leads. This took time away from the salesperson getting in front of potential sellers and negotiating contracts. To remove this bottleneck, Mike hired a person to answer the phones. That way, the salesperson could spend more time negotiating contracts and less time on the phone qualifying leads.
Now that Mike had a dedicated person to answer the phones, he had the capability to handle more leads. Therefore, he hired a marketing person to generate more leads to keep the person who answers the phones busy.
Overall, the order in which you hire new employees usually starts with tasks you don’t like doing and eventually evolves into alleviating bottlenecks created by a previously hired employee.
Doer vs. Leader
When you are a solopreneur, you are wearing all the hats in your business. You are working in your business.
Once you start to hire employees, you slowly work less “in” your business and more “on” your business.
When you work in your business, you are a doer. When you work on your business, you are more of a leader.
The skills required to be a real estate doer are different than those needed to be a real estate leader.
One tip Mike provided about how to be a better leader to your employees is to document a process prior to hiring someone to oversee that process. A bad leader hires an employee for a role and says, “just get it done.” A good leader hires an employee for a role and says, “here is what you need to do in order to be successful.” But rather than telling them what they need to do, you can provide them with documentation with the step-by-step process for how to successful in their role.
To go from a solopreneur to operating a business that runs without you requires hiring employees. To ensure that the business runs successfully without you, make sure you are hiring employees for the right reasons and in the right order. And as you hire more and more employees, make sure you are improving your leadership skills.
There are three phases to a real estate rental investment.
Find the deal
Acquire the deal
Manage the deal
Most real estate investors find it is easier to handle the three phases in a local market.
Finding deals requires implementing lead generation strategies. Lead generation strategies are either remote (i.e., direct mail, online advertising, cold-calling) or in-person (i.e., bandit signs, driving for dollars, door knocking). If you are investing in your local market, you can take advantage of both lead generation categories.
Once you find a deal, you can drive to the home or building yourself to perform due diligence to determine and offer price.
After you have acquired the deal, you can either self-manage or oversee a third-party property management company.
When investing out-of-state, your options for finding, acquiring, and managing deals are limited…or are they?
Theo recently interviewed Andrea Weule on my podcast, Best Real Estate Investing Advice Ever. She lives in the highly competitive Denver, CO market, so she buys rentals out-of-state. In that interview, Andrea debunks the myth that you cannot invest out-of-state and provides interesting ways to generate leads and perform due diligence remotely.
The first phase is to find a deal. Andrea finds her out-of-state deals in three ways. First, she works with a real estate agent who sends her on-market deals off the MLS. She says that ignoring the MLS results in ignoring low hanging fruit.
Secondly, she creates a list of motivated sellers. Andrea’s targets home that have been owned for more than 20 years and where the owner is 55 years old or older. She finds that these owners are often motivated to sell. They are approaching retirement and are thinking about the next phase in their life, which may require the selling of their home.
Andrea uses ListSource to create this list.
Then, she sends a sequence of three mailers for each address. Rather than using a generic “we buy houses” letter, she creates a message that speaks more directly to the 55+ years old demographic. The letters include questions like “are you looking for your next adventure?” or “do you want to eliminate the stress of owning a home?”
These first two strategies (direct mail and MLS) are remote lead generation strategies. The third strategy Andrea implements is traditionally performed in-person – bandit signs. However, rather than flying to the market and placing the bandit signs herself, Andrea hires someone local to the area.
The process is simple. She creates a job posting in the “gigs” section on Craigslist with the purpose of hiring someone to place bandit signs in the local market. Andrea sends them the bandit signs, which have a GPS tracker. The GPS tracker allows her to confirm that the sign was places in the correct location. Once the bandit sign is place, she requests that they send her a picture. Lastly, Andrea will send them their payment via PayPal.
Andrea uses a similar strategy for the second phase of the real estate investing process – the acquisition. If someone is interested in selling her their property, she performs basic due diligence to determine an offer price.
Back to Craigslist. She will create another job posting. But this time, she is hiring someone to take pictures of the prospective property, as well as to do a Zoom Tour. With the combination of the pictures and video from the Zoom tour, she has all the information she needs in order to submit an offer.
Overall, it is a myth that it is harder to or that you cannot invest out-of-state. All it takes is a little creativity and the use of technologies.
For the first deal, you raise money from your family and/or closest friends
After the first deal, you continue to raise money from your family and/or closest friends. However, people who you are less familiar with begin to invest. Examples would be extended family, less close friends, work colleagues, and others who you’ve known for a few years or less
As you do more and more deals, you begin to raise money from investors who were referred from other investors. You also attract passive investors from your thought leadership platform
The commonality between all steps in the above progression is that you are raising money from individual investors (or two investors who are a couple).
Another, more advanced model for raising capital is to pursue private institutions. An example of a private institution from which you can raise money are family offices.
According to Investopedia, family offices are private wealth management advisory firms that serve ultra-high-net-worth investors. They are different from traditional wealth management shops in that they offer a total outsourced solution to managing the financial and investment side of an affluent individual or family.
Family offices can be a great source of equity for advanced apartment syndicators. Seth Wilson, the founder and managing director of Clarity Equity Group, raises money from family offices for his real estate deals.
We recently interviewed Seth on the Best Real Estate Investing Advice Ever Show. His episode is scheduled to be air on 9/16/20. In that interview, Seth provided his top five tips for raising money from family offices.
1. You Must Have Relevant Experience
The first step before you even consider raising money from a family office is that you must have experience. If you’ve never done a large apartment deal in the past, a family office isn’t going to take you seriously. If you’ve only been doing large apartment deals for a few years, a family office still isn’t going to take you serious.
It took Seth over 12 years and $65 million worth of real estate in order to raise money from family offices.
There is not a shortcut. If you want to raise money from family offices, the first step is to have years of experience successfully buying, managing, and selling apartment buildings.
2. You Must Be An Expert
It is likely that if you meet the “experience” requirement, you will meet the education requirement as well.
The reasons why you need the relevant experience and need to be an expert on apartment investing are two-fold. First, family offices are entrusted by an individual or family to invest on their behalf and, more importantly, preserve their net worth. The individual or family did adequate due diligence on the family office prior to using their services. The family office did adequate due diligence before hiring their employees. Therefore, they are going to do adequate due diligence on you and your business.
Secondly, and because of reason number one, they are generally more sophisticated than your family, friends, and others you are used to raising money from. They are going to ask more complex, detailed questions about you and your business plan. When you are an expert, you can hold your ground when these questions are asked. They must be confident in your ability to conserve and grow their client’s investment.
3. Put Together the Look
Whether you like it or not, Seth says that a book is judged by its cover, especially in the higher echelons of investing.
A family office is most likely not going to invest in your deals without seeing you in person. Therefore, you need to wear the proper attire. And there isn’t a one-sized-fits all approach.
The acceptable attire when visiting a family office based out of Denver is a lot different than one in Manhattan. Seth says that the best way to learn the dress code is by asking. Call the receptionist, ask what the dress code is and dress one notch higher.
4. Speak to the Right Contact
When you are ready to raise capital from family offices, maximize your chances of success by speaking with the right contact.
If you are reaching out to a family office who manages the wealth of a second-generation or later family (i.e., the wealth was created by the parents, grandparents, etc.), the best person to speak with is the Chief Investment Officer. Seth said that more established family offices will have an investment committee who sign off on all investments. The CIO typically sits on this committee. If you can win over the CIO, you’ll have your inside person on the investment committee to argue your case.
If you are reaching out to a family office who manages wealth for a first-generation family (i.e., the wealth was created by someone who is still alive), you want to speak to the patriarch or matriarch of the family. The person who made the wealth is likely heavily involved in investment decisions.
5. Take Massive Action
Like all things in real estate, raising money from family offices requires massive amounts of action. Seth recommends having one or two great phone calls with family offices each day. Use resources you already have to add value and take care of them.
Focus on building a business relationship and a personal relationship. For example, if you come across something that you think they would personally be interested in, text them.
You also want to make sure you are physically meeting them in person. Seth has no problem flying out in the morning, having an hour or so meeting with a single family office in the afternoon, and fly home in the evening.
Raising money from a family office is a great way to take your apartment syndication business to the next level. But it is a strategy that takes time to work up to. You must establish relevant experience and expertise before making the jump from “family and friends” to family offices.
Once you have a track record, make sure you dress the part, know who to speak with, and take massive action.
I love helping other people cut the learning curve. There have been several instances in my life where I condensed years and even decades of time by using a simple “Knowledge Hack” strategy.
I Have a Question For You…
Have you considered having a mentor? Is it worth your time to read books, listen to podcasts, watch how-to videos, and network with others?
Today I was researching some of the most successful people in America from the Forbes 400 List and realized that almost all of them had mentors at some point, and many still have mentors today.
A Few Examples Include:
Bill Gates had Ed Roberts as a mentor
Oprah Winfrey had Mary Duncan as a mentor
Mark Zuckerberg had Steve Jobs as a mentor
Warren Buffet had Benjamin Graham as a mentor
Sam Walton (And family) had L.S. Robson as a mentor
Michael Dell had Lee Walker as a mentor
Rather than thinking about having a “mentor” think of the word “coach” instead. It’s essentially the same thing, but using the word “coach” helped me put all of this into perspective years ago.
A Quick Story
From 2009 to 2015 I did everything on my own as an active real estate investor in the single-family home space. It wasn’t because I thought I knew it all, it was because I did not see the need for a mentor or coach at the time.
What I finally realized in 2015 (after 7 years of trial and error), was there were other people in the active real estate investing space who were operating much more efficiently than I was. They had more connections and were finding better deals and had a broader range of skill sets and ultimately… they were more profitable than I was. I had to do some soul searching, self-reflection, and take a long, hard, look in the mirror. Was active investing really the best use of my time and skills?
What Happened Next?
I made a decision to start partnering with investment firms who had better skill sets, track record, connections, and efficiencies than I did. I essentially “piggybacked” off their success by becoming a limited partner investor in other people’s private placement offerings (mostly in multifamily apartments). This provided a hands-off approach to investing where I had the best of both worlds. I could participate in real estate, which I love and enjoy, while not having to be “in the business” of real estate in an active way, which I did not enjoy.
After dedicating some time to networking, reading, listening to podcasts, watching how-to videos and seeking mentors, I inevitably became a full-time passive investor in real estate. I left the active single-family strategy behind because I was tired and burned out from trying to do it all myself, trying to make the right calls and know all the ends and outs. In addition, the hands-on approach was taking too much time away from the things I loved doing. I had far less spare time because my real estate projects were consuming more and more of my availability. 2015 was the beginning of an entirely new education process that has been life-changing to say the least.
Mentors can come in many forms. The best advice I ever received was to seek out a mentor or “coach” who is doing what you want to do and is successful at doing it…because success leaves clues.
“If I have seen further than others, it is by standing upon the shoulders of giants” – Sir Isaac Newton
In summary, historically, homeownership rates decrease during economic recessions and increase during economic expansions.
During the post-2008 economic expansion, the Dow Jones tripled, unemployment was cut in half, and the GDP rose by nearly $5 trillion. At the same time, the renter population increased nearly every single year and grew by more than 25%.
The reasons why more people decided to rent than own during the most recent economic expansion include high student debt, poor credit, tighter lending criteria, people starting families later, and inability to afford home payments.
Since these reasons aren’t going away, I predicted that when the next economic recession occurs, the same percentage of people or more will rent. And when the economy begins to improve, the same percentage of people or more will rent.
Flash forward over one-and-a-half years and many experts believe we have entered the next economic recession, due in part to the coronavirus pandemic.
So what are people saying about the demand for multifamily rentals?
A study released by apartment properties acquisition and management company, Middleburg Communities, projects a drop in homeownership rates and a significant increase in demand for rental housing over the next five years.
Here is an excerpt from a GlobeSt.com article published on June 17, 2020 entitled “As Homeownership Declines, Demand for Rental Housing to Climb.”
“The June 11 report projects a decline in U.S. homeownership to 62.1%, the lowest rate in more than 20 years, before a partial recovery to 63.6% in 2025. Depending on the effects of the recession, the demand for rental housing will increase somewhere between 33% and 49% over that time period, the report concludes.
The analysis points to changing demographics playing a role in the changing demands. Married households are more likely to own homes, and their numbers are declining. The numbers of households with incomes of more than $120,000 is expected to drop while those with incomes of less than $30,000 are projected to increase.
“We do not claim to know the precise trajectory that household incomes will take over the next five years,” the report said. “However, with 19 million jobs lost as of this writing, the direction of household incomes in the near future is clearly negative.”
The number of non-white householders, who typically rent at a higher rate, is also growing.
But demographics alone are a “weak” explanation for homeownership shifts, according to the report. Student loan debt, inability to make a down payment, tightened lending standards, high rents and a shift in preferences play a role, too.
The report also zeroed in on three variables that offer a “reasonable” explanation for slumping homeownership: “lending standards, as measured by the average credit scores of mortgages, median net worth by age of householder, and the previous year’s deviation from the demographic-based projection, essentially inertia.”
The report notes that additional stimulus packages from the federal government could bolster homeownership rates.”
Like I said over one-and-a-half years ago, homeownership decreased during the economic expansion due to people starting families later, student loan debt, inability to make a down payment, and tighter lending standards.
Therefore, this study reinforces my thoughts on multifamily investing – there will be the same or increased demand for rentals during and after the current economic recession.
As the owner of investment properties large and small alike, there’s a vehicle available in which you can actually continuously invest into larger properties and delay the capital gains expenditure that is due to reveal itself at some point. This vehicle is called a 1031 Exchange.
According to the United States Internal Revenue Code (26 U.S.C. § 1031), a 1031 Exchange allows a taxpayer to defer the assessment of any capital gains tax and any related federal tax liability on the exchange of certain types of properties. In 1979, federal courts allowed this code to be expanded to not only sell real estate but also to continuously purchase within a specific timeframe with no liability assessed as that time.
In addition, these exchanges must be utilized for productive use in business or investment. Prior to 2018, properties listed under the code included stocks and bonds and other types of properties. However, as of today, the 1031 Exchange only includes real property which makes this excellent for investors.
1031 Exchange Rules Explained
There are 7 primary 1031 Exchange rules which require a deeper study:
Only for Investment or Business Intentions
Greater or Equal Value Replacement Property Rule
“Boot” is denied
Same taxpayer rule
45 day identification window
180 day purchase window
1031 Exchange Rules Explained
According to the IRS, each property must be utilized in trade or business for investment purposes. Keep in mind that property used personally, like personal residences or second homes, will not qualify for the 1031 Exchange opportunity.
However, real property, most commonly known as real estate, does include land and anything attached to the land or anything built upon it, or an exchange of such property held primarily for sale does not meet the requirements for the utilization of a like-kind exchange.
Only for Investment or Business Intentions
To meet the criteria for a 1031 Exchange, the real estate must be utilized for investment or business purposes only. The investment vehicle must be property that is not considered a primary residence but is used to generate income and profits through appreciation and that can take advantage of certain tax benefits.
For example, real property identified for investment purposes can be any property that is held for the production of income, whether it be a rental for leasing option, or if the value increases over time (capital appreciation). In order for it to meet the criteria for the tax deferral, the property must be held strictly for either investment or business use.
Greater or Equal Value Replacement Property Rule
The greater or equal value replacement property rule identifies a limitless amount of properties as long as their combined value does not exceed 200% of the originating, or previously sold property. In addition, this rule also includes the acquired properties to be valued in the neighborhood of 95% or higher of the property that is being exchanged for.
“Boot” is denied
The term boot is where money or the even exchange of items considered to be “other property.” If it is determined that a taxpayer does receive boot, that booted exchange or a portion of will become taxable.
Rules of Thumb for the Boot Offsetting Provisions:
if the seller receives replacement property of the same or higher value than the net sale price of the property previously sold, and in addition, the seller spans all of the proceeds from the acquisition on the property being replaced, then that exchange does meet the criteria to be totally tax deferral. If the seller follows these guidelines, then there is no consideration of this being considered “cash boot” received and either took on new mortgages in addition to the previously dissolved mortgage or the seller gave the “cash boot” to reconcile any received “mortgage boot.”
The Same Taxpayer Rule
It is mandatory under the same taxpayer rule that the seller who previously owned the property that was sold must be the exact same person, via tax identity, who takes over ownership of the property being replaced. The question is why? The answer is because if the taxpayer changed their identity, based on tax law, then there would be no continuous action of the tax. Therefore, the proceeds are subject to become taxable.
45 Day identification Rule
Under the 1031 exchange code, the taxpayer has a 45 day window from the date of the sale of the previously owned property to identify the replacement property. The 45 day window is commonly referred to as an identification period. This process must be done in writing with the authentic signature of the taxpayer.
When identifying the replacement property, remember the following suggestions:
Any real property as long as it is being considered for business or investment purposes may qualify. The property can be located anywhere in the continental United States. In addition, in 2005 there were certain temporary regulations that were allowed for rental real estate to be purchased in Guam, and the Northern Mariana Islands, and also in the US Virgin Islands.
The property must be clearly identified with a physical street address or legal property description, and in some cases, specific unit addresses are mandatory.
In the process of identification, the property may be changed or additional real estate can be added by 12 midnight on the first 45th day of your identification window. Keep in mind that there are two rules that must be remembered and they are the 3-Property Rule and 200% Rule. Sometimes, revoking your original identification may be required while you are in the process of making a new one.
If there is any property purchased within the window of the 45 day rule then there is no formal identification needed, however, keep in mind to take the identification of other properties in consideration.
Purchasing replacement properties from relatives should be given careful scrutiny.
180 Day Purchase Rule
When completing a 1031 exchange, the 180 Day-Purchase Rule mandates that the replacement transaction must be completed within 180 days or six months in total. Regardless, the rule always applies. This means that conveyance of title must be completed by this date. If you ever decide to participate in an apartment syndication, please adhere to this rule.
Executing a 1031 Exchange
Example 1: Assuming that a taxpayer has decided to invest into a multifamily unit and he has decided to sell it. To the taxpayer’s surprise, the property generated $300,000 in gains, and after closing, the net proceeds were $300,000. With the taxpayer staring at a capital gain tax liability of 200,000 in taxes (federal capital gain tax, depreciation recapture, state capital gain tax, and net investment income tax) after the property sells. Only $100,000 in net equity is available to be reinvested into another property.
Example 2: If the same investor chose to complete an exchange, the investor would have had to have identified the new replacement product being a multifamily unit within 45 days and invests the entire 300,000 into the purchase of the replacing property with no capital gains due.
For an investor, a 1031 exchange is an excellent opportunity. When you decide to invest in properties, it is natural to migrate to larger units, specifically multifamily properties.
As you continue development and growth in this area, you may even want to consider becoming an apartment syndication investor. This will allow you to pool resources from other sources that will facilitate the overall growth of your portfolio and investment profile. Understanding the 1031 Exchange can generate large revenue and save taxes.
The more investors you speak with, the more you realize that a lot of the traditional real estate advice simply is not true.
For example, “you need to have experience in order to do large apartment deals.”
The main reason? We are told that sellers and brokers prefer to work with established apartment operators because their proven track record increases the probability of a close. Whereas a sale is more uncertain when working with a less experienced apartment investor, or one who has not taken a large deal full cycle in the past.
Therefore, we are told to focus on smaller deals (single family rentals, duplexes, triplexes, quadplexes, etc.) to build a reputation of being a closer and someone who can successfully manage multifamily properties.
However, I have spoken with countless real estate investors who have gotten into the large multifamily space without following the above advice. They didn’t slowly acquire larger and larger properties. Instead, they either made gigantic leaps or skipped the smaller properties and started off investing in large multifamily properties.
For example, I was able to go from single family rentals to a 150+ unit apartment community.
Hamza Ali of Gray Spear Capital is an example of an investor who went straight to multifamily investing. He acquired a 24-unit apartment community from a broker without any previous multifamily experience.
How was Hamza able to win over both the seller and the listing broker?
He brought a large, local multifamily investor to broker meetings.
Once Hamza decided to pursue larger multifamily deals, he joined a local apartment meetup group. At the meetup, he met a local apartment operator who owned 1,000 units in the Houston, TX area. After establishing himself as someone who was serious about buying apartment communities, he invited this larger apartment operator to broker meetings.
One of the broker meetings was with an individual Hamza met at the meetup. This is the broker who sold Hamza his first deal – the 24-unit.
After putting the 24-unit under contract, the large apartment operator even walked the property with him.
Overall, Hamza was able to leverage someone else’s experience to close on his first apartment deal with no multifamily experience.
The large apartment operator didn’t have an official role in the deal. He didn’t sign on the loan nor was he given a stake in the deal. However, by attending broker meetings, he was implying to the brokers that Hamza was a trustworthy individual who would be able to close.
If Hamza attended the meetings alone, chances are that we isn’t awarded the deal. But the presence of a well-known, big-time apartment player instantly increased his reputation in the eyes of the brokers.
Now, Hamza applied this strategy to winning over apartment brokers with no apartment experience. However, the concept can be applied elsewhere.
Having trouble finding this big-time player? Do what Hamza did, which is to start attending local meetup groups. Even better, start your own. The strategy at the meetup group is to establish yourself as a serious real estate professional. Show up to every meetup on-time. Ask educated questions. Offer valuable information to others. Maybe even offer to work for free for the big-time player from which you want assistance.
Thousands of investors have skipped the beginning or intermediate steps and jumped straight to large multifamily investing. Almost all of them did so by leveraging the experience and reputation of an established operator.
If you use Hamza’s strategy, you will be on your way to building a 1,000 or more unit apartment portfolio.
DISCLAIMER: THIS IS FOR YOUR INFORMATION ONLY. SINCE I AM NOT A TAX ADVISORY FIRM, I REFER ALL GENERAL TAX-RELATED REAL ESTATE QUESTIONS FROM PASSIVE INVESTORS BACK TO THEIR ACCOUNTANTS. HOWEVER, I WILL SAY THAT INVESTORS OFTEN SEEK REAL ESTATE OPPORTUNITIES TO INVEST IN DUE TO THE TAX ADVANTAGES THAT MAY COME FROM DEBT WRITE OFF AND LOSS DUE TO DEPRECIATION. BUT I DON’T INCLUDE ANY ASSUMPTIONS ABOUT THESE TAX ADVANTAGES IN OUR PROJECTIONS.
Apartment syndications remain an appealing investment for passive investors due to the myriad of tax benefits—the foremost being depreciation.
Fixed asset items at an apartment community reduce in value over time due to usage and normal wear and tear. Depreciation is the amount that can be deducted from income each year to reflect this reduction in value. The IRS classifies each depreciable item according to the number of years of its useful life. It is over this period that the fixed asset can be fully depreciated.
A cost segregation study identifies building assets that can be depreciated at an accelerated rate using a shorter depreciation life, most of which are not readily identifiable on cost documents. These assets are the interior and exterior components of a building in addition to its structure and may be part of newly constructed buildings or existing buildings that have been purchased or renovated. Approximately 20% to 40% of these components can be depreciated at a much faster rate than the building structure itself. A cost segregation study dissects the purchase/construction price of a property that would normally be depreciated over 27 ½ years—and identifies all property-related costs that can be depreciated over 5, 7 and 15 years.
If the expense of the construction, purchase or renovation was in a previous year, favorable IRS rulings allow taxpayers to complete a cost segregation study on a past acquisition or improvement, and take the current year’s deduction for the resulting accelerated depreciation not claimed in prior years.
You can learn more about how depreciation is calculated, as well as the other tax factors when passively investing in apartment syndications, by clicking here.
Each year, the GP’s accountant creates a Schedule K-1 for the LPs for each apartment syndicate deal. The passive investors file the K-1 with their tax returns to report their share of the investment’s profits, losses, deductions and credits to the IRS, including any depreciation expense that was passed through to them.
There are three boxes on the K-1 that passive investor care about the most.
Box 2. Net rental real estate income (loss). This is the net of revenues less expenses, including depreciation expense passed through to the LPs. For most operating properties, the resulting loss is primarily due to accelerated deprecation. On the example K-1, the depreciation deduction passed through to the Limited Partner is $50,507, thereby resulting in an overall loss (negative taxable income).
Box 19. Distributions. This is the amount of money that was distributed to the limited partner. On the example K-1, the limited partner received $1,400 in cash distributions from their preferred return of distribution and profits.
just because the LP realizes a loss on paper does not mean the property isn’t performing well. The loss is generally from the accelerated depreciation, not from loss of income or capital.
Section L. Partner’s capital account analysis. On the sample K-1, the ending capital account is $48,093. However, this lower amount doesn’t reflect the capital balance that the limited partner’s s preferred return is based on. The $48,094 is a tax basis, not a capital account balance. Thus, this limited partner wouldn’t receive a lowered preferred return distribution based on a capital balance of $48,094. From Ashcroft’s perspective, depreciation doesn’t reduce the passive investor’s capital account balance.
The majority of the other accounting items on the K-1 are reported on and flow through to your Qualified Business Income worksheet. The net effect of these items will be unique to each investor based on their specific situation and other holdings.
If you want to learn more about each of the individual sections and boxes, click here to review IRS instructions for the Schedule K-1.
To better understand your own tax implications on any investment, it is important to consult a professional who has an understanding of your overall finances so that they may give full tax advice. Therefore, always speak with a CPA or financial advisor before making an investment decision.
By now, everyone has heard of house-hacking, which was popularized by Brandon Turner at BiggerPockets.
House-hacking is when an investor acquires a two-to-four-unit multifamily building using a low money down, owner-occupied loan. Once acquired, the investor lives in one unit and rents out the rest.
One of the major benefits of house-hacking is the ability to buy an investment property with a very low-down-payment. Rather than saving up for a 20% to 30% down payment, a house-hacker can secure an FHA owner-occupied low for as little as 3.5% down. On a $200,000 duplex, this equates to a $7,000 down payment as opposed to a $40,000 to $60,000 down payment.
The other major benefit is the ability to live for free. When you house-hack a duplex, triplex, or quadplex, you have income coming in from one or three other units. Depending on the market, the rental income may equal or exceed your expenses (mortgage, insurance, taxes, maintenance, etc.). When you acquire a single-family home, you pay the same expenses without benefiting from the rental income.
Or do you?
Banks will only provide owner-occupied financing on residential real estate. Single-family homes up to fourplexes are classified as residential. Therefore, whenever house-hacking is discussed, we are told to avoid single-family homes and focus on duplexes, triplexes, and quadplexes (for the above reasons).
However, Theo spoke with Nicole Heasley on my podcast, Best Real Estate Investing Advice Ever, and learned that she got her start in real estate going against the house-hacking grain – she house-hacked a single-family home.
Nicole’s episode will air on 06/08/20 but here is a sneak-peak into her Best Ever advice, which debunks the myth that one can only house-hack a duplex, triplex, or quadplex.
Bedrooms vs. Units
The strategy for house-hacking a single-family home is essentially identical to that of a duplex, triplex, or quadplex. The major difference is that rather than focusing on the number of units, you focus on the number of bedrooms.
Nicole house-hacked a three-bedroom single-family home. She lived in one room and rented out the other two for an average of $525 per month. She also rented out one of the spaces in the two-car garage for $25 per month, bringing her total income to $1,075. After paying all expenses, not only was she able to live for free but made an additional $100 per month in passive income.
Don’t Live in the Master Bedroom
When you house-hack a duplex, triplex, or quadplex, a best practice is to rent out the unit or units that will demand the highest monthly rents. The same logic applies to house-hacking a single-family home. As nice as it would be, do not occupy the master bedroom. Instead, pick one of the smaller bedrooms.
Obviously, the market in which you invest is important. But it is even more important when you are living in the same home as your roommates.
You will want to find a single-family home that is in a market with a demographic that is like you. For example, Nicole house-hacked a single-family home near the Cleveland Clinic. She was a recent college graduate and wanted to live with other college graduates. Since she bought near a hospital, her roommates were nurses and medical students.
How to Find Roommates
Nicole had lived with roommates in college, so it did not seem weird to share a unit with strangers. But that does not mean she would live with any stranger. She had a system for selecting roommates.
Nicole found her roommate candidates on Craigslist. Then, she would meet them in a public place and bring at least another person with her. If she felt that this person would be a good fit, Nicole would confirm their identity on social media. The final step was to perform a background check.
House-hacking is one of the best ways to get started in real estate investing. After hearing about Nicole’s journey, you now know that house-hacking only applying to duplexes, triplexes, and quadplexes is a myth.
The single-family housing supply is almost always greater than the supply of two-to-four unit multifamily. Therefore, you can obtain the same benefits from house-hacking multifamily but with a lot more options.
Make sure you listen to Nicole’s full interview on the Best Real Estate Investing Advice Ever show on XX/XX
If you’re a parent with a high net worth who cares about your children’s future, teaching youngsters about wealth management is imperative. Without the proper guidance, it’s easy for privileged progeny to quickly squander their money. Even worse, kids who don’t know how to handle money responsibly are far less likely to develop good character. Here are a few tips to ensure that your offspring can manage money intelligently.
Demystify Compound Interest Early
Without a doubt, understanding the nature of compound interest and learning how to leverage it wisely is the key to long-term financial success. Adolescents need to learn early on that compounding interest is often the albatross that sinks even the sturdiest of ships. Setting up a savings account that compounds monthly for a child will show them the power of compound interest in an extremely visceral way.
Help Them Start a Small Business
Few things in life teach an adolescent more about wealth creation and preservation than running an enterprise of their own. Whether it’s a lemonade stand or a leaf-raking service, operating a part-time business will teach kids the value of hard work and perseverance. Furthermore, starting a small business will allow children to familiarize themselves with the legal and bureaucratic hurdles that entrepreneurs have to negotiate.
Get Them Started Trading Stocks
Sooner or later, children need to understand the importance of investing in publicly traded companies when it comes to building wealth. Encourage them to play around with a trading simulator like MarketWatch Virtual Stock Exchange or Wall Street Survivor to get their feet wet. Stress the importance of structuring a portfolio that boasts a sensible mix of blue-chip stocks that pay dividends and more speculative start-up plays.
Put Them to Work on the Ground Floor
Those who’ve never held down a high school job that pays minimum wage have missed an amazing opportunity to grow as people. Quite a few notable wealthy parents push their kids into working entry-level jobs for a variety of reasons. Flipping burgers and washing dishes at a young age makes you a more empathetic and fiscally prudent adult later on in life.
Involve Them in a Rental Investment
If you want to show a young adult the surest path to financial success, introducing them to property rentals is a solid idea. You don’t even need to own an apartment complex or a mere duplex to get started. Buying a small parking lot or even a single space in a congested area works just as well. Showing them how to invest in REITs is another solid alternative.
Teach Them to Manage a Budget
Sticking to a budget is often the difference between long-term financial success and utter ruin. You can teach kids the importance of prudent financial management during their most impressionable years with an allowance. Give them a specific amount of money per month to spend and hold the line when it runs out early. Doing so will ensure that they develop discipline and a dedication to saving.
Stress the Importance of Charity
When you examine the lives of ultra-successful people, you often find that the most charitable characters make the most money. They also seem to enjoy their lives far more than those that don’t give back to society. Get your kids to contribute what money they can to charitable organizations early and often. Better yet, help them to organize a charity of their own for a worthy cause.
The Key to Effective Wealth Education for Kids
Bombarding youngsters with a lot of information all at once is a bad way to teach any lesson. Starting early and doling out little nuggets of wisdom gradually is the best way to develop a healthy understanding of wealth management and growth. No matter how smart a kid might be, he or she can’t possibly learn everything there is to know about managing money in a day.
In this blog post, I will discuss what a supplemental loan is, the pros and cons of the supplemental loan compared to a refinance or a sale, and why we at Ashcroft Capital secure supplemental loans.
What is a supplemental loan?
A supplemental loan is a type of loan that is subordinate to the senior indebtedness.
The senior debt, which must be paid first by the GPs, is the original debt used to acquire the apartment community. The supplemental loan is another loan that is obtained and is paid after the senior debt is paid.
A supplemental loan is only available if the senior debt is an agency loan (i.e., Fannie Mae or Freddie Mac). It can be secured 12 months after the origination of the senior debt or the most recent supplemental and through the same agency.
A supplemental loan is not the same as a refinance. The supplemental loan is a second loan and the original debt stays in place. A refinance is replacing the original debt with a new loan.
Pros of getting a supplemental loan:
Converts equity created in property to cash that can be distributed and/or used for further capital improvements: The entire purpose of supplemental loans, refinancing or sale is to access the equity created in the asset. Supplemental loans are one of the ways to do that.
Supplemental loans close quicker and with less risk than a refi: Supplemental loans require less due diligence and underwriting than a refinance. For a typical supplemental loan, the lender will order an appraisal, physical needs assessment and T-12 financial review. With a refinance, the same is required, but additionally full underwriting on the sponsor and due diligence are required, which add both time and risk to not being able to secure the refinance.
Supplemental loans are less expensive: Similar to the speed in which they close, supplemental loans have lower closing costs than a refinance. Because less due diligence is required, the overall fees to obtain the loan are reduced.
Increased LTV helps make assumable debt more attractive to buyer: Securing a supplemental loan increases the loan-to-value on the property. Normally, agency loans are more stringent on their LTV requirements, which are capped around 70% at origination. In other words, they will lender up to 70% of the purchase price and we put down the remaining 30%. As we implement our value-add business plan and increase the value of the property, the LTV drops below 70%. Supplemental loans generally allow for up to 75% LTV. For example, an agency lends 70% on a $10 million project, which is $7 million, and we put down $2 million. If we increase the value of the property to $13,000,000, the new LTV is ~54%. 75% LTV is $9,750,000. Therefore, we can secure a supplemental loan for $2,750,000. We increase the leverage, which allows us to pull out more equity and allow a potential buyer to assume the senior and supplemental loan with less money down.
Ability to secure multiple supplemental loans: Fannie Mae limited the number of supplemental loans to one. However, if the loan is assumed, another supplemental loan is allowed. Freddie Mac allows for unlimited supplemental loans as long as the most recent supplemental loan was secured 12 or more months prior
Cons of getting a supplemental loan:
Increased debt service: Since the GP is taking out more debt, the debt service on the property increases. However, the same would be true with a refinance as well. Additionally, since these are amortizing loans, versus interest only, monthly payments tend to be higher, even at lower interest rates.
Only available through Agencies (Fannie Mae and Freddie Mac): Only having two lenders available limits the GP’s ability to bid lenders against each other for the best terms. However, because both lenders are government-backed entities, rates are already generally lower than private lenders.
Limited flexibility with exit strategies: Agency loans are ultimately securitized and sold to investors as bonds. Because of this, it adds a hurdle to the exit of the property. A loan assumption is always possible, and if the terms of the existing loan are better than market at time of sale, this typically is not an issue. However, if market rates are lower at time of sale, a defeasance fee is required to sell the property free and clear. This fee is typically paid by the seller.
Interest rates can be higher: The spread on floating-rate supplemental loans tend to be higher than the spread rate on senior debt, thereby making the supplemental loan’s interest rate higher. For fixed rate senior and supplemental loans, the rate fluctuates with the market at time of origination.
Why does Ashcroft secure supplemental loans?
Supplemental loans are a great tool for deals with long-term agency financing on them as it also allows the us and our investors to get rewarded for executing our business plans and adding value to a property.
Normally, agency loans are more stringent on their loan-to-value (LTV) requirements than private debt funds (bridge financing) and those loans are normally capped around 70% at origination. As we continue our business plan and the overall value of the property increases, that LTV shrinks below the cap at origination, thus creating an opportunity for the us to obtain a supplemental loan.
On supplementals, we can go up to 75% LTV if the DSCR also allows, therefore a supplemental is a great tool to reward us and our investors for good performance while methodically adding leverage to the deal in careful manner. Supplementals allow us the ability to distribute equity back to investors which lowers their overall basis.
The idea of buying investment properties and watching cash flow from them into your bank can no doubt be exciting. However, the process isn’t that simple.
If you want a prospective income property to actually produce income for you, it’s critical that you determine what the return on your investment, or ROI, will be first. This includes your return on time. If the potential ROI looks good, then you can feel good about moving forward with the deal. If not, you can avoid financial heartache.
The question is, how exactly do you go about calculating real estate investment returns?
Calculating Your ROI
When you’re trying to calculate your cash-on-cash return, you need to look at a couple of numbers. The first one is the cash flow you’ll generate based on the initial investment. As an example, let’s say that a house you buy will end up generating a couple of thousand dollars each year after you take expenses into consideration (more on expenses later). And let’s say the property’s cost was $40,000. In this situation, your cash on cash return will be 5%.
The second number you need to look at to get the full picture of your ROI is your internal rate of return or IRR. This figure is a mix of both the property’s equity that you build, as well as the property’s cash flow. For instance, let’s say the value of the property we discussed above will increase by a couple of thousand dollars this year. In this scenario, this year’s IRR will be $4,000, or one-tenth of the total you paid to buy the property.
Calculating Your Expenses
When it comes to calculating real estate investment returns, you need to take a variety of expenses into consideration. For instance, if you decide to take out a mortgage on your investment property, you’ll need to factor in the monthly mortgage payment when calculating the investment expenses.
You can arrive at an estimated mortgage payment for a target property if you know what amount you want to borrow and what the interest rate may be. Also, you’ll need to know the loan term and whether you’re taking out an interest-only loan.
In addition, you need to factor in expenses such as property taxes, maintenance costs, utilities, property manager expenses, homeowners association dues, and insurance costs. The current owner of a property that you’re interested in buying may be able to provide you with much of this information.
Calculate Your Real Estate Returns with Confidence
Passive investing is a great way to grow your holdings, income and wealth without taking up too much of your time. But being a prudent passive investor does not mean you don’t have work to do. As a passive investor, you should spend a lot of time vetting multiple sponsors in the field you want to invest in. While this list is not all inclusive, these are questions I recommend you ask simply to understand the risks and aligning the interests of the sponsor with yours as the investor. Check out links at the bottom for more posts regarding how to vet sponsor.
How are you adding value or hedging against valuation reductions and rent reductions?
In January 2020 things were looking great, but by mid-March, most of the country was under stay-at-home orders due to Coronavirus. Business operations were dramatically changed, if not shut down all together. While this is situation is hopefully short lived and a one-off occurrence, planning for such uncertainty should be a part of each deal.
When the sponsor is talking through these hedges, the business plan should make sense to you. As Warren Buffet has said, he only invests in companies he understands. Does the business plan intuitively make sense to you?
Can I run a background check on your key people?
The answer to this should always be yes, without hesitation. You are placing a fairly large amount of your hard-earned money with this group. Confirming there are no red flags in the sponsor’s past should be the first step.
How frequently are you communicating with investors?
Like any relationship, open communication is key. Communication is the key to building trust. Ideally, you receive email updates each month and a less than 24 hour turnaround on any questions.
What is your financial review process?
Does the sponsor have a formal process to review all financials? This does not need to be a 3rd party audit, but having multiple people within the company review financials, and checks and balances for handling funds is the duty of any fiduciary.
What is the “worst case” scenario and how do you try to mitigate that?
Is the sponsor clear with you that you could lose money? If property value drops below the loan balance or cash flow goes negative, is there any additional liability the investors take on? Is the sponsor allowed to require follow-on capital calls and have they ever made any?
Capital preservation should always be the first goal of any sponsor. The upside of making money does not outweigh the downside of losing money. And while every investment has its own risks, the sponsor should be glossing over potential risks.
Can you send me investor references, current and on deals that have sold?
Much like the background check, this should always be answered with a resounding yes, followed by asking how many you would like.
In your return projections, are the numbers presented project level or net to LP?
Most apartment syndications have a handful of standard ways the sponsor gets paid. These include fees at closing, ongoing fees, and a share of the profit. If the sponsor is reporting project-level numbers, the sponsor’s share isn’t taken out and the projected returns will look much better. However, as an investor your primary concern is how much YOU anticipate making. As such, it is important you seek out Net to LP returns for both past deals and proforma for reviewing upcoming deals.
How much liquidity do you keep as reserves in each deal?
Liquidity can take several forms: equity in the deal/loan to value, cash in an operating account, and cash flow from operations. Ultimately, the more cash reserves the easier it is to ride out any downturns. Generally, the lower the LTV, the higher the DSCR, and the larger the operating account or cash reserves, the lower risk the deal is.
How much do the principals or company invest in each deal and at what level?
In order to align interests, you want the sponsor to have skin in the game at the same terms you do. I would not be set on a fixed percentage, as the sponsor’s ongoing fees and profit share help align interests. But should the deal go south, you want to make sure the sponsor is out some of their own cash, not just potential earnings.
Who will be managing the property and how long have you been working with them?
Even in a good economy where valuations are improving through natural appreciation, the single biggest mistake a sponsor can make is installing the wrong management company on the asset. This effect is compounded during down economies. Whether it be lack of focus, inability to execute on the plan, aggressive lease rates that inhibit lease-up, the reasons are infinite that a property manager is not executing effectively.
One way you can mitigate these risks is to understand who that management company is, and how long the sponsor has worked with them. Has the management company been proven over the years? Do they understand and have a record of executing on similar business plans? Ultimately it is the property level operations that will dictate your returns.
How many deals have gone south or sideways, and how did those effect your strategies?
Every sponsor with any track record has a deal or two that have gone sideways, if not fully south. This should be expected. As an investor, you are trying to figure out how they handled the situation and almost more importantly, what they learned and applied from those hard-taught lessons.
There can be countless other questions that come up. Understanding track record of the company, age of the company, and background of the key principals are all important as well. But as the economy has turned, asking these questions should help you understand the integrity of the sponsor and how they are limiting your downside as an investor.
Here are additional resources to fully understand your investments in real estate:
Evan is the Investor Relations Consultant for Ashcroft Capital. As such, he spends his days working with investors to better understand their investment goals and background. With over 13 years in real estate, he has seen all sides of real estate from acquisitions, to capital raising on the equity and debt side, to operations, and actively invests himself. Please feel free to connect with Evan here.
When it comes to most things, buying sight unseen is a huge risk. Unless you’re in a gambling mood, it’s safe to say that this isn’t a great strategy for most deals.
For this reason, it may behoove you to complete in-person real estate market research before making your next apartment deal. That involves actually visiting communities in the markets you currently have your eye on.
Here’s a rundown on what to look for when completing in-person real estate market research and visiting apartment properties.
A Vibrant Business Community
One of the smartest steps you can take when completing an in-person target market analysis is to check the area immediately surrounding the apartment complex you’re thinking about buying. Ideally, your target property will be close enough to retail stores, restaurants, and grocery stores that your tenants will be able to walk to them. Also, make sure that the complex is near mass transportation and employment centers.
Another thing to look for when completing in-person real estate market research is a property that needs a little tender loving care. If some of the maintenance has been deferred, you might be able to purchase the property at a discount. Of course, if you aren’t interested in something that requires serious repairs, look for property that needs smaller touch-ups, such as new carpeting, lighting, appliances, shower surrounds, or paint, for example.
Also, as you walk around your potential investment property, be sure to pay close attention to every detail. Do you notice any issues with wiring, pipes, mold, leaks, or cracks? It is paramount that you know what type of property you’re inheriting, as this will enable you to plan the renovation expenses accurately.
Good Unit Variety
As you complete your in-person real estate market research, double-check to see what the unit mix at your target investment property is like. Search for a building that has a mixture of unfurnished units featuring three bedrooms, two bedrooms, or one bedroom. As a general rule of thumb, it is best to avoid a complex with only studio units, as this will limit your customer (or tenant) base.
Opportunity to Conduct Interviews with Tenants
This is one of the most crucial steps you can take when visiting apartment properties that you’re considering purchasing. Ask the building owner if you can find out from tenants what they enjoy about living in their apartment complex and neighborhood.
Through tenant interviews, you can find out if tenants have been dealing with certain maintenance issues long-term. In addition, you may find out what extra amenities they’d like to see in the units. Some inexpensive upgrades may be just enough to improve your tenants’ quality of life and thus boost the property’s value.
Take Your Property Research to a Whole New Level
As mentioned above, gathering information about a target real estate market in-person can help you to more confidently make a buying decision. Fortunately, you don’t have to embark on your real estate market research journey alone, either. I can help you to master property selection through my leading industry resources, including my Best Ever Apartment Syndication Book.
JPMorgan Chase’s chief marketing officer for the home lending business said “due to the economic uncertainty, we are making temporary changes that will allow us to more closely focus on serving our existing customers.”
What are these temporary changes? To qualify for a residential mortgage at Chase, a borrower must have a credit score of at least 700 and will be required to make a 20% down payment.
JPMorgan is the first large lending institution to announce major changes to their lending criteria. I think a fair assumption is that other large lending institutions will follow suit in the coming weeks and months.
What does this mean for real estate investing and, more particular, apartments?
First, if less people qualify for residential financing, less people will be able to purchase their own homes. As a result, more people will be forced to rent. According to Experian, approximately 59% of Americans have a FICO Score of at least 700. And according to MBA, the average down payment across the housing market is around 10%. Therefore, the majority – and possibly the vast majority – of the population cannot qualify for Chase’s residential financing. Even if someone has a 700-credit score or higher, they may not be able to afford the 20% down payment due to the surge in home prices during the post-2009 economic expansion.
One benefit from buying a home during the post-2008 economic expansion was the increase in the value of the property from natural appreciation. According to Zillow, the average home value increased from $175,000 in March 2010 to $248,000 in March 2020. That is an overall increase of 47%, or 4.7% per year. This means that on average, the value of a home grew by nearly 5% each year. However, the Federal Reserve March consumer survey said home prices were expected to grow by only 1.32% this year, the lowest reading since the survey began in 2013. Therefore, one of the main financial benefits from owning a home has been eliminated, which may make renting more attractive.
16 million people are out of work due to the coronavirus. As a result, the number of borrowers who requested to delay mortgage payments rose by 1,900% in the second half of March. Currently, there has been a federal halt on foreclosures. So the question is, will foreclosures resume before or after these borrowers secure new employment? If it resumes before, many people will lose their homes and be forced to rent.
Overall, tighter lending criteria, the lowest projected home value increase since 2013, and the massive increase in the mortgage delay requests indicates that more people will be renting as opposed to buying in the near future. In fact, we are already seeing this happen. In March, the National Association of Realtors announced that they expect home sales to fall by around 10% compared to historical sales for this time of the year.
What do you think? Do you think more people will be renting or buying post-coronavirus?
Facing a looming recession can no doubt be scary for any business owner, including a real estate investor. After all, you may have worked for years to acquire your current properties, and the thought of losing it all is almost too much to handle.
The good news? It is possible for you to prepare for an economic downturn and potentially come out of it relatively unscathed.
Here’s a rundown on how to succeed with real estate investing during a recession.
Stay the Course with Your Criteria
When it comes to buying property during a recession, make sure you have well-defined criteria, rather than making an attempt to time the market. If you buy according to certain proven criteria, you can better avoid getting into financial trouble no matter how the market happens to be performing.
For instance, pay attention to market cycle stages for your target area. In a market suffering from a recession, you can expect your vacancy rate to increase. Meanwhile, the opposite is true for an expanding market.
Also, try to diversify your assets. In other words, rather than pouring all of your eggs into one basket—for instance, single-family rental properties—make sure that you also pour some money into apartment communities as well.
Invest in Existing Properties
Let’s say you’re seeking real estate investing opportunities during a recession but can’t seem to locate any deals. In this situation, consider investing some of your cash into your existing rental investment properties instead.
This may decrease your costs or increase your rent prices. Ideally, the investment you make in the property should make it stand out even more to potential tenants so that you can keep your property as in-demand as possible during an economic downturn.
Make Sure That You Can Access Money
Another way to prepare for a recession is to avoid spending and focus more on saving. Cash reserves can come in handy for taking advantage of any new deals that come your way.
In addition, consider getting a credit line on one of the investment properties you own. A credit line can be helpful because you only have to worry about paying interest if you use this money. This can give you access to capital right away if you need it for a major unexpected repair, for example, during your recession.
Recession-Proof Your Real Estate Investing Business
Although recession fears remain strong, your confidence in your business—and the business itself—can remain just as strong. I’m here to help you to navigate an economic downturn by showing you how to approach real estate investing during a recession, including buying new property during a recession.
Whether you’re new to the biz or you just feel like it’s time to revisit your strategy and gain as much knowledge as you can, there are some great resources available to help you learn real estate investing and make sure that your business is headed down the right path.
One of the best moves you can make is to look for top-tier real estate investing education books. Why? Because books have the potential to change how you think. You spend a lot of time in the mind of the author, learning how he or she thinks about the real estate industry. Since the author likely experienced success personally, you can receive tried-and-true insights that can help you do the same.
However, when you get a new book, make sure that you don’t simply read it. At some point, you need to start putting what you’re learning into practice. That’s why no-fluff texts with actionable tips, such as my Best Real Estate Investing Advice Ever, are ideal.
A real estate advice blog is another excellent resource for those wanting to learn real estate investing. Blogs weren’t as common a decade ago, but they are everywhere now. These collections of posts are perfect if you’re seeking free information from industry experts. A top-notch blog will show you how to raise money from investors, choose the right property, and manage your investment properties like a pro.
Podcasts, like the Best Ever Show, are another excellent tool if you’d like to learn real estate investing. These audio shows, which you may listen to on your phone or online, have immense power to inform and help people. For instance, you can learn how to balance real estate investing and a regular job, as well as how to deal with flip or rental properties. The great thing about podcasts is that you can easily listen to them during your morning commute or even at home while you’re doing chores, so they are convenient for any on-the-go person.
Increase Your Investment Expertise
Now is an excellent time to start sharpening your real estate investing skills, and the free resources available here can help. Check out the most recent episode of my podcast or read helpful articles published on Forbes to learn real estate investing inside and out.
As a syndicator, you realize that where you purchase your next apartment community is just as important as the type of asset class you invest in. After all, your neighborhood of choice can either make you or break the success of the deal.
However, figuring out which neighborhood may become your next gold mine—well, that can understandably seem complicated. Fortunately, it doesn’t have to be.
Here are a few key steps for completing a neighborhood analysis online before you make your next investment.
An essential step here is to determine the prices of apartment communities and homes in the neighborhood you’re eyeing. Take a peek at how much properties in the neighborhood sold or rented for this year versus past years.
Start by reviewing the top 10 apartment markets to target if you’re in search of the very best neighborhoods in the United States today.
Another factor to consider when completing a target market analysis is how easy the neighborhood is to navigate. After all, this has an impact on your future tenants’ quality of life.
For instance, how many eateries are within residents’ walking distances? Also, how extensive are the area’s bike paths? What are the neighborhood’s transit routes, and how far can you get via a train or bus in half an hour? Neighborhoods that make traveling easy are generally a win for today’s real estate investors.
When it comes to completing a neighborhood analysis, be sure to look at how much people are paying for property taxes. This is important because this will tell you how much of your cash flow will be going to the local government rather than to your business coffers.
While conducting your online real estate market analysis, make sure that you also take a look at the crime rate in the neighborhood you are interested in investing in. The city in which your neighborhood is located may offer a helpful crime map that shows how frequently different kinds of crime happen in the area.
The Federal Bureau of Investigation also offers crime reports that may show you how many criminal acts were reported in various neighborhoods. The public website on sex offenders created by the United States Department of Justice will also tell you how many sex offenders are living in certain neighborhoods. Obviously, the lower the crime rate is in a neighborhood, the more attractive that neighborhood will be for investing purposes.
Become a Pro at Analyzing Neighborhoods
As you embark on the real estate investing process this spring, it is critical that you develop your skills in performing an online real estate market analysis. Only then will you increase your chances of making smart buys.
Tune into the Syndication School with Theo Hicks to learn even more about the neighborhood analysis process.
As everyone knows, the world has changed dramatically in a very short amount of time. It started with some warnings about a respiratory disease spreading across the Pacific Ocean, but quickly jumped coasts and ground our economy and country to a halt.
When I am speaking to our investors, my goal has always been to understand their goals and problems first, and then offer solutions for those goals and problems. However, as Coronavirus and the economic fallout has become the only news reported, those goals and problems have shifted from optimistic (retire early, passive income, doubling money) to conservative (how are you protecting my money).
So what questions are investors asking:
“How has your business model changed?”
First and foremost, Ashcroft and our property management partners are abiding by all CDC, WHO, and local jurisdiction guidelines. We are cleaning common areas and model units more frequently, maintaining more distance during showings, and allowing for work at home for our employees when feasible. Additionally, on the asset level we are doing far more virtual showings through tools like Zoom, Skype and Facetime.
On the investment front, we have always maintained extremely conservative underwriting standard. Typically, our exit cap rates assume a 10-bps increase in rate per year over our initial cap rate. For example, if we assume that we hold a property for 5 years, the exit cap rate is generally 0.50% higher than our initial cap rate. This makes the conservative assumption that the market will be worse when we sell when we purchased the property. When researching market rents for our renovated units, we historically underwrite rents that are below competitive properties in order to create projections that we are very comfortable that we can obtain. Additionally, the loans that we place on our properties are generally very flexible and help get us through slower periods.
As the markets adapt to a post-COVID 19 world, we will continue to use conservative assumptions when underwriting new potential acquisitions. Depending on the market and property, we may decide to further adjust vacancy, bad debt, rent growth, and renovation premiums to more accurately reflect the recovery of the markets.
Finally, for the assets we are looking at, we have not changed. These Class B assets in Class B neighborhoods have historically shown to withstand recession pressures best. With median household incomes in the $80,000 range, our tenants tend to not be the “first hit” when economic downturns arise. They have savings and can withstand a short period of uncertainty.
“With all the uncertainty, how are you protecting my investment?”
It starts with our conservative underwriting. Then we take it a step further. We run a detailed sensitivity analysis to understand how far off we can slide on rents, occupancy, and cap rates. When analyzing a deal, we look back at previous recessions, and confirm that we are still able to break even if occupancies fall below the low point of prior recessions. In our markets, the lowest occupancies were 87-89%. This allows us a certain level of comfort and certainty to maintain positive cash flow and distributions, thereby allowing us to ride out any downturn and never forcing a sale.
“What are your thoughts on how things will play out?”
We do not have a crystal ball. But we do have data from the 2008 recession, which was not only kicked off by the credit crisis, but additionally we had the H1N1 global pandemic spreading in the spring of 2009. Multifamily as an asset class faired the best of all real estate during the last recession. After their grocery bill, the second bill consumers pay is rent.
In the near term, we understand that consumers and our tenants will feel some pain, as everyone is, and we are adjusting our underwriting on assets to account for this with increased vacancy, bad debt and lower market rents.
“Is real estate a good investment in these uncertain times?”
We continue to be bullish on multifamily real estate. While people may choose to not open a new retail store, or expand their company needing more office space, people will always need a place to live. When we provide a clean, modern space with all of the amenities of the newly built complex, but at 30-40-50% less in monthly rent, we will continue to see strong leasing momentum.
Additionally, we are not relying on market appreciation for our investments. We view each property as a standalone business; one which we know how to grow income. Regardless of the market cycle, we can add more income by implementing our value-add investment strategy and force appreciation. And that stronger income stream will always have a value to a future buyer, even if the cap rates relax.
You’re eager to take your real estate investing efforts to the next level this year, but you need money to make that happen. The problem is, you’re not completely sure how to go about raising capital for real estate.
What You Need to Know About Real Estate Investing and Securities
If you raise money from private investors to purchase an investment property, your investment is a security if it meets the following criteria. First, the investment must involve money. In addition, you should expect to generate profits from your investment. Third, money is being invested in a single common enterprise. Finally, the profit generated stems from a third party’s efforts.
Simply put, any time you’re raising capital for real estate from investors and you make decisions for both you and them, you have created a security.
If you have a security on your hands, you are legally required to register it with the United States Securities and Exchange Commission. Unfortunately, registering your public offering can become an expensive and prolonged process. However, you may be able to avoid the registration process if you qualify for a registration exemption.
Rule 506(b) refers to Rule 506 of Regulation D. This is an SEC exemption that allows you to avoid registering your security if you offer it exclusively to countless accredited investors and 35 or fewer non-accredited investors, or sophisticated investors.
Note that an accredited investor is a couple or individual whose net worth totals a million dollars, excluding his or her primary residence. This type of investor should have earned more than $200,000 per year for the past two years and should expect to do the same this year. In addition, a couple who has earned $300,000 together for the past two years are considered accredited investors.
When raising capital for real estate, you can raise as much money as you want from accredited investors without having to register your offering. In addition, your accredited investors may come from all states. Note that sophisticated investors, or non-accredited investors, are simply people who report having superior knowledge about financial and business matters.
Excel in Real Estate Investing This Year
I successfully raised more than $1 million from private investors to complete my first multi-family real estate deal—a unique feat. Now, I can help you to also successfully raise money for your real estate deals through my Best Ever podcast and educational blogs.
You see the writing on the wall of the global economy, and you can’t help but wonder how the current recession will impact your real estate assets.
How exactly can you keep your rental investments healthy during a recession? Is it even possible?
The good news is that you can indeed keep your rental investment in tip-top shape, no matter how the economy is performing. You just have to be a little flexible.
Choose Your Tenants Wisely
It’s essential that you target the best tenants for your rental properties during the recession because your success relies on regular rent payments and reliable, long-term renters. When a potential tenant completes an application, verify their income to ensure that they will be able to pay their rent on time. Follow up with their references to determine if the applicant is responsible.
You’ll know the individual is a good fit if they have a history of taking care of their property, have a regular income, and plan on staying in a unit for at least 12 months.
Look at Your Rates
Consider also offering longer leases and even lower the rates for your rental investment. This can be instrumental in securing income for yourself and riding out the recession. As an investor, you might want to test a variety of pricing strategies during this time. That might even include temporarily waiving rental fees for tenants who are struggling in the failing economy. As you show your flexibility and support, good tenants will be encouraged to renew their lease when it’s time.
As you navigate the recession, make sure you have money stowed away for a rainy day. The truth is, you may not be able to keep all of your rental investment units full at all times. In addition, you may need to cough up money for large, unexpected building repairs. For this reason, it is paramount that you have plenty of cash reserves. Avoid borrowing from a lender to install a new roof or new furnace, for example.
As a general rule of thumb, if you run your rental investment property well, you will keep your tenants, and the rental income you receive will help you to weather any economic storm. During recessions, people often cannot afford to buy homes. So, your rental properties will likely be enticing to those looking for housing.
Also, rentals today are in demand, whereas the supply isn’t great. This means rent prices are on the rise, which is great news for landlords going through the current recession.
Learn How to Succeed as a Landlord in Today’s Economy
Now couldn’t be a better time to hold onto your rental investments. If you manage your real estate properly, the current economy will likely be very kind to your assets—perhaps even more than it is when we’re not in a recession.
Check out our Apartment Syndication School for the latest tips for real estate investors, and discover more about how to keep your rental investments thriving more strongly than ever in the months ahead.
You’ve worked so hard to acquire your real estate properties, and you’re looking forward to generating money from them. However, in the back of your mind, you wonder if you’ve taken the necessary steps to fully protect these assets.
Fortunately, by taking the right steps towards real estate asset protection, you can rest assured that both you and your valuable properties will be safeguarded against any possible lawsuits.
1. Liability Protection
Considering the importance of asset protection, one of the smartest moves you can make if you own real estate assets is to establish a limited liability company, or an LLC, if you haven’t done so already. Why transfer a title to an LLC? Let’s say one of your tenants ends up slipping and falling on your property. Having an LLC in place is critical for protecting yourself against the negative consequences of a lawsuit that this tenant may file against you.
2. Maintain Your Liability Protection
Of course, initially setting up your LLC is only half the battle in your move towards real estate asset protection. You actually need to maintain your LLC as well, if you want it to work for you long term. For instance, you need to pay the state your annual fee. Also, make sure someone is keeping minutes at your company meetings and identify the resident agent you want to accept any lawsuit notice on your behalf.
Failure to do the above will cause your company to no longer be in good standing. As a result, a lawsuit that is successfully brought against you may cause you to lose all of your business assets and even some of your personal assets. So, remember to take care of your LLC and your LLC will take care of you.
3. Estate Planning
Estate planning is another proven tool for protecting your assets. For instance, you can set up a living trust and put your LLC into your trust. This will allow you to identify what or who specifically should receive your assets should you pass away. It may also decrease your probate expenses and drastically decrease estate taxes.
4. Equity Stripping
Another avenue for real estate asset protection is a process known as equity stripping. With this method, you can set up your LLC and then have your company mortgage your investment property’s equity. This essentially strips any equity from your properties.
The benefit of equity stripping, also known as an equity transfer, is that the smaller your equity amount is, the smaller your chances of facing litigation will be. After all, debt is essentially a type of asset protection, so go ahead and create it yourself.
5. Pursue Asset Segregation
Finally, when it comes to creating an LLC, note that other people can still obtain all of the assets in your LLC even if they can’t legally touch your personal assets. So, try to separate your real estate assets into separate LLCs. This will give you a much-needed safety net and help to ensure that other parties don’t get all of the investments and assets you have worked so hard to acquire.
Best Ever Conference 2020 Speaker: Andre Reed, Buffalo Bills Hall of Fame Wide Receiver
Lesson #1: Value your huddle
Everyone on your team needs to be on the same page. Everyone needs to know what the game plan is and everyone needs to execute the game plan. Everyone needs to respect each other and listen to each other’s input and feedback.
Champions lead by influence, not authority.
Lesson #2: Know your role
Champions know what they are the best at and what everyone on their team is the best at. Everyone focuses on their strengths for the betterment of the team.
Lesson #3: You win some and you lose/learn some
Champions know that things will not always go according to the plan. They know how to handle things when everything goes wrong and make it out the other side stronger.
Lesson #4: Champions aren’t randomly made
Being a champion is not based on luck. It is not a shake of the 8ball. It comes from hard work and following lesson #1, #2, and #3.
The State of Multifamily
Speaker: John Sebree
Lesson #1 From This Best Ever Conference 2020 Session: New jobs have been the major driver of the economic expansion
There have been 112 months of continuous job gains. Job growth is greater in the south than in the Midwest and northeast over the past three years. However, the US currently has more job openings than people seeking to work because of the disconnect between the skills required for the job openings and the skills of the people who are unemployed.
Lesson #2: Housing construction has fallen short of demand.
From 2000 to 2007, there was an oversupply of 2.5M units. From 2008 to 2020, there is an undersupply of 1.5M units.
Lesson #3: Class C is in demand
Most new construction has been Class A multifamily, so there has been and will continue to be demand for workforce housing, which is reflected by the lower vacancy rate and higher rent growth in Class B vs. Class A.
Lesson #4: Secondary and tertiary markets are in demand
More deals are being done and will continue to be done in secondary and tertiary markets due to the high level of competition in primary markets.
Best Ever Conference 2020 Panel: The Age of Data
Speakers: Michael Cohen – CoStar Group, Jeff Adler – Vice President, Yardi Matrix, Jilliene Helman – CEO, RealtyMogul
Lesson #1: How CoStar collects data
CoStar has over 1000 researchers who are working with the real estate community to collect data, but they are also moving towards internet listings services (ILS) like Apartments.com. They are also using military grade technology, drones, and cars to collect data.
Lesson #2: How Yardi collects data
Yardi has 600 people who independently collect and curate data, which is supplemented with information from property management companies.
Lesson #3: Tips on finding deals
If you are doing broker listed deals, you will overpay and that needs to be offset by focusing on markets with a high net migration.
You can look at Yardi loan maturity data to find owners whose loans are coming due. Come up with a valuation before reaching out to the owner.
Invest in markets where institutional money hasn’t gone to yet.
Fireside Chat: Asset Protection – Shielding Your Financial Empire
Speakers: Ryan Gibson – Founding Partner, Spartan Investment Group, Clint Coons – Anderson Advisors
Lesson #1 From This Best Ever Conference 2020 Session: Invest through a trust or LLC
Sponsors will not ask you if you are involved in a lawsuit, divorce, etc. Investing through a trust or LLC protects your investment from these and other outside concerns.
Setting up the trust or LLC in Wyoming or Delaware creates anonymity. Should you be sued, assets of the LLC cannot be accessed by creditors.
Lesson #2: How to screen a sponsor before investing
Always do a background check on the operator. Always speak with their other investors.
Accelerate Your Success Through Multifamily Syndication
Speakers: Mark and Tamiel Kenney – Co-Founder, Think Multifamily
Lesson #1: Have a strong why
They transitioned from W2 jobs to apartment syndications in order to save their marriage and to spend more quality time with their kids. Now, their clients are an extension of their family.
Lesson #2: Why multifamily is better than single family
Multifamily has better economies of scale. You can secure nonrecourse debt on multifamily whereas you are personally liable for the recourse debt secured on single family. You can hire a 3rdparty to manage multifamily whereas you’ll likely self-manage your SFRs. The value of multifamily is based on performance whereas the value of single family is based on comps. You can go bigger faster with multifamily.
Lesson #3: Why demand for multifamily isn’t going away
Traditionally, people transition from renting to buying when they get married and start a family. Currently, millennials are delaying marriage and starting a family, so they are renting longer.
Lesson #4: You can make more money as a syndicator than as a passive investor
As a syndicator, you can truly make money with $0 down through the acquisition fee, the ongoing asset management fee, and the profit splits. The limited partners must invest money to make money.
15 Strategies That Have Each Created $100M+ of Wealth
Speaker: Richard Wilson – CEO, Family Office Club
Lesson #1 From This Best Ever Conference 2020 Session: Play a unique game
Come up with a way to separate yourself from your competition. You need a hook. Are you offering a unique product? Or you marketing in a unique way? You need to figure out what you can do to differentiate yourself from the pack.
Lesson #2: Create a barrel of fish
One of Richard’s competitors sold their family office for $500 million. The business revenue didn’t support the $500 million valuation. Rather it was the network that was being purchased.
Revenue is great but having a barrel of fish – a strong network – is even more powerful and profitable.
Lesson #3: Find the choke point
When you find a situation in business where you or someone else struggles and you have a way to relieve that, it can be very profitable. Find out what someone’s pinch point is and create a business that solves that problem.
Lesson #1: The biggest change in agency debt since the recent recession
Brandi says the biggest change since the bottom fell out in 2008 is more strict lending criteria. Anyone could get a loan in 2006 regardless of their credit score and income. Now, lenders want to do business with people that they know and trust.
Lesson #2: What you need to be attractive to private equity
Michael said that the first question an equity firm will ask him when evaluating a potential deal is “who is the syndicator and what have they done?” They will only invest in deals where the syndicator has a proven track record doing similar deals. And they are targeting mid to high teen IRRs and value-add, opportunistic deals.
He also said that family offices are the best fit for apartment syndicators. Family offices are more entrepreneurial whereas institutions are more difficult to work with.
Lesson #3: You can borrow money from more than just banks
Spencer focuses on helping investors line up non-bank capital. One solid option are life companies. They offer longer term (up to 40 years) fixed rate loans. Interest rates are as low as high 2%.
Breaking Down Waterfall Structures
Speaker: Ryan Smith
Lesson #1: Tip for reducing taxes
Invest in GPs whose distributions are not always considered a return on capital but whose distributions are a return of capital. Depending on the source of the return of capital, it may not be taxable
The Pursuit of Value Investing
Speaker: Scott Lewis – Spartan Investment Group
Lesson #1: Tips on hiring the right team members.
Hire team members with experience, which is a combination of skill and luck. Focus on the skill sets your business needs and hire people with those skill sets. Team members must have good character so that they are ethical and responsible when a deal goes bad. Create a culture with a mission, a vision, and values to attract team members who align with that culture.
Lesson #2: Three questions to ask potential team members
What is your leadership philosophy? Tell me about a deal that went sideways and what you did? Tell me about your due diligence process?
Best Ever Conference 2020 Panel: Stories of Raising Capital
Speakers: Matt Faircloth, Neal Bawa, Ryan Smith
Lesson #1: We are transitioning from a LP market to a GP market
Ryan believes that we are transitioning from an LP-friendly market to a GP-friendly market. Margins are being pinched and are under pressure. As a result, he predicts that GPs will do less deals than they expect this year.
There will be more capital looking for deals than deals available. He thinks the 8% to 10% preferred returns will fall or go away entirely and that we will see more unique passive investor compensation structures in the near future.
Lesson #2: A track record isn’t required to raise capital
Neal says that it is a limiting belief to think that you need a track record to raise capital. No one would ever get started if track records were a prerequisite.
People do not invest in projects, they invest in people. It is the emotional connection you have, how candid you are, how well you come across, and how specific you are that matters.
If you don’t have a track record, tell a potential investor that if they invest with a syndicator that has 18 deals, they will get 1/18 of their attention and effort. If they invest with you, they will get 100% of your attention and effort and you are staking your entire business on this deal.
Lesson #3: Have transparency on social media
Matt says it is important to have transparency on social media because it allows you to build more trust with your investors. Matt shares the good, the bad, and the ugly of his deals on social media sites.
The other benefit is that someone can quickly vet him and his company. If someone Googles his name, they see all of the free content he has shared on YouTube and information on his company.
Lesson #4: You don’t scale by adding more content. You scale by repurposing content
Neal’s objective is to repurpose every piece of content at least 10 times. If he records a 1-hour podcast, he will create 1-minute videos and post them to YouTube. The best YouTube videos are pushed to investors and put into an ebook. The podcast and 1-minute videos are also shared on Facebook and LinkedIn. Etc.
Best Ever Conference 2020 Panel: Investing in Development Deals
Speakers: Scott Lewis – Spartan Investment Group, Kathy and Rich Fettke – co-CEO and co-Founder, Real Wealth Network, Celeste Tanner – Chief development office, Confluent
Lesson #1: Key things a passive development investor needs to know
Development has a higher risk.
The success of the project is in the hands of the City Planner.
It is extremely important to understand the county surrounding the project. Within the county, it is the community surround the project that is the most important.
NextDoor has been very influential in getting information out about projects and stopping the spread of disinformation.
Lesson #2: Difference between entitlements and permits
Entitlements are for land use whereas permits are for building code.
2020 Real Estate Location Trends
Speaker: Neal Bawa – CEO and Founder, Grocapitus
Lesson #1: The Bible got it wrong by one letter
Neal says that it isn’t the meek who will inherit the earth but the geek. All of the world’s richest people are geeks. And all of the best real estate investing teams have a geek.
Lesson #2: Most people use data incorrectly
Neal finds that most real estate investors only use the data that supports their viewpoint and throw out everything else. The best geeks are the opposite. They use data to create their viewpoint.
Lesson #3: The top five metrics of the geek
Neal selects target markets based on what he calls Realfocus metrics.
Realfocus metric number 1 is population growth. Only invest in cities with a population growth of at least 21.25% between 2000 and 2017.
Realfocus metric number 2 is median household income. Only invest in cities with a median household income growth of at least 31.5% between 2000 and 2017.
Realfocus metric number 3 is median home values. Only invest in cities with median home values that have grown by at least 42.5% between 2000 and 2017.
Realfocus metric number 4 is crime levels. Only invest in cities with a crime level index calculated by CityData that has been gradually decreasing and is below 500.
Realfocus metric number 5 is 12-month job growth. Only invest in cities with a 12-month job growth above 2%.
Lesson #4: Two top markets you’ve never heard of before
The two markets that you have probably never heard of before that have consistently had a 12-month job growth greater than 2% are St George, UT and Yuba City, CA. Other top markets are Raleigh, NC, Reno, NV, Gainesville, GA, and Ashville, NC.
Underwriting & Asset Management
Speaker: Frank Roessler – President, Ashcroft Capital
Lesson #1: Why asset management is necessary even if you have a great property management company
First is that the biggest risk point is the execution of the business plan. Everything can be right – the right deal in the right market at the right price – but if you don’t execute the business plan, it will lead to disaster. There are hundreds of moving parts that need to be taken into account when executing a business plan, so you need an experienced and organized asset manager to execute the business plan successfully.
Second is that the property is your baby whereas the property management company doesn’t own the property. No one is going to care for your baby – the property – as much as you.
Lesson #2: Asset management duties when managing a single property
Monitor the key performance indicators, like occupancy, rents, evictions, bad debt, loss-to-lease, etc.
Manage the expenses. There is a range for each expense category and it is the asset manager’s responsibility to make sure that you are not overspending or underspending.
Manage and work with the staff. This includes email and phone call communication but also face-to-face meetings.
Oversee capital expenditures. Make sure the major capex projects are on-schedule and on-budget.
Lender communication. The asset manager communicates with the lender if you are required to cure certain deferred maintenance items, during a refinance or supplemental loan, or if you aren’t meeting your debt service obligations.
Improve the quality of life for your residents. Host events to make the existing residents happy so that they pay rent on time, pay more rent, stay longer, and refer other residents.
Lesson #3: Asset management duties when managing a portfolio
In addition to the duties from lesson #2, asset managers who manage a large portfolio have two extra duties.
First is managing scale. Implement a system of schedules and reminders, creating daily, weekly, and monthly to-do lists. Create an organized file sharing platform where each deal has its own folder and each project has its own subfolder. Delegate tasks to other team members because one person cannot wear all of the hats. Don’t become too emotionally invested. Celebrating win and use problems as a learning experience.
Second is implementing more sophisticated processes. Get a revenue management software like Yieldstar or LRO. Do a cost segregation analysis to accelerate depreciation. Hire a local tax protester to protest the taxes each year. Recapitalize rather than sell so that the taxes remain the same. Do 1031 exchanges into new, like-kind deals to defer taxes. Purchase interest rate caps on floating rate loans. Once you’ve done over $500 million in agency loans, secure a line of credit and use that line of credit to buy more deals to avoid prepayment penalties.
Lesson #4: Do’s and don’ts of asset management.
Crawl before you walk. Work with another institution or start small to gain experience before pursuing larger deals.
Know the best practices of property management so that you know if your property management company is doing a good job.
Work with experienced professionals. Hire people who have past experience rather than hiring young talent who have to learn on your dime.
Conduct weekly calls with your team and with your property management company.
Don’t forget about the residents.
Don’t reinvent the wheel. Follow the proven processes used by other successful apartment investing companies.
Don’t spread your staff too thin.
Don’t be a stranger. Make sure you are visiting your properties in-person once a month.
Next Level Portfolio Management
Speaker: David MacAlvaney
Lesson #1: The good
Unemployment is at a 50 year low. Wages are rising. Consumer confidence is high.
Lesson #2: The bad
Corporate debt is at an all-time high and is not being used productively. Executive confidence is low. The FED’s balance sheet is expanding.
Lesson #3: The ugly
The FED deficit. Banks are relying on central banks which is keeping the market together. Total debts are beyond unsustainable. The ratio of debt to GDP is 320%.
We are currently back to the SFR pre-recession prices when adjusted for 2020.
There is a 3.6% REAL return in the stock market.
Lesson #4: The case for gold
It is insurance against the uncertainty from the bad and the ugly. We are in an uncertainty trifecta: political uncertainty, geopolitical uncertainty, and uncertainty in the financial market.
Best Ever Conference 2020 Panel: Taking The Next Leap
Speakers: Dan Handford – Managing Partner, PassiveInvesting.com, Ellie Perlman – Found and CEO, Blue Lake Capital, Holly Williams – General Manager, MQ Ventures, Vik Raya – Co-Founder, Viking Capital
Lesson #1: What not to do when taking the next leap
Dan said that he will not invest with a GP unless the sponsors work in the business full-time. He doesn’t want to invest with a part-time apartment syndicator. But before quitting your job and going into apartment syndications full-time, be a co-GP first to build your credibility and track record.
Lesson #2: Advice on quitting your W2 job to become a full-time real estate investor
Holly said that she made the decision to quit her full-time job when she was more passionate about investing than she was her job. However, even though she was making over six figures as a part-time passive investor, she was still afraid to make the leap. For her, it was about making a mindset shift as opposed to making a rational, intellectual decision to quit her job.
Lesson #3: The two ways to build relationships with brokers
Vikram spent three years building a relationship with brokers before he did his first deal. It involved conversations on the phone, flying to the market to meet with brokers in-person, wining and dining them, and reviewing their deals and providing feedback. He did everything he could to prove to the brokers that he was serious about closing on a deal.
More recently, Vikram was having a hard time being awarded a deal. He was invited to multiple best and final offer rounds but was never awarded a deal. Then, he decided to meet his brokers in person and gave them a bottle of Don Perignon. Within a week, he was awarded a deal.
Lesson #4: How to overcome last minute challenges
Ellie recently had a deal in Atlanta under contract that was at 98% occupancy. Five days before closing, she discovered that the occupancy had dropped to 82%. Due to the occupancy requirement of her lender, she lost the financing on the deal. Rather than cancel the contract and sue the seller, she renegotiated the purchase price with the seller and convinced the lender to finance the deal. Within 45 days of closing, she was able to increase the occupancy to 90% and was able to demand a higher rent on the newly leased units without having to renovate the units first.
Mindset Mastery for Passive Investing
Speaker: Trevor McGregor – Peak Performance Coach and Business Strategist, Trevor McGregor International
Lesson #1: The four things you must continually check in with
Your mindset. Your values. Your rules. And your emotions.
Thoughts are the seeds of a garden and you reap what you sow.
Lesson #2: The six human needs
Certainty, uncertainty/variety, significance, connection, growth, and contribution. Which of these six are the reasons why you are investing?
Lesson #3: Know your emotional home
If you have a negative emotional home, you are moving away from something, like doubt, fear, and worry. You want to have a positive emotional home where you are moving towards something that you want.
A Holistic Investment Approach to Passive Investing
Speaker: AdaPia D’Errico – VP of Strategy, Alpha Investing
Lesson #1: Understand your intentions
Whatever your intentions are for passively investing should align with the intentions of the sponsors. The same applies to values. You must have the same values as the sponsors you chose to invest with.
This alignment is paramount to making money.
Lesson #2: Have a strong why
You need to have a strong and meaningful enough “why” to weather your doubts during a downturn.
Lesson #3: Intellect and instinct
You need to use your intellect and instincts when you are approaching a sponsor and a deal. You need to use your left brain to fact check the deal, using logic, reason, and analysis. And you also need to use your right brain to gut check the deal, using your institution.
Elite Capital Raising Webinar Strategies
Speaker: Bryan Ellis – CEO and Host of Self Directed Investor Radio, SelfDirected.org
Lesson #1: The myth of rationality
Most webinars focus on the background of the team, the capital structure of the deal, the return projections, and details on the investment strategy. This is all important information to include. But people do not invest rationally, so this is not the information that will persuade them to invest in your deals.
Lesson #2: The alchemy of thought
People do not invest rationally. They rationalize.
First, they have an automatic response to the deal. This reaction is not in their control. It is automatic.
Next, they have an emotional stimulus. This is how they feel about what you are saying about the deal and what you are trying to get them to do.
Then, they think about the data and facts about the deal.
Once they’ve gone through the first three steps, they have their impression of the deal. They will go back over each of the three points, pick out the pieces that make the most sense to them and supports their impression, and ignore the rest. In other words, rationalization.
Then they decide.
Most webinars completely ignore the automatic response, the emotional stimulus, and the impression and only focus on the data and facts. But the data and facts are the least important or the last thing that is considered.
Lesson #3: How to get more capital commitments from fewer investors with less resistance and less time
Create questions in the mind of the prospects that can only be answered by reaching out to you. Don’t answer every single question.
Create urgency by design. Let them know why investing now will be better for them.
Have someone else tell the prospects why they should invest. This should be someone who is more credible than you like someone who is currently investing in your deals.
Best Ever Conference Speaker: Whitney Sewell – Director, Life Bridge Capital
Investment Lesson #1: Have a never give up mentality
Whitney first applied this lesson to his pre-real estate careers as a member of the military, a police officer, a federal agent, and a horse trainer.
When he hired Joe as his coach, Joe told Whitney that it is great to have a never give up mentality but that he needed to focus on putting that mentality into actionable steps. As a result, Whitney started his daily real estate podcast, “The Daily Syndication Show,” which he attributes in part to the growth of this business.
Lesson #2: Scaling a syndication business
Whitney’s second lesson is how to use focus to scale a business. He was a federal agent by day and horse trainer/farmer by night. Once he decided to go all in with syndications, he sold him farm. With this renewed focus, he was able to launch his syndication business.
His other lesson for scaling a business is to find a partner. From his podcast, he discovered that those who had rapid results had a business partner. In fact, Whitney met his partner at his second Best Ever conference.
Lesson #3: Have a why
The mission of Whitney’s company is to help other families through the adoption process. He said that there are 160 million orphans in the world. And the cost to adopt just one child is between $40,000 to $60,000.
Speaker: Glenn Mueller – Denver University
Lesson #1: We are in a lower for longer environment
The three main drivers of real estate demand are population growth, GDP growth, and employment growth. Compared to previous periods of expansion, these three factors are lower during the current period of expansion. Additionally, these factors are nearly identical to the interest rates (i.e., the costs of real estate). As a result, the current expansionary period has been more stable and has exceeded the typical 10-year periods of expansion in the past.
Lesson #2: Look at the important real estate factors constantly
The three metrics that run real estate cycles are vacancy, rent growth, and income. When vacancy is low, rents increase. When rent increases, income also increases.
Since these are the factors that run the real estate cycles, you should be analyzing them on a frequent basis. And the best place to stay up-to-date on these metrics is CoStar. Either purchase a CoStar subscription yourself or leverage a relationship with a broker who has their own subscription.
Lesson #3: Industrial has been the best asset class in the past 5 years
Why? Because of the Amazon and Walmart effect. Amazon’s online business and the resulting increase in Walmart’s online business has benefited the industrial asset class the most.
Investment Lessons Learned from Crowdfunding $2 Billion in CRE
Speaker: Jilliene Helman – CEO, RealtyMogul
Lesson #1 From This Best Ever Conference Session: Find your passion
Jilliene’s father was in the import/export business and always talked about the perils of inventory. At 17 years old, when her father asked her what she wanted to do when she grew up, the said she was going to sell money so that she didn’t have to deal with the same inventory issues as her father.
Lesson #2: Get started
Her first transaction was a duplex in a class D area. Her most recent deal was a $60 million transaction. If she didn’t take the leap and acquire the pretty scary duplex deal, she wouldn’t be where she is today.
Lesson #3: You must try even when you may fail
She was afraid to raise money from family and friends. To overcome this fear and change her mindset, she started parking illegally all over LA. She ended up paying over $1,000 in parking fines but was able to change her mindset around fear and taking risks.
Lesson #4: The proforma is always wrong
To minimize the “wrongness” Jilliene always includes a minimum 10% contingency budget, because you don’t know what is going to happen.
Use a cap rate at exit that is at least 1% greater than the cap rate a purchase.
Reduce the number of units renovated and re-leased per month. Four to six units per month, sometimes up to eight, is a more realistic assumption.
Increase the vacancy and bad debt during the renovations period. Expect more tenants to leave because of the chaos that comes from the construction process. Also, someone who can afford a $600 rent may not be the same demographic that can afford a $800 rent, so expect a lot of tenants to skip
Best Ever Conference Panel: Exploring Niche Asset Classes
Speakers: Brandon Kramer – Senior Associate, Marcus & Millichap, Stuart Kerber – Columbia Ag Investments, Kathy Fettke – Owner, RealWealthNetwork.com, Adrian Beales – LifeAfar
Investment Lesson #1: Tips to invest in agricultural land
Specialize in a crop that is in your wheelhouse. Stuart focuses on cherries and apples.
It is better to invest in land that already has the infrastructure rather than starting from scratch.
The more common way to invest in agricultural land is the tenant-lease model, which is when someone buys the land and a farmer leases the land. The less common but more profitable model is the direct investment, which is when someone buys the land and farms the land.
Lesson #2: Adding lifestyle to your investment
Adrian’s first business model is to raise money for hotels in foreign countries where the investors can actually vacation at the investment. His other model is to find and sell apartments to his investors in foreign countries. The investors benefit from both returns and a lifestyle experience.
Lesson #3: The resurgence of suburban offices
Suburban offices have been looked down upon during the last few years. However, once millennials start having kids and moving out of the urban core, suburban office will have a resurgence.
The Unknown Unknowns of SEC Law
Speakers: Dugan Kelly – KellyClarke Law, Merrill Kaliser – Kaliser & Associates, Robin Sosnow – Managing Partner, Sosnow & Associates
Investment Lesson #1: Using an online platform to advertise your investment
There are online platforms, like CrowdEngine, that help apartment syndicators advertise their 506(c) deals so that they don’t have to start from scratch.
Lesson #2: You need to be careful with the intent behind a post as a 506(b) syndicator
With 506(b) offerings, you cannot drive traffic to your deal or website when posting on social media but you can talk about putting a deal under contract or closing on a deal. If you don’t follow this practice, you will lose your exemption and need to change to a 506(c) offering that allows for general solicitation.
Lesson #3: If you have an investor who is not happy, buy them out
The SEC isn’t looking for syndicators who are not in compliance. They get involved if an investor reaches out to them. An easy solution to this disruption is to buy them out, especially if they are a smaller investor. It will save both money and stress.
Lesson #4: If the person investing is expecting a return on investment and that is it, it is a security.
This is different when a few people invest and are actively involved in the deal, which is called a JV.
Actively involved could be someone investing a lot of money who has a say over the fees the sponsor charges (i.e., acquisition fee, asset management fee).
JVs are much more cost-efficient on smaller deals compared to syndication.
Lesson #1 From This Best Ever Conference Session: Tips for evaluating a PPM
Mark focuses on uncovering any hidden fees. He will request a spreadsheet that lists out all of the fees.
Ansa is a return chaser and wants to invest with a syndicator that she believes has a good track record and that she has a good gut feeling about.
Lue actually doesn’t read the PPM. He is more focused on the person who is putting the deal together and that they are trustworthy.
Lesson #2: Major red flags
Mark’s major red flag is when syndicators overpromise or underpromise on the returns. He eliminates anything that is below a 10% return and anything over a 25% return.
To avoid investing with a syndicator who has any red flags, Ansa talks with people who’ve invested in the past, talks to the principal to make sure they are focused on the operations over the sales and that they understand the financial aspect of the deals.
Lesson #3: The importance of property management
A lesson Lue learned on an unsuccessful passive investment was that the property management company makes or breaks the deal. Therefore, having a back-up property management company is a must. If the first one needs to be fired, the back up can quickly take over as opposed to an extended period of time where there isn’t a professional management company.
Mergers, the Ultimate Collaboration
Speaker: Celeste Tanner
Investment Lesson #1: The development companies who were impacted by the economic recession the most were mono-focused rather than diversified
Lesson #2: Merge with a company whose strengths are your weaknesses and vice-versa
When considering a merger, the most important question to answer is “are we complementing each other or are we cannibalizing each other?” Companies who cannibalize each other have the same strengths and same weaknesses. Ideally, one company has strengths that are the weaknesses of the other, and vice versa.
Lesson #3: The two companies need to have aligned visions
Things that they must be aligned on include how to approach profits, investors, financial interests, trust in leadership, diversity of investments, and governance/accountability with board of directors and investors.
Best Ever Conference Keynote: How We Win in 2020
Speaker: Joe Fairless – Co-Founder, Ashcroft Capital
Lesson #1: How to accomplish more
Have a thorn. A thorn is a negative experience that you can draw upon to propel yourself forward. Joe’s thorn was losing money on his first deal – among other things that went wrong with the deal and around the time of the deal.
The three components of a thorn are that it needs to cut deep, it fades over a certain period of time, and you need to document the thorn.
If you don’t have a thorn, manufacture one. If you need to manufacture a thorn, you need to know what the quantifiable objective is for the manufactured thorn. For example, if you don’t read one paragraph every day for a week, you have to hold dog poop in your hand and lick it. (that’s right – I said dog poop).
Lesson #2: How to raise more money
The number one thing you can do to raise more money is to hire a data scientist. We use data to find markets and underwrite deals, so why should you use data to find more investors.
Things to look at include investors who invest multiple times, largest investors, cities they prefer to invest in, lead sources, loan preference, and top repeat investors.
Lesson #3: How to scale your business
Having the right team members impacts your ability to scale a business. That means hiring people who are both talented and a good fit with your company.
You can hire people who are talented but are not a good fit. And someone who was a good fit when you first started your business doesn’t mean they will always be a good fit.
To determine if your team members are a good fit, the two questions you should be asking yourself on a quarterly basis are: (1) are the responsibilities that I hired this person to initially do the same responsibilities they are doing today, and if they aren’t, are they uniquely talented to fulfill those new responsibilities and (2) knowing what I know now, would I rehire this person?
Overcoming Financial Hardship
Speakers: Tyler Burke – Investment Associate, Spartan Investment Group, Josh Davis – Owner, Davis JM Capital, Kevin Bupp – Owner and CEO, Sunrise Capital Investors, Matt Owens – Owner, OCG Properties
Lesson #1 From This Best Ever Conference Session: Quickly scaling an SFR business is inefficient
Kevin Bupp lost it all during the financial crisis of 2007-08. Among many investment lessons learned, one was that quickly scaling an SFR business is inefficient. He owned 120 SFRs spread across multiple counties in Florida. As a result, there were maintenance inefficiencies, management inefficiencies, and financial inefficiencies. That is why he now prefers more recession efficient asset classes like mobile home parks.
Lesson #2: Be aware of where you are in a market cycle
Matt Owens’ business also took a hit during the financial crisis of 2007-08. In hindsight, he realized that his success wasn’t based on a fantastic business model but a business model that only thrived during certain parts of the market cycle. His fix-and-flips were successful because the market was great for the fix-and-flips. When the market was no longer great for fix-and-flips, his company suffered.
Now, he always makes sure the numbers would make sense on his fix-and-flip deals during any part of the market cycle.
Lesson #3: Turn a negative addiction into a positive addiction
Josh’s hardship wasn’t real estate related. He was discharged from the military, fell into drug addiction, and landed himself in prison. Eventually, he learned to turn his negative addiction towards drugs into a new addiction of working harder than everyone else in real estate investing and is about to complete his first active deal.
Exploring Alternative Investments
Speakers: Dan Handford – Managing Partner, PassiveInvesting.com, Roni Elias – TownCenter Partners, Jeremy Roll – President, Roll Investment Group, David McAlvany – Precious Metal Portfolios
Lesson #1 From This Best Ever Conference Session: Making money through litigation
Roni makes money with a publicly-traded litigation company. Each fund has 1000 cases and he has a 90% win rate on 25,000 cases. The IRR on the funds are in the 60%+ range. For example, a personal injury fund could make a 16% IRR in less than 16 months and then 50% or higher over time.
Lesson #2: Making money through ATMs
Jeremy invests in ATMs. The investment funds have a 4 year payback period and 7 year term. The funds result in a fixed cash-on-cash return of 24.5% and an 18% IRR.
Lesson #3: Make money investing in gold
David invests in precious metal portfolios. He likes these investments because they are not tied to the financial markets. If the overall economy worsens, his investments thrive.
Peak Performance with a Special Ops Veteran
Speaker: Alex Racey, First Principles of Performance
Investment Lesson #1: The first principles of performance are eat, sleep, move
These three principals are all tied together. If you are suffering in one, you suffer in all three and your performance suffers as a result.
Lesson #2: The three common performance categories
Most people fall into one of the following three performance categories.
First is “kick the can.” This is someone who was a star athlete in high school or college. They shifted 100% of their focus from athletics to their job. They make a lot of money but their physical, mental, and emotional health is lacking. They tell themselves that they will eventually refocus on their fitness.
Second is “head in the sand.” This is someone who is overwhelmed by the number of fitness routines and diets and say, “screw it” and decide to ignore them all.
Third is “all good.” They work out and eat well but ignore ongoing pain and issues, like joint pain, back issues, etc. Alex says this is the category he falls into.
Lesson #3: How to optimize your performance.
To optimize your performance, you must optimize your eating, sleeping, and moving. Alex says the best approach is to Google metabolic flexibility for eating, sleep hygiene for sleeping, and minimum effective dose for moving.
Industrial – The Hottest Asset Class?
Speakers: Brandon Kramer – Senior Associate, Marcus & Millichap, Celeste Tanner, John Comunale, Nick Koncilja
Lesson #1 From This Best Ever Conference Session: The nuances of industrial
There is a major difference in returns for 22 ft vs. 24 ft ceilings, having cross-docking capability, and laser leveled floors, for example.
Lesson #2: Warehouses are the best
Warehouses have been the best performing asset class for the last 5 years. And is forecasted to continue as such for the next 5 years.
Lesson #3: Industrial cap rates are close to multifamily cap rates
Due to low construction costs, low operator exposure, and low turnover costs, cap rates on industrial assets are nearing multifamily cap rates.
eQRP, the Business 401k
Speaker: Damian Lupo – The eQRP Company
Investment Lesson #1: Your biggest financial shackle is the IRS
70% of your earnings go to the IRS over your lifetime. eQRP can drastically reduce this number.
Lessons #2: eQRP vs. SD-IRA
Using a SD-IRA to invest with compared to an eQRP is slower, has a lower maximum deposit amount ($6,000 vs. $57,000), and results in a tax bill, whereas eQRP is faster and is tax-free.
Lesson #3: Damian’s rules for investing
Only invest with self-responsible people, have no more than 5% of your capital in any deal, and don’t invest in dangerous places (a security guard was murdered at one of his properties).
Asset Protection Planning for Real Estate Investments
Speaker: Clint Coons – Anderson Advisors
Lesson #1 From This Best Ever Conference Session: Ask the right questions
When you are thinking about protecting your assets, the wrong question is how much will it cost? The better questions is if I get sued tomorrow, how many assets will I lose?
Lesson #2: Don’t put multiple properties into an LLC
You should separate your investments into separate LLCs. If you group your properties together under one LLC, one lawsuit puts all the properties at risk.
Lesson #3: Don’t hold cash in your personal bank account
If you are sued, your personal cash is at risk. Set up a separate LLC and deposit profits into a bank account under the LLC’s name.
Lesson #4: Don’t make offers in your personal name
Set up a separate LLC to make the offers. If you end up walking away from the deal, the seller can sue you personally for damages, especially if the value of property dropped during the time the property was off the market.
You can always assign the contract to yourself later.
Senior Housing – the 3 Best Ways to Get Started NOW!
Speaker: Gene Guarino – Residential Assisted Living Academy
Investment Lesson #1: Everyone will get involved with assisted living in one way or another:
Lesson #2: Own a home and lease that home to a senior housing operator
In doing so, you can charge a higher lease amount than you would be able to charge by using the home as a regular rental.
Lesson #3: Own a home and be the senior housing operator
The average cost for assisted living is $4,000 per month per person, and the resident will pay all cash. Much better terms than your typical rental.
Intellectual Debate: You Will Have Greater Success Over the Next Years If You Sell More Than You Buy in 2020
Speakers: Jamie Smith, Jilliene Helman – CEO, RealtyMogul, Neal Bawa – CEO and Founder, Grocapitus, John Sebree
Lesson #1 From This Best Ever Conference Session: Why you should buy more than you sell in 2020
Only buy long-term value-add deals in quality markets with quality underwriting and management.
When you sell, you lose the future wealth potential and you are taxed on the income.
Three other reasons to buy now is that interest rates are extremely low, there is a huge demand for multifamily but not enough supply, and you will lose 2% each year due to inflation if you are liquid. Even if the returns are lower, it is better than having your money lose value while sitting in a bank account.
You should be playing defensive and investing in asset classes such as mobile homes and workforce housings, which continue to perform during recessions.
Lesson #2: Why you should sell more than you buy in 2020
People are no longer underwriting deals based on fundamentals of property but on aggressive proformas. They are also more leveraged and securing loans with longer interest-only periods, and sponsors are trying to maximize their fees.
The government is continuing to spend our tax dollars to create inflation (i.e., quantitative easing) which is unsustainable.
Rent growth is slowing and expenses are increasing, which means NOI growth is slowing
An economic slowdown is inevitable and you want to have cash to take advantage of the opportunities.
People are now buying overpriced properties from veteran investors who are waiting for a recession.
There is a trillion-dollar debt deficit.
People from get-rich-fast courses are flooding the market.
The FED continues to cut interest rates even though the economy is supposed to be strong. What do they know that we don’t know?
Each month, the US Bureau of Labor Statistics (BLS) releases a monthly Metropolitan Area Employment and Unemployment Report, which includes the current total number of civilian labor force and unemployment by state and metropolitan area (MSA), as well as the same metrics 12 months prior in order to determine the change in the labor force and unemployment over the past year.
The employment situation in a market is an indication of the demand for real estate. People need jobs to pay living expenses, which includes paying for rent. The more people with jobs in the market, the more potential “customers” for us as apartment investors.
BLS releases a lot of relevant economic data on a month basis, which can be found here. You can also view archived new releases for previous years here.
50 states, the District of Columbia, Puerto Rico, and 396 MSAs are included in the data.
Currently, we focus on the Texas and Florida markets for our deals. Here are some interest highlights from their December 2019 report about those two states:
10 states added over 100,000 jobs
#1 was Texas (253,056 jobs) and #2 was Florida (178,978 jobs)
31 states had a reduction in unemployment
19 markets added over 25,000 jobs
The #2 market (Dallas-Fort Worth-Arlington) added more jobs than the total number of jobs added in 40 out of 50 states
The #10 market (Orlando-Kissimmee-Sanford) added more jobs than the total number of jobs added in 34 out of 50 states
The #19 market (Tampa-St. Petersburg-Clearwater) added more jobs than the total number of jobs added in 26 out of 50 states
275 out of 396 markets had a reduction in unemployment
Here is the BLS data for our markets from December 2018 to December 2019
State of Texas
New Jobs Added Ranking: #1 out of 50 states
Total Jobs 12/2018: 13,975,415
Total Jobs 12/2019: 14,228,471
Total Jobs Added: 253,056
Job Growth: 1.81%
Total Unemployment 12/2018: 501,787
Total Unemployment 12/2019: 470,429
Unemployment Rate 12/2018: 3.6%
Unemployment Rate 12/2019: 3.3%
Change in Unemployment: -0.3%
State of Florida
New Jobs Added Ranking: #2 out of 50 states
Total Jobs 12/2018: 10,284,492
Total Jobs 12/2019: 10,463,470
Total Jobs Added: 178,978
Job Growth: 1.74%
Total Unemployment 12/2018: 338,922
Total Unemployment 12/2019: 265,350
Unemployment Rate 12/2018: 3.3%
Unemployment Rate 12/2019: 2.5%
Change in Unemployment: -0.8%
Dallas-Fort Worth-Arlington MSA
New Jobs Added Ranking: #2 out of 396 MSAs
Total Jobs 12/2018: 3,956,122
Total Jobs 12/2019: 4,054,399
Total Jobs Added: 98,277
Job Growth: 2.48%
Total Unemployment 12/2018: 128,944
Total Unemployment 12/2019: 117,547
Unemployment Rate 12/2018: 3.3%
Unemployment Rate 12/2019: 2.9%
Change in Unemployment: -0.4%
New Jobs Added Ranking: #10 out of 396 MSAs
Total Jobs 12/2018: 1,348,435
Total Jobs 12/2019: 1,386,798
Total Jobs Added: 38,363
Job Growth: 2.85%
Total Unemployment 12/2018: 40,421
Total Unemployment 12/2019: 33,987
Unemployment Rate 12/2018: 3.0%
Unemployment Rate 12/2019: 2.5%
Change in Unemployment: -0.5%
New Jobs Added Ranking: #19 out of 396 MSAs
Total Jobs 12/2018: 1,531,930
Total Jobs 12/2019: 1,558,569
Total Jobs Added: 26,639
Job Growth: 1.74%
Total Unemployment 12/2018: 49,086
Total Unemployment 12/2019: 41,111
Unemployment Rate 12/2018: 3.2%
Unemployment Rate 12/2019: 2.6%
Change in Unemployment: -0.6%
You can view the full report for all US states and markets by clicking here.
I recently received a question from a passive investor in one of my apartment syndication deals. They wanted to know the difference between the preferred return and the cash-on-cash return projections.
The investor is correct in thinking that the preferred return and the cash-on-cash return are two difference things. Also, the preferred return and cash-on-cash return function differently for Class A and Class B investors.
In this “Ask The Expert” post, I will include my reply to this investor’s question.
For our deals, we distribute monthly returns. So, we prorate the preferred return monthly. The Class A investors receive their prorated monthly return first and the Class B receive their prorated monthly return second. Let’s take a Class A investor who invested $100,000 and a Class B investor who invested $100,000 as an example. The Class A investor is offered a preferred return of 10%, so they will receive $10,000 per year, or $833.33 per month. The Class B investor is offered a preferred return of 7%, so they will receive $7,000 per year, or $583.33 per month.
There are two scenarios where the Class A and Class B investor wouldn’t receive their $833.33 and $583.33 per month. The first scenario would be if the year 1 return projection is less than the preferred return offered. The second scenario would be if the return projections were equal to or greater than the preferred returns but the actual returns were less than the preferred return. In both cases, the process will depend on what is stated in the PPM. For our deals, the difference between the preferred return and the actual return would accrue and be paid out in the future. Some syndicators will offer this same structure whereas the preferred return will not accrue for others.
After owning a property for 12-months, we will evaluate the year 1 performance of the deal. Any cash flow above the preferred return will be distributed at the end of year 1 based on the profit split structure outlined in the PPM. For our deals, the Class A investors are offered a higher preferred return and do not receive a profit split. The Class B investors are offered a lower preferred return and do receive a profit split. Therefore, profits above the 7% preferred return are split between the Class B investors and the General Partners.
Regarding the cash-on-cash return, we present two cash-on-cash return metrics to our investors – the return excluding profits at sale and the return including profits at sale.
The Class A investors do not participate in the upside and receive a 10% preferred return each year until the asset is sold. Therefore, their preferred return and overall cash-on-cash return excluding and including profits at sale are the same, because they don’t receive a portion of the ongoing profits or the profts at sale. The average annual return paid to the Class A investors is 10% excluding profits at sale and 10% including profits at sale.
The preferred return to the Class B investors is not the same as either cash-on-cash return metrics because they do participate in the upside of the deal. The annual average cash-on-cash return excluding the profits at sale includes the annual preferred return plus the average profit split.
For example, let’s say a Class B investor invests $100,000 into an apartment syndication with a 7% preferred return and a projected 5 year hold. The annual cash-on-cash return projections for year 1 to 5 are 7%, 7.4%, 8.2%, 9.1% and 9.4%. The average of these 5 returns is 8.2%. So the average cash-on-cash return to Class B investors is 8.2% excluding profits from sale.
Additionally, the projected profit at sale is approximately 59% of the Class B investor’s initial investment. This equates to a year 5 return of 68.4%. The average of year 1 to 5 return including the profit from sale is 20%.
The preferred return for year 1 to 5 is still 7%, which is paid out monthly. Assuming the deal perfectly meets expectations each year, the Class B investor would receive no extra distributions year 1, 0.4% year 2, 1.2% year 3, 2.1% year 4, and 2.4% year 5. For our deals, this extra distribution is every 12 months.
However, we re-assess the performance of our deals every 12 months. If the deal exceeded our expectations, we determine how much extra to distribute to our investors. If, for example, we determine that we can distribute 7.2% to our Class B investors at the end of year 1, the extra distribution would be 0.2%. We repeat this process every 12 months and send out extra distributions, if applicable, at the end of each 12 month period. If we projected a return that is greater than the preferred return and hit those projections, the Class B investors will receive an extra distribution. If we exceeded that return projection, the Class B investors will receive an even higher extra distribution.
Overall, the difference between the preferred return and the cash-on-cash return are the profits. The preferred return remains the same throughout the hold period. The cash-on-cash year deviates from the preferred return when the cash flow is greater than the preferred return. In our example, the preferred return is 10% every year for Class A investors, paid out monthly, and the cash-on-cash return is 10% every year. The preferred return to Class B investors is 7% every year, paid out monthly, and the cash-on-cash returns are 7%, 7.4%, 8.2%, 9.1% and 9.4% for year 1 to 5 excluding the profits at sale and 7%, 7.4%, 8.2%, 9.1% and 68.4% including the profits at sale.
You’re an accredited investor who is looking to increase his or her net worth in the new year. The question is, how? Should you focus on securities, like stocks, or should you channel your energy into the potentially lucrative real estate industry?
The truth is, real estate remains one of the best investments available today. So, it only makes sense to fill your portfolio with successful properties this year. Still, you won’t be able to take advantage of the swiftly changing real estate market if you don’t have the foundational knowledge and experience needed to make this happen.
That’s where an investment conference comes in.
Real estate conferences can easily teach you how to generate passive income from rental property, for example. You can also learn how to navigate even the most complex deals.
Here’s a rundown on why real estate properties make excellent investments for accredited investors and why you need to attend real estate investing seminars in the coming months.
Enhance Your Education
One of the biggest reasons why you should attend an investment conference this year is that it will educate you on how to excel in this competitive industry.
Yes, life can get busy, so it’s easy to put your own industry education on the back burner. Deep down inside, you realize how important education is for you to master the real estate investing field. At the same time, you may feel that so many other things in life are vying for your attention—for example, home life, your business, and your children’s extracurricular activities—that you simply don’t have time to attend a conference.
The truth is, you can’t afford NOT to go to an investment conference. Here’s why.
A real estate investing conference will provide you with a large number of resources, education, and information that will transform your thinking and, thus, your approach to business. Many conferences feature keynote presentations, along with breakout sessions and panels that the foremost industry experts lead. Through these sessions, you can discover the most current strategies and resources for generating passive income from rental property and growing your real estate investing business.
As an example, a seminar may emphasize to you the value of creating a detailed business plan for your company. Following the conference, you may become motivated to develop a comprehensive plan and even enlist the help of a dedicated coach to assist you in achieving your real estate investing goals.
Learn How to Solve Problems and Improve Your Portfolio
Another significant benefit of going to a real estate investing conference? You get to surround yourself with smart and giving individuals who are active in real estate.
You can share any challenges you might be facing with your portfolio with the individuals there and get some insight into how to solve it. For instance, you may speak one-on-one with an expert about your need to expand your portfolio, and he or she might offer you the chance to invest with them on their next apartment syndication.
All in all, real estate conferences are an excellent springboard for seeing new possibilities when it comes to producing passive income from rental property.
Grow Your Business (and Passive Income)
Attending an investment conference is also a good idea if you’re looking forward to growing professionally as a real estate investor. After all, you can’t help but grow if you tap into the expertise of other entrepreneurs who realize that real estate remains among the top investments for accredited investors.
In addition, an investment conference gives you a chance to finally slow down by taking a break from your daily grind. Rather than hustling after deals, you can focus on being a little self-reflective. Specifically, you can ask yourself how the information you’re learning can help you to accomplish your real estate investing goals as efficiently and effectively as possible.
Build Your Network
Yet another major reason why accredited investors should attend an investment conference this year is that it will allow them to effectively network.
Being able to connect with experts of various backgrounds and in different niches can open your mind to a number of possibilities when it comes to real estate investments for accredited investors.
While networking with other people, consider how you can add value to their businesses. Also, assess who you’d be interested in meeting and building relationships with. Furthermore, try to focus more on listening and less on talking.
All in all, try to socialize with new people, not just people you already know. And don’t forget to take part in happy-hour times, as they can be as useful for networking as breakout sessions are.
Start Boosting Your Knowledge Through a Real Estate Investing Conference Today
If you’re serious about strengthening your bottom line in the year ahead, it only makes sense for you to take advantage of an investment conference right away.
At the conference, you’ll have the chance to hear from more than 50 influential speakers who can show you why real estate is one of the best investments for accredited investors. You’ll also have the chance to network with fellow real estate moguls from across the globe. With these resources, you can be well on your way to earning passive income from rental property.
Contact me today to find out more about how to experience today’s best real estate investing conference and what your conference goals should be this year.
You’re interested in growing your net worth through real estate, and you’re approaching the prospect with a “go big or go home” mentality, so to speak.
The question is, do you have what it takes to make it happen? And no, we’re not just talking about having gusto and a can-do attitude. We’re talking about what you’ve got in the bank or in your current real estate portfolio.
To be in the best position when it comes to investing in real estate, you need to be an accredited investor or a qualified purchaser.
Let’s take a look at the differences between an accredited investor vs. a qualified purchaser, including what the qualified purchaser and accredited investor qualifications are.
According to the Securities Act’s Rule 501, current accredited investor qualifications include earning an income exceeding $200,000, or earning more than $300,000 in tandem with your spouse, during the past two years. In addition, you must expect to attain the same level of income this year.
Furthermore, the net worth of an accredited investor and his/her spouse must exceed a million dollars. This amount excludes how much the investor’s primary residence is worth.
In addition, an entity falls under the category of an accredited investor if accredited investors exclusively own the entity and have over $5 million worth of assets.
Now, let’s take a look at the difference between an accredited investor vs. a qualified purchaser.
A Rundown on Qualified Purchasers
Qualified purchasers can be either family-owned companies or individuals who own at least $5 million in investments.
Qualified purchasers may also be entities or individuals who invest a minimum of $25 million in private capital on other people’s behalf or for their personal financial accounts. For example, corporations or professional investment managers fall under this category.
Note that, if you are part of a qualified purchaser entity, all of the entity’s beneficial owners must be qualified purchasers. Also, a qualified purchaser can be a trust that is sponsored/managed by multiple qualified purchasers.
Other Important Points
As you explore the difference between an accredited investor vs. a qualified purchaser, it’s critical that you understand what “investments” means for the qualified purchaser. Investments include securities, such as bonds and stocks, along with real estate, cash, financial contracts, futures contracts, and physical commodities.
Also, a term related to qualified purchasers is “qualified institutional buyers.” This type of buyer is any institution that owns and invests at least $100 million in securities. It also refers to a bank that owns and invests securities worth a minimum of $100 million and that has a net worth totaling a minimum of $25 million based on an audit.
Comparing an Accredited Investor with a Qualified Purchaser
Now that we’ve outlined the qualified purchaser as well as the accredited investor qualifications above, let’s look more closely at what makes these two so different, even though they are often viewed as synonymous.
The key difference between an accredited investor vs. a qualified purchaser is that the financial threshold for an accredited investor is a lot lower when compared to that of a qualified purchaser. As a result, becoming an accredited investor is far easier than reaching the status of a qualified purchaser.
In fact, a qualified purchaser is sometimes called a super-accredited investor, since these professionals must attain higher financial levels.
Accredited Investor and Qualified Purchaser Scenarios
Let’s take a look at a few examples of what an accredited investor vs. a qualified purchaser looks like.
One person may have a stock portfolio worth $10 million. In addition, their total net worth may be around $15 million.
Meanwhile, a second person is a wealth manager responsible for investing $22 million for their clients. Some of these clients are not qualified purchasers.
Also, a third person makes $500,000 per year with their spouse and has a net worth of $2 million.
Here, the first individual is a qualified purchaser, as their value of investments is over $5 million. The second person happens to be a wealth manager but, because they don’t invest a minimum of $25 million for clients, they’re not a qualified purchaser.
The third individual is an accredited investor because they earn more than $300,000 jointly with a spouse and has a joint net worth greater than a million dollars.
Become a Successful Real Estate Investor
When it comes to being an accredited investor vs. a qualified purchaser, both roles offer solid benefits in the current real estate market. However, even if you meet the requirements for the net worth of an accredited investor or qualified purchaser, you may be short-changing yourself if you don’t know how to capitalize on deals in today’s dynamic, constantly evolving market.
I have experience working with accredited investors and qualified purchasers who are seeking passive real estate investing opportunities. I will find the perfect apartment property for you to invest in with me, develop a solid plan for boosting the property’s cash flow, and negotiate the real estate deal. In the end, you’ll be able to generate income without having to work a 9-5.
Get in touch with me today to learn more about being an accredited investor vs. a qualified purchaser, including qualified purchaser and accredited investor qualifications, and how I can help you to boost your bottom line as an investor or purchaser in the months ahead.
You’re ready to finally stop spinning your wheels and start bringing in large sums of revenue as a real estate investor. But to achieve this, you need two M’s: motivation and moolah. This is particularly true if you’re seeking to become an accredited investor in real estate.
The good news is that, if you meet the special requirements for becoming an accredited investor, you can reap the many rewards that come with holding this title. Here’s a rundown on the benefits of becoming an accredited investor.
What Is an Accredited Investor?
First, let’s answer the question, what is an accredited investor? An accredited investor is essentially an individual whose net worth, individually or with a spouse, surpasses $1 million. In addition, you can become an accredited investor in real estate if you made more than $200,000 per year during the past two years, or if you and your spouse made more than $300,000 during this period.
Experience Greater Returns
A major benefit of becoming an accredited investor is that you can expect greater returns. Ideally, you should pursue a return greater than 8%, which is the average return received in the stock market. Some development deals that carry a greater risk may give you an internal rate of return of 15 to 25%. The more risk you take on, the higher your return may be.
As long as you educate yourself, work with other experienced investors, and exercise due diligence, you should have no problem experiencing excellent returns. With an average return of 8%, you may double your money in nine years. However, a higher return of 12%, for example, will allow you to double your funds much sooner—in just six years.
Diversify Your Portfolio
Yet another benefit afforded to accredited investors is that they can diversify their investments in this role. Stocks tend to be volatile, but you can diversify your portfolio via commercial real estate investing. Real estate is uncorrelated or less correlated to the stock market, so even if stocks end up tanking, your real estate investments can help to buffer your losses.
Become an Accredited Real Estate Investor
Now couldn’t be a better time to stretch your real estate investment muscles by becoming an accredited investor in real estate. Work with me as I complete my next apartment syndication deal. I’ll help you to make the most of the deal so as to maximize your return.
I control over $700M in property, so I am adept at finding properties, creating plans for improving cash flow, and negotiating deals for winning returns. By working with me as an accredited investor, you can earn money passively—without having to work a 9-5. Get in touch with me to learn more about how I can help you to grow your bottom line as an accredited investor in real estate.
If you’re serious about becoming an expert in real estate investing, you’ll want to start with a general crash-course. And real estate investing books are some of the best resources you’ll have at your disposal as you move along your journey to more financial independence.
Of course, not all books are created equal. Not even close. Fortunately, you don’t have to waste time with the wrong books to finally discover the right books for any avid real estate investor. Here’s a rundown on just some of the best real estate investing books on the market today.
Best Real Estate Investing Advice Ever
Consider adding the book, Best Real Estate Investing Advice Ever, by Joe Fairless and Theo Hicks to your library. This book discusses how you can transition from investing in single-family homes to purchasing multifamily properties. You’ll also learn how to raise funds for a deal, as well as how to be an innovative investor, no matter what your financial situation might be.
Rich Dad, Poor Dad
Develop your wealth mindset with great advice from Robert Kiyosaki when you read his book, Rich Dad, Poor Dad. Discover the power of creating a passive income for yourself, even if you’re not already wealthy, using wise real estate investments.
The Complete Guide to Buying and Selling Apartment Buildings
In Joe Fairless and Theo Hick’s newest text, the Best Ever Apartment Syndication Book, you’ll explore how to access private capital so that you can buy a potentially lucrative apartment community. You’ll learn how apartment syndication works, how to establish quantifiable goals, and how to build a strong brand that will attract passive investors to you. In the end, you should know how to surround yourself with a winning team in real estate.
Become a Successful Real Estate Investor
As you enter a new decade, it’s critical that you take your real estate investing education up a notch if you want to compete like never before. In addition to reading all of the best real estate investing books you can get your hands on, check out the Best Ever Show. We interview real estate experts and entrepreneurs to get their best ever advice that you can then apply to your own real estate business.
Also, consider listening to our newest series, Apartment Syndication School. Learn all about how to complete a syndication deal from start to finish.
As an accredited investor, you’re looking for a place where you can invest your hard-earned money and receive generous returns. But, with a broad field like real estate, you may be left scratching your head as you wonder what the best investment strategy is for your unique goals.
The reality is, if you’re searching for the best accredited investor opportunities, you can’t go wrong with apartment syndication. Let’s take a look at why this is such a timeless investment strategy and how you can start taking advantage of these accredited investor investments today.
Apartment Assets Can Appreciate
One of the top reasons why apartments offer the best accredited investor opportunities is that these assets can easily appreciate over time. When you invest in apartment syndication deals as an accredited investor in real estate, the apartment communities’ market values can be increased, even if your surrounding market area is stagnant. That’s because completing a little work on the property can increase its net operating income.
This is something you simply can’t experience with a single-family property, as residential homes’ values depend on what comparable properties in the area sold for. For this reason, apartment investing is a powerful strategy for accredited investors.
Apartment Assets Are Performing Assets
Another reason why apartment assets are the best accredited investor investments is that many of these properties in relatively strong markets make money before you even make improvements to them. For this reason, these assets are deemed stabilized performing assets. They essentially reduce your risk as an investor.
Ideally, you want to purchase an apartment that currently has a strong occupancy rate. Then, you can simply build on the property by improving the community’s operations and look. This is a better strategy than purchasing a property with a not-so-strong occupancy rate in the hopes of turning the community around. Looking for a strong occupancy rate will, again, lower your risk as an investor and, thus, increase your chances of enjoying robust returns over the long haul.
Start Investing in Winning Apartment Syndication Deals
If you’re on the prowl for the top accredited investor opportunities, investing in apartments can no doubt be an excellent option. However, without a strong knowledge base in this area, you can easily sink rather than swim.
Fortunately, I offer passive real estate investment opportunities where you and I can partner together on a deal. I can help you to find a real estate opportunity that makes sense for your unique situation as an accredited investor in real estate.
In addition, you can schedule a session with me where we’ll create the type of business strategy that will fit your investment and financial goals. Together, we’ll discover the right property type and target market for you so that you can quickly generate revenue and enjoy a new level of financial freedom.
Get in touch with me today to find out more about how to maximize the best accredited investor opportunities available today.
However, once the apartment syndicator has taken a few deals full cycle (i.e., acquisitions to disposition), the door to another money raising option begins to open – private equity real estate.
According to Investopedia, private equity real estate is “an asset class composed of pooled private and public investments in the property markets.” In other words, private accredited investors, institutions such as pension funds and nonprofit funds, and third parties such as asset managers investing on behalf of institutions invest in a private equity real estate fund that is used to invest in real estate.
Experienced apartment syndicators can raise money from these private equity real estate funds to fund their apartment deals.
My company, however, does not pursue private equity real estate funds for the following three reasons:
1. Private Equity Institutions Only Review Deals That Are Under Contract
The main reason why my company doesn’t work with private equity real estate institutions is because they only review deals that are already under contract.
Once an apartment syndicator has signed the purchase sale agreement (PSA) with a seller, the private equity real estate institution will perform their due diligence to determine whether they will provide funding.
This poses a problem for my company.
For us to get a property under contract, we typically have to offer a non-refundable earnest deposit.
If we sign a PSA with a seller that includes a nonrefundable down payment, the private equity real estate institution performs their due diligence, and decide to not fund that deal, we lose the nonrefundable down payment if we need to back out of the contract.
Of course, it is possible that we could lose the nonrefundable down payment by raising capital from a group of individual accredited investors. However, it is less probable because we are raising capital from multiple individuals as opposed to relying on one institution to fund the entire deal. In other words, we don’t need every single person on our investor list to invest to close whereas we would need the institution to invest.
2. Private Equity Institutions Won’t Approve Funding Until a Minimum of 30 Days After Contract
Not only do private equity institutions review deals once they are placed on contract, but they won’t approve or deny funding until at least 30 days after the deal is placed under contract.
Once an apartment syndicator has signed the PSA with the seller, they won’t know if the private equity institution will provide funding for at least a month.
This also poses a problem for my company.
Generally, the number of days from PSA to close is approximately 60 days. We will begin the formal funding period a few weeks after placing a deal under contract and our goal is to secure 100% of the funding approximately 30 days prior to closing. That way, if one or more investor needs to back out of the investment, we have a 30-day cushion to find a replacement.
Let’s say we decided to raise money from institutions instead. Even if they decided to deny the deal at the minimum of 30 days, we’d only have approximately 30 days to raise capital from individual accredited investors. Rather than having the majority or all of the funding required to close 30 days prior to closing, we’d have $0.
As a result, we’d have a compressed timeline to attempt to raise capital from individual accredited investors. It is possible, but much less probable that we’d be able to secure all of the funding required. So, we’d have to back out of the deal and lose our nonrefundable earnest deposit.
3. If the Private Equity Institution Doesn’t Approve, We Lose More Than Just Money
One objection you may have is “well, what if I’m not putting down a nonrefundable earnest deposit? If the institution doesn’t approve, I can back out of the contract without losing any money, right?”
Unfortunately, that is not the case.
When we are 30 days or more into the due diligence period, we have more skin in the game than just the earnest deposit.
First, there are the upfront due diligence costs. Typically, the main due diligence items are completed early in the contract so that we can review the reports and make adjustments to our business plan or renegotiate the contract terms. These due diligence items such as inspections, appraisals, surveys, etc. aren’t free. If we close on the deal, we are reimbursed for these items at sale. However, if we fail to close, that money is lost.
In addition to money, our reputation is also at stake. If we pull out of a deal because we couldn’t raise enough money, our reputation takes a hit with the seller. If the seller owns multiple apartments in the area, we reduce our chances of being award their deal once they decide to sell other assets in their portfolio. If the seller is well known in the local area, our reputation may also take a hit in the eyes of other apartment owners and apartment professionals that they know. “Don’t work with Joe. He wasted 30 days of my time because he couldn’t secure funding.”
Our reputation would also take a hit with the listing broker for similar reasons. Then, we are less likely to get awarded a deal that is listed by that same broker. And since everyone typically knows everyone else in the broker world, we may also reduce our chances of being awarded a deal from any broker.
So it is a double whammy. Not only will we lose our earnest deposit (if it was nonrefundable) and due diligence expenses, but our reputation will also take a hit with the seller and listing broker, at minimum.
Overall, the three main reasons we don’t work with institutions are (1) they don’t review deals until after they are under contract, (2) they don’t approve funding until at least 30 days after the deal is under contract, and (3) we lose money and our reputation takes a hit if they don’t provide funding.
The more you look at your apartment community, the more you feel it’s the right time to sell it. That little voice inside of you is telling you that selling the property now would help you to save on the cost of renting the property out long-term. Plus, it may result in a larger payday than you ever thought was possible years ago, when the market wasn’t as robust.
Or, if you’re an investor who is ready to buy apartment investments, something is tugging at your heart and telling you to go ahead and buy your first community. You have your eyes on a property where you can get a steal of a deal. And the cash flow that comes with owning an apartment would sure be nice.
Yes, those all sound like good reasons to either buy or sell your apartment investment. But the question you should be asking yourself is, when is a good time to buy or sell an investment property?
Here’s a rundown on the best times to buy and sell your apartment investments.
When to Sell
Research indicates that the quantity of real estate market listings increases during the first six months of any year. Then, inventory rises again during the early fall months. In light of this, if you are investing in apartments and would like to finally sell, it is in your best interest to list the property between January and June, if possible.
In fact, consider listing apartment investments between April and June, or during peak season. This will boost your chances of selling these properties rapidly—perhaps 10 to 15 days sooner, compared to the remainder of the selling seasons.
What If You Don’t Get Into the Market in Time?
Let’s say you finally decide to sell your property in July—long after the early spring selling season. In this situation, it may behoove you to simply wait until after the Labor Day holiday. This is generally the second-busiest time for buyers.
Also, if you are at liberty to do so, it may benefit you to remove an unsold apartment community from a listing between July and August and simply relist the property during the fall months. Likewise, if your property isn’t sold by late fall, you might want to pull the listing off between Thanksgiving and February, as buyer activity isn’t as strong during the holiday season and winter months.
There’s no doubt that seasonality has a major impact on when to buy or sell investment property. However, keep in mind that, when it comes to apartment investing, sometimes you have buyers from out of town, and they don’t always follow the same fall/spring selling and buying schedules as those in your local area.
Likewise, online marketing is changing the game. So, you could still experience some success with selling apartment investments outside of these ideal periods.
When to Buy
If you’re looking to buy an apartment investment, your goal should be to complete the deal during the spring months. Why? Because real estate prices are usually lower during these months. As a result, you increase your chances of experiencing price reductions.
Note that price reductions are also relatively prevalent in the months of September to October, when compared with other months.
What About During the Summer and Winter Months?
Although spring and fall are two of the best seasons for buying an apartment community, that doesn’t mean you should avoid looking for a property during summer or winter. The reality is, in the summer and winter, sellers of apartments may be more determined to off-load and, thus, might be more open to negotiating. This gives you an edge as you seek apartment investments.
Keep in mind that, during the summer or winter, there may not be as many complexes on the market. However, many buyers are not hunting for properties during this time, which means less competition for you.
Also, the benefit of buying properties during the holiday season, in particular, is that a seller is often more open to an offer if he or she can picture himself or herself making sales before the holiday season is over. After all, this means that he or she doesn’t have to hold on to on-the-market apartment investments during the cold winter months.
What About the Start of the School Season?
If you’re considering buying an apartment complex once students are back at school, this isn’t a bad time to make a deal, either. Specifically, it may be beneficial to buy during the last week of September. Why? Because many sellers are back from their summer vacations during this time and are, therefore, ready and determined to finalize the real estate objectives they have established for themselves.
In fact, don’t be surprised if you experience a substantial dip in competition from other buyers during this period. You may also witness an increase in the amount of time that properties stay on the market.
Start Selling or Buying an Apartment Investment Today
If you are looking to sell or buy apartment investments, now is a great time to jump into the market. Of course, if you’ve never been through this process before, you may feel intimidated and unsure as to which steps to take first.
Fortunately, I have completed numerous syndication deals. I can show you how to invest in apartments, including how to seal the deal the first time around. Are you interested in apartment syndications? Get in touch with me if you’re an accredited investor looking to add apartments to your portfolio.
Whether you are a passive investor who is interested in learning more about the apartment syndication process or an active investor who is interested in becoming an apartment syndicator, understanding the responsibilities of the General Partnership (GP) is vital.
Passive investors should have an idea of what the GP does and how the responsibilities are split up between the members of the GP in order to qualify the syndication team prior to investing. In other words, is the GP implementing the syndication process properly and in its entirety and are the responsibilities broken up based on the unique skills and background of each member of the GP?
For obvious reasons, understanding the responsibilities of the GP is even more important for active investors who are interested in becoming apartment syndicators. First and foremost, by understanding the main responsibilities of the GP, an active investor can determine which roles they are capable of fulfilling and which roles they will need to have covered by a partner or partners.
I’ve broken the main tasks of the GP into three categories: (1) pre-contract, (2) contact-to-close, and (3) post-closing. Not every single GP will implement every single one of these tasks. However, these are the tasks implemented by the most successful GPs. When applicable, I will provide links to other blog posts and Syndication School podcast episodes that go into more details on a specific task.
Here are the 51 main responsibilities/tasks done by the most successful general partners in apartment syndications:
These are the 51 main responsibilities of the GP in apartment syndications.
If you are a passive investor, you can use this list to generate questions to ask the GP about their business plan, who does what, and why that person has been assigned that responsibility.
If you are someone who is in the process or interested in starting an apartment syndication business, you can use this list to understand what you need to do to create a successful business and to assign each role to a member of the GP based on their unique skills and background.
The major drawback of this compensation structure is that it is a one-size fits-all approach. Accredited investors’ goals fall into one of two categories: (1) invest for ongoing cash flow and (2) invest for upside. By only offering one compensation structure, only one of these two goals can be achieved.
So, to offer investment opportunities that allow our investors to match their investment goals, we decided to offer a two-tiered investment structure: Class A and Class B.
In this blog post, I will outline the Class A and Class B compensations structures, as well as the pros and cons of each so that you can determine which offering is ideal for you.
What is Class A?
Class A investors sit behind the debt in the capital stack. Class A investors are offered a preferred return that is higher than the preferred return offered to Class B investors. Our Class A preferred return is prorated 10% paid out monthly (i.e., 10% of their investment divided by 12, or 0.83% each month). Class A investors have virtually no upside upon disposition or capital events, nor do they receive a split of the ongoing profits. However, in order to be taxed the same as Class B investors, Class A investors are provided with some (but very little) upside. In our deals, the Class A tier is limited to 15% to 25% of the total equity investment and the minimum investment per investor is $100,000.
Of course, other syndicators may offer a different preferred return or have different equity percentages and minimum investments for their Class A investors.
What is Class B?
Class B investors sit behind the Class A and in front of the General Partner in the capital stack. Class B investors are offered a preferred return that is lower than the preferred returned offered to Class A investors. Our Class B preferred return is a prorated 7% paid out monthly after Class A investors have received their prorated preferred return. If the full preferred return cannot be paid out each month (or each quarter, depending on the syndicator), it accrues over the life of the deal. Class B investors do participate in upside upon disposition or capital events. For our deals, Class B investors receive 70% of the profits up to a 13% IRR and 50% of the profits thereafter. The Class B minimum investment for our deals is $50,000 for first time investors and $25,000 for returning investors.
Like Class A, other syndicators may offer different preferred returns, profits splits, or have different minimum investments for their Class B investors.
Class A vs. Class B
Since Class A investors are in front of the Class B investors in the capital stack, they are paid first. Plus, the Class A investors are offered a higher preferred return. Therefore, the Class A tier is ideal for investors who prefer a stronger ongoing cashflow.
Since Class B investors are behind the Class A investors in the capital stack, they are paid what is left over after the Class A investors have received their preferred return. If the full preferred return isn’t met, it accrues and is (likely) paid out upon disposition or a capital event. Class B investors are offered a lower preferred return, but they participate in the upside upon disposition or capital events (i.e., supplemental loans or refinance). Since they participate in the upside, the overall return over the life of the profit is higher for Class B investors. Therefore, the Class B tier is ideal for investors who want to maximize their returns over the life of the investment.
“What if I want a strong ongoing cash flow AND participate in the upside?” For our deals, passive investors are allowed to invest in both Class A and Class B. For example, you can investor $75,000 as a Class A investor and $25,000 as a Class B investor.
Offering two or multiple tiers in apartment syndications allow passive investors to select the investment option that meets their financial goals.
For our deals, we offer a Class A and Class B tier. Class A Investors are offered a higher preferred return that is paid out first but do not participate in the upside. Class B investors are offered a lower preferred return that is paid out after Class A returns and do participate in the upside.
Class A is ideal for investors who want a stronger ongoing cash flow and Class B is ideal for investors who want a stronger return over the life of the deal.
You’ve owned excellent apartment assets for years, but now, you’re ready to make a change. Specifically, you and your fellow investors are ready to sell so that you have more cash on hand for future deals. As with any other business venture, though, your main challenge is figuring out how you can drum up business.
Yes, mastering how to market apartments is no easy feat. But that doesn’t mean it’s impossible to draw in the right buyers. With the combination of a go-getter attitude and the right strategies, you can find people who would be more than happy to purchase your apartment investments.
Here’s a rundown on how to generate real estate leads for your apartment deals.
Advertise on Social Media
As we embrace a brand-new decade—the 2020s—it only makes sense for you to capitalize on the far reach of social media to generate leads. Here are a couple of social media tools that you can take advantage of as you explore how to market apartments.
Use Facebook ads to target investors based on factors like demographics and location. You may also search for potential buyers by page—for instance, anyone who is following a commercial real estate investing page. Likewise, you can retarget people who have previously visited your page.
Your main goal with Facebook ads is to draw as many people as possible to your page so that you can easily connect with potential buyers. In fact, a well-optimized Facebook advertising campaign can be less costly when compared with Google’s AdWords services, although the latter does offer some benefits (more on that later).
If you’d like to learn how to generate real estate leads, note that LinkedIn is another excellent social media tool for drawing prospective buyers. LinkedIn ads are a bit more expensive than Facebook ads, but they are great for targeting very specific audiences according to their skills, interests, job positions, and locations. For instance, you could easily launch a LinkedIn ad campaign where your ad will appear in front of any commercial real estate investor in a certain city.
Also, those searching for new leads have often experienced great success with a LinkedIn tool known as the LinkedIn Sales Navigator. This platform can help you to rapidly generate leads by engaging commercial real estate investors, brokers, and tenants at scale.
Advertise Using Google AdWords
Google offers a huge advertising platform for reaching customers via pay-per-click campaigns. You can use keywords that your prospective buyers are likely searching for, such as the property-specific “apartments for sale in New York.” This can quickly increase your reach, thus driving potential buyers to your real estate website. These individuals can then be converted into leads. With the right keywords, it’s possible for you to get an excellent return on your investment.
Exhibit at Events/Conferences
If you’re still wondering how to generate real estate leads, you may also want to take advantage of opportunities to exhibit at local events and national conferences related to the commercial real estate market. This is a smart move because it gives you exposure to large audiences of prospective buyers and thus presents stellar opportunities for generating direct leads. Moreover, establishing yourself as an experienced investor might make it easier for you to quickly drive sales following the event.
What to Do Before the Event/Conference
Before you take part in events and conferences, you may want to conduct some research to determine who else will be participating in them. Then, set up meetings with those you’re interested in working with so as to make the most of your time with them. Many conference organizers provide attendee rosters at a cost, so be sure to ask for these lists of warm leads.
Take Part in Local Networking Events or Host One Yourself
If you’re not able to exhibit at a certain event, you can still network. If you’re exploring how to market apartments, keep in mind that local meetups for small businesses, local conferences, and seminars related to real estate can allow you to connect with potential partners and leads. This is excellent for building your professional and personal network.
As mentioned earlier, be sure to set up meetings prior to the event with those who will be attending. Also, make sure that you follow up with them after the event, as this is key for converting connections into partnership and selling opportunities.
Alternatively, consider hosting your own event. Your goal when leading an event should be to provide value to your attendees as well as give them plenty of chances to network. You’ll gain a lot of exposure as a result, and this will be invaluable for generating interest and new leads.
Start Generating Leads for Your Apartment Deals Today
If you’re serious about learning how to generate real estate leads, now is an excellent time to put the tips above into action and start unloading your properties.
The good news? I have extensive experience with both buying and selling apartment investments, so I really understand the ins and outs of the biz. I know what works and doesn’t work when it comes to drawing buyers in every season, and I am excited to share my knowledge with you to help you to make your property selling dreams come true.
Obviously, I’m not just passive. Since I’m the co-founder of Ashcroft Capital, I take a very active role in the business as a general partner (GP). But I have passive dollars as a limited partner in our deals. By a long margin, the majority of my personal money is allocated to investing in my own deals with Ashcroft Capital.
That said, I invest in other people’s deals as well. In fact, as of this writing, I have $818,500 invested in 14 non-Ashcroft deals.
And I do it for three reasons.
1. Makes Me a Better GP on My Deals
First, by investing as an LP in other people’s deals, it makes me a better GP on my deals. As an LP I see first-hand how other GPs organize and execute their deals. Some of the things I am exposed to are:
Initial email announcing the deal – How do they write the email? How is it designed? What does it say? What doesn’t it say? What is their call to action?
The signup process for investing – Do they use an investor portal? If not, what do they use? AdobeSign? DocuSign? Something else?
Deal presentation to investors – I do not attend the new deal presentation. But if I did, I would learn how the deal is presented and what presentation service they use (conference call or webinar, live or recorded). The reason why I don’t attend the presentation is because I prefer to read the information and base my investment decision on that. Plus, I don’t receive investment opportunities from anyone that I wouldn’t invest with because I’ve already screened the operator. Once a new deal hits my email inbox, since I have already vetted the operator, I only vet the deal.
Ongoing communications – Do they send monthly updates, quarterly updates, or sporadic updates? I have invested with one operator whose communication was sporadic and the deal didn’t perform as well as my other passive investments. I won’t be investing with them again – lesson learned though! If they are sending monthly or quarterly updates, what are they including in those updates? What financial reports do they proactively send?
Distributions – Do they send monthly distributions, quarterly distributions, or some other distribution schedule? Do they send the distributions via check in the mail or do they offer direct deposit? I hate getting checks. I prefer direct deposits because it’s easier to track and doesn’t require an extra time commitment. Do I get paid when they say I will? For example, some GPs do quarterly distributions but the investors don’t actually see the money for a month or two due to processing.
What happens when things don’t go according to plan – Do they go dark? Do they clearly communicate the problem and the steps they are taking toward the solution? Investors want to be told succinctly and in a straight-forward manner what is going on at the property. They want consistent updates. If communication slows down when challenges or issues arise, that is a red flag and is something I’ve experienced with one of my passive investments.
2. Test Drive Other Markets
The second reason I invest in other company’s deals is because it lets me test drive other markets. At Ashcroft Capital, we are laser focused on five markets – Dallas, Fort Worth, Tampa, Orlando and Jacksonville (here is the process we use to select target investment markets). Because of our laser-focused approach on those five markets, we don’t have opportunities anywhere else at this time. However, should I want to see how other markets are performing for other operators, this is a great opportunity to get in a deal or two in a market I’m curious about to see any challenges other operators have. This helps me gain first-hand knowledge about some additional considerations about new markets should be start exploring outside our current five markets.
3. Strengthen Relationships with Influencers
Third, by investing with other GPs I am strengthening my relationship with influential people in my industry who are also putting together deals. I live in a world of abundance. And by investing with other GPs, it allows me to help them grow their business while staying in touch with them in a relevant way since I am now one of their LPs.
Other Takeaways From Investing in Other GP’s Deals
Here are some specific observations I have made as a result of investing in other GPs deals:
One operator sent out a deal. I said I’d invest. Then after a month or so they sent a follow-up email saying they are pulling out of the deal. It was a thorough explanation of why they pulled out of the deal and it made a lot of sense. The result of the experience gave me even more confidence in them as a GP.
Some of our Ashcroft Capital investors have said they prefer higher preferred returns and don’t care as much about the upside in the deal. I saw an offering from one GP that offered a 10% preferred return for Class A investors, and a 7% preferred return for Class B investors. Class A had virtually no upside but Class B got the upside at a 70/30 split (LP/GP). After seeing that, and talking to other GPs about it, we tested it out on a deal and it was very well received.
One group I invest with does interviews with experts like SD-IRA custodians, property managers, etc. and shares the webinar recordings exclusively with their LPs. I obviously know a thing or two about doing interviews but I don’t have an exclusive interview series just for my accredited investors. It’s something I’m going to implement.
Another operator mailed me the legal documents which I’d actually preferred not happen. I personally want everything digital and if I want to print something out I’ll do it myself.
An operator mailed me a gift with their logo on it. I think this is a miss. I think that accredited investors don’t need or want another mug, thermos, pen, etc. We have the money to buy one ourselves. I think gifts for accredited investors should be much more thoughtful and personalized. I’m working with my team to create a program for our investors that provides thoughtful gifts on special occasions. Perhaps I’ll write about that once we have it implemented.
To summarize, I invest the majority of my own money into my own deals with Ashcroft Capital. However, I find it valuable to invest my own money into other people’s deals because it educates me on ways to improve Ashcroft Capital, lets me test drive other markets and strengthens relationships with influential people in the industry. The net result is our investors at Ashcroft Capital have a better experience with us because I am constantly learning from others and using those lessons to optimize the experience for our investors.
Every 6 months, CBRE releases their bi-annual North American Cap Rate Survey, which calculates cap rates and expected return on cost based on recent transactions and interactions with active investors in markets across the country.
The cap rate is the rate of return based on the income that an asset is expected to generate More specifically, it is the ratio of the net operating income and the current market value of the asset (cap rate = net operating income / current market value). Generally, at the same net operating income, the higher the cap rate, the lower the property value.
In multifamily investing, the cap rate is used by appraisers in order to determine the value of an apartment building being purchased or sold. Therefore, as investors, the cap rate can be used on the front end to help us determine a fair purchase price – although it is not as important as cash-on-cash (CoC) return and, if you’re an apartment syndicator, the internal rate of return (IRR). However, the cap rate is very important on the back end, because it is used to determine how much the investor or syndicator can sell their asset for, which determines how much profit they can make at sale.
Here are the cap rates at the end of the first half of 2019 of the nation’s top 50 tier I, II, and III multifamily markets for Class A, B, and C asset classes .
We’ve all read articles that tell us how much money we would have made if we had invested in a major stock when it first became public. If we would have invested $100,000 in Apple in 2009, it would be worth over $1 million today. However, if you waited and invested that same $100,000 in Apple in 2014, you would have lost over $70,000. So, in order to make huge gains in the stock market, you must “time the market” or, in other words, speculate.
That is one of the major advantages that real estate investing, and multifamily investing in particular, has over investing in the stock market. As long as you follow my Three Immutable Laws of Real Estate Investing, you will make consistent cash flow without having to time the market.
And as evidence to support this claim, here is how much money you would have made if you invested $100,000 into a multifamily building every five years starting in 1985, according to the NCREIF Property Index:
If you invested $100,000 in 1985, you would have made $43,370 in five years.
If you invested $100,000 in 1990, you would have made $26,130 in five years.
If you invested $100,000 in 1995, you would have made $59,260 in five years.
If you invested $100,000 in 2000, you would have made $51,020 in five years.
If you invested $100,000 in 2005, you would have made $18,640 in five years.
If you invested in 2010, you would have made $62,570 in five years.
Since NCREIF began calculating their property index, apartments have seen a positive cash flow during every five year interval, even during the period that includes the 2008, 2009 economic recession. The best five year period is 2010 to 2014 (62.57% NPI) and the worst five year period was 2005 to 2009 (18.64% NPI).
If you are interested in seeing the quarterly NPI breakdown for apartments, other commercial real estate classes, click here.
“Hey Joe. My cousin’s friend’s grandfather’s former college roommate is a Russian Oil Tycoon with a trillion dollars to invest. Do you want me to make an introduction?”
Okay, maybe not that extreme…
While I do receive the majority of my potential inquiries through my Invest With Joe landing page, I also receive inquiries from people I meet who say they or someone they know has a whole bunch of money and either want to buy a piece of real estate or passively invest in one of my future deals.
If you have had some level of success in apartment investing, you do or will run into similar scenarios – even if you aren’t currently raising capital.
Many high net-worth people know the wealth conservation and wealth building benefits of multifamily real estate. However, just because someone has enough capital to invest in your deals doesn’t mean they can, will, or even should invest. In order to determine if a high net worth individual is serious about investing in one of my deals, here are the 11 questions I ask:
1. Do you want to invest in multifamily, value-add projects?
Our business plan is to purchase stabilized multifamily deals that have the opportunity to add value. That is, either increase the income or decrease the expenses by improving the physical property or improving the operations.
Value-add multifamily projects are just one of many syndication business plans. Maybe they invest in value-add deals that aren’t multifamily. Or maybe they invest in multifamily deals that aren’t value-add. If the high net worth individual doesn’t invest in value-add deals and multifamily deals, then my business may not be the ideal fit.
Obviously, if you’re business model isn’t value-add multifamily, then replace “multifamily, value-add projects” with your investment strategy.
Keep in mind that just because they haven’t invested in your investment type in the past doesn’t automatically disqualify them. Instead, you should provide them with a resource that educates them on your business plan (like my Passive Investor Resources Page).
When speaking with a prospective investor, I want to know what their return expectations are. Most high net-worth individuals will be familiar with these two return factors. If their cash-on-cash return and internal rate of return expectations differ greatly from the returns we offer to our limited partners (LPs), our deals may not be an ideal fit.
Of course, you may run into high net-worth individuals who care more about another return factor or care more about capital preservation than the ongoing returns. The purpose of this question is to determine if the returns you offer to LPs are aligned with their return expectations. If they aren’t, this individual likely won’t invest in one of your deals.
3. What is your investment minimum and maximum hold time?
Another important question I ask prospective investors is when they need to receive their initial equity investment back. Generally, our exit strategy is to sell our deals within 5 to 7 years. On some deals, we are able to return a portion of the LP’s initial equity upon a refinance or supplemental loan. However, this question is focused on the investors’ entire equity investment.
If I ask a potential investor this question and they say “I would like all of my capital back within 2 years” or “I don’t want my capital back for 10 years”, then our deals may not an ideal fit.
4. Can you show proof of funds?
I may speak with an individual who claims to be an accredited investor, but doesn’t actually met the liquidity and net worth requirements. Asking for proof of funds is a simple way to confirm their accredited investor status.
If you are doing a 506(b) and are accepting non-accredited investor money, you may still want to ask for a proof of funds. If you have a minimum investment of $50,000 and they send you a screenshot of their bank statement that shows a balance of $15,000, they likely won’t be able to invest in your deals (or at least not in your next deal).
5. Have you invested as a limited partner on a syndication deal?
I ask this question to gauge the experience of the high net-worth individual. From my experience, if I receive an inquiry from someone who hasn’t invested in a syndication deal before, the chances of them investing in one of my deals is very low. Apartment syndication is a complex investment strategy. Heck, the PPM is usually over 100 pages long. It takes time for someone to not only become educated on the syndication investment strategy but to become comfortable with it as well.
I don’t recommend that you reject someone who has never invested as an LP before. However, while it is definitely possible, don’t expect them to invest right away.
6. Are you comfortable investing with other LP’s or would you require to be the only LP in this investment?
The majority of my investors are comfortable investing alongside other LPs or they don’t have enough capital to cover the entire LP equity investment themselves. However, I do have a handful of investors who want to be the only non-general partner (i.e., my business partner and I) LP on the deal.
When speaking with a prospective investor, I like to know if they are comfortable investing alongside 10, 20, 50, or more other investors or if they would like to be the only LP. If it is the former, great. If it is the latter or if they are investing a substantial portion of the equity, I will ask them if they are willing to commit non-refundable equity (we will do the same) to create an alignment of interest to close. Our reasoning is simple – if they are investing all or most of the capital and back out last minute, we have to scramble to find other investors on very short notice.
7. What is the amount you are looking to invest should we both find this to be a good fit to move forward?
I also like to get an estimate on the amount of capital they are able and willing to invest. First, we have a minimum investment amount for all of our deals, so I need to confirm that they will exceed that threshold.
Second, if someone invests more than 20% of the equity required to close, the lender will perform additional due diligence on that person, which includes looking at bank statements and tax returns.
Third, see question 6.
And lastly, and this is more important for investors who are just starting out, the size of deals you look at is dictated by the amount of money you can raise. For example, if you are capable of raising $1 million, your maximum purchase price is around $3 million (generally, you are required to raise 30% to 35% of the total project costs). Additionally, a good rule of thumb is to have verbal commitments equal to 150% of the project costs, because not every single one of your investors is going to invest in every single deal. If you need to raise $1 million, you want verbal commitments of at least $1.5 million. By understanding the maximum amount of money someone is able and willing to invest will allow you to calculate your maximum purchase price.
8. What is your timeframe for investing that equity?
Assuming this high net-worth individual is a good fit, I want to know when they are able to invest their equity. Some people are ready to invest right away. Others may need to liquidate other investments before investing. The individual’s answer to this question isn’t a disqualifier, but if they account for 50% of your verbal commitments and cannot invest in a deal for 12 months, then that will affect your maximum purchase price for those 12 months.
9. (If out of the country) Have you invested in the US real estate market before?
If you are speaking with an international investor, the first thing you need to determine is if your offering type (i.e., 506(b), 506(c), etc.) allows you to accept international money.
If you are able to accept international money, you want to know if this international individual has invested in the US real estate market before. There are extra steps required on the part of the international investor to place capital in US real estate. If they haven’t completed those steps, their capital might be delayed to the point where they cannot invest in one of your deals. If they committed a substantial portion of the equity, that is a huge issue.
10. Should we both think this is a good fit, who is/are the decision maker/s when deciding to invest or not invest?
The answer to this question also isn’t a disqualifier. It just lets me know how to approach this individual. If they are the sole decision-maker, great. But if I know that they have a partner, significant other, or someone else that needs to sign-off on the investment, I want to also speak with that person as well.
They may have different passive investing expectations or concerns than the person I’m speaking with that I would like to know and address upfront, rather than in the middle of the capital raise.
11. Is there anything else we should know about you?
This final question is to obtain information about the potential investor that wasn’t provided in the answer to one of the previous ten questions on this list.
The entire purpose of asking these questions is to gauge the seriousness of the investor. Whenever you send out a new offering to your list of investors or present the deal on a conference call, expect to receive a lot of questions from investors. When you understand each investors’ specific situation, you will have a clear picture on who will and who won’t ultimately invest, which can save you a lot of time and headaches while raising capital for a specific deal.
When it comes to making money in real estate, you generally need to have a healthy amount of capital upfront to make a lot. But who says you have to use your own capital?
The reality is that accredited investors are out there, and, if you know how to work with them, you can easily operate in the major league of real estate investing.
An accredited investor is any high-net-worth party—either an individual or an institution—that can access higher-risk and complex investments. For instance, an individual must have a net worth of over a million dollars to be considered an accredited investor, in addition to earning at least $200,000 during the past couple of years (or $300,000 with a spouse).
For many accredited investors, the prospect of investing in properties is an exciting one. However, they may feel insecure about owning their own properties. Fortunately for them, it is relatively easy today for accredited investors to own partial stakes in jointly funded commercial deals or even invest in funds that focus on these types of deals.
A wide variety of deals are available to accredited investors. For example, they can own parts of the mortgages of shopping malls if they’re interested in lower-risk opportunities. Of course, the lower the risk, the lower the return.
Meanwhile, they can also invest in local fix-and-flip professionals who are selling equity in upcoming projects. This strategy comes with high risk but also a higher return.
The reality is that a mix of property types, risk profiles, and expected returns exist in real estate investing for accredited investors. Here’s a look at a few types of real estate investment projects you can present to these investors so that everyone involved, including yourself, can build wealth and diversify their portfolios.
If you want to attract new accredited investors to your deals, consider the following types of real estate investment deals.
Multi-family Property: offers the greatest amount of stability
Industrial Property: staple of your average investor in real estate
Retail Property: offers more stable returns than office property
Office Property: offers variable returns, but strong ones in a good economy
By the Numbers:
Requirements to be an Accredited Investor:
$1 million net worth
Individual earnings of $200,000 within the past two years
Combined earnings with a spouse of $300,000 within the past two years
Multi-family and Apartment Properties
These types of real estate investment projects have historically featured the most stability of all classes of nonresidential real estate. Why? Because the renter culture is as strong today as it’s ever been. After all, no matter how the economy is doing, people will always need places to live. This makes apartment and multi-family investing a smart engine for creating wealth over the next two to three decades.
In a normal market, residential occupancy usually remains reasonably high. And even if you lose a tenant, this won’t affect your bottom line much. The opposite is true if you invest in single-family residences (SFRs) with the intention of renting them out.
In addition, for most types of commercial property, a tenant lease is either partially net or net. In other words, you can pass most of your operating expenses along to your tenants. This is not true with a residential property, as the property owner must bear building operating cost increases during a current lease.
If you’re wondering what real estate investors look for, note that industrial properties also offer good passive real estate investment opportunities. These deals often require smaller investments on average and also aren’t as management intensive. In addition, their operating costs are lower when compared to retail and office properties (more on these properties later).
A variety of industrial properties are available for accredited investors, depending on how these buildings will be used. For instance, buildings can be utilized for distribution, research/development, manufacturing, and warehousing.
However, a number of factors are important to consider when dealing with an industrial property. For instance, is it functional (is the ceiling high enough) and is it close to key transportation routes? Also, what’s the building configuration like? Consider these items carefully before taking these types of real estate investments to an investor.
Retail properties are also a viable option today, despite recent news reports about the death of retail. The truth is, physical retail is not dead—it’s simply changing.
A number of retail property options exist, including single buildings or large shopping malls that are enclosed. However, right now, the power center retail format is in demand. With this format, retailers occupy bigger premises than they would with the enclosed shopping mall format. As a result, they have a lot more visibility as well as access from nearby roadways.
Several factors drive retail space demand, including the following:
The great thing about retail is that returns from these deals are more stable when compared with those of office properties, for example. This is partly because a retail lease is usually longer. In addition, a retailer is typically less motivated to relocate when compared with office tenants.
Still, office properties do offer some advantages to accredited investors.
Offices are flagship investments for many owners of real estate. Why? Because they are often the highest-profile and largest types of properties. These properties are usually located in office parks located in sprawling suburban areas, or you can find them in downtown areas.
Returns from these types of real estate investment can admittedly be quite variable, as the market is sensitive to how the economy is performing. In addition, these properties’ operating costs can be on the high side. However, office properties may attract accredited investors because, when times are prosperous, these properties are usually high performing. The reason for this is that rental rates can quickly increase during these periods, and it takes a while to build new office towers to offer relief from these rate increases.
Start Working with Accredited Investors
Now couldn’t be a better time to start investing in real estate with the help of accredited investors. With these types of investors and the many types of real estate investment projects available today, you can be well on your way to boosting your bottom line based on your desired risk level and financial goals.
Get in touch with me, Joe Fairless, to find out more about what real estate investors look for and how to start building your real estate empire. In no time, you can be creating wealth at levels you previously only dreamed of.
One of your fiscal goals is to get more money flowing into your bank account through your real estate investing business. Specifically, you want to thrive in the world of property flipping.
Not a bad goal.
The question is, should you flip properties that are in fairly good condition, or would a distressed property be a better investment?
The reality is that distressed properties offer both pros and cons that you should consider before getting started with distressed real estate investing. Here’s a rundown on a few of these advantages and disadvantages.
Pro: Low Pricing
One of the biggest benefits of purchasing a distressed property is the low pricing often associated with it. That’s because homeowners who are about to experience foreclosure are generally eager to unload their properties, and the same is true for the lenders and banks that already possess foreclosed homes.
When you are working with highly motivated sellers, you’ll likely end up with bargain prices—or prices under market value. You can capitalize on this to renovate your new property with the goal of increasing its value, then unload the property for a nice profit. With home prices moving in an upward direction in the current market, your distressed real estate’s value has a good chance of increasing—or appreciating—in the months and years ahead.
Pro: High Profit Potential
Although you can certainly sell a distressed property to make a profit, this is not the only way you can generate profits with these types of properties. You can also turn these properties into income-generating rental properties.
The return on your investment, or your ROI, can be high if you choose distressed properties that are in good neighborhoods with high rental demand. So, even though such a property may be a negative cash flow deal, you can make it a positive cash flow when leasing it out.
Pro: Better Financing Opportunities
As mentioned earlier, lenders and banks are very interested in selling their properties. For this reason, they’re often open to giving real estate investors better financing if they’re interested in buying their distressed properties.
What does this mean for you? It means you may end up having lower closing costs, interest rates, and home mortgage payments.
Of course, distressed real estate investing has its share of cons, too, like anything else. Let’s take a look at a few major ones.
Con: The Paperwork and the Competition
When you’re purchasing a distressed property, this may take longer compared with the purchase of a conventional home. Why? Because lenders own many of the properties that are distressed, and their plates are so full that they usually can’t give your properties of interest their undivided attention. Alternatively, they could be searching for better deals, or their properties have second mortgages attached with different lenders.
Also, because distressed investment properties happen to be cheaper, more investors/homebuyers will compete with you to claim ownership of these properties. So, even if a bank is willing to sell you a property that is distressed, it may reject your offer because of the fierce competition in the marketplace. (Of course, if you’ve got an excellent team of people who can help you to find these properties before others do, you can overcome this obstacle.)
In light of all of the above, patience is a necessity if you want to close on a high-potential distressed property.
Con: A Potentially Lackluster Location
Another important consideration when dealing with distressed properties is their locations. Unfortunately, the majority of distressed homes are not in high-income neighborhoods, which can have an adverse impact on your homes’ values.
The ideal situation is for you to find an investment property in a decent neighborhood with a high demand for rentals. You also want a neighborhood where the occupancy rates are good, and where the potential property appreciation is good. Rehabbing your property won’t matter much if it’s in a subpar part of town. Your property’s location will ultimately dictate how much you’ll be able to charge a future renter or buyer.
Con: The Maintenance Requirements
In some cases, distressed homes are in okay condition. However, in other cases, foreclosed properties are abandoned by their previous owners or are not maintained. For instance, some might require extensive plumbing or electrical repair. Meanwhile, others may have foundation issues or damaged walls.
These properties can be costly to fix up to make them livable, and they can also be time consuming to renovate. So, factor this in before purchasing them.
Consider Purchasing a Distressed Property and Making Money from It Today!
If you’re excited by the idea of making distressed properties look brand new, then investing in such properties may be a smart move for you this year. The potential for profits is high; you just need to know what you are getting into before you move forward with any deal. You also need a little patience when you discover an excellent piece of property. After all, like any other aspect of the real estate business, investing in distressed properties is not a get-rich-quick scheme.
If you know how to play the distressed real estate investing game—and if you have the necessary resources, energy, time, planning, and hard work ethic—you’ll end up with good properties that will make good investments for you long term. To learn more about fix-and-flip real estate strategies, check out other articles in my blog!
Regulation D (also referred to as Reg D) includes two important exceptions to the general requirement securities registration with the SEC set forth in the Securities Act of 1933. Through Reg D, you can raise capital from investors without having to register the securities (i.e., the securities you are selling to your investors to fund your deal) with the SEC.
The volume of transactions completed through Reg D far outpace those of the other two common money-raising options: Reg A and IPOs. The Reg D transaction volume in 2017 across 40,000 offerings was $1.7 trillion, compared to $250 million for Reg A.
Reg D states that the issuer (i.e., the person selling securities) is exempt from registering with the SEC if the following requirements are met:
Must file a notice to the SEC on Form D within 15 days of the date of the first sale of a Reg D security on the SEC’s Edgar System (online database that allows for electronic filing) – Form D asks for basic information about the offering and the issuer
Must file a notice with the state in which the security is sold within 15 days of the first sale – the majority of states have an online databased to allow for electronic filing through the North American Securities Administrators Association (NASAA).
Work with your securities attorney to make sure you are filing these notices on time and accurately.
The two distinct Reg D registration exceptions are 506(b) and 506(c).
What is 506(b)?
If you sell securities under the 506(b) exception, here are the general guidelines:
General solicitation or advertising of the securities is prohibited
Allowed to sell to an unlimited number of accredited investors (current accredited investor requirements are a $200,000 annual income individually ($300,000 jointly) or a $1 million net worth (individually or jointly) and up to 35 non-accredited (but “sophisticated”) investors
Must provide the non-accredited investors with disclosure documents, including an audit of the fund’s balance sheet
Issuer may rely on investor self-certification
Issuer must have a substantive, pre-existing relationship with investors
The SEC defines a pre-existing relationship as “one that the issuer has formed with an offeree prior to the commencement of the securities offering…”. In other words, it is a relationship that began prior to them investing in your deal.
The relationship must also be substantive, which the SEC defines as “a relationship in which the issuer (or person acting on its behalf) has sufficient information to evaluate, and does, in fact evaluate, a prospective offerees financial circumstances and sophistication, in determining his or her status as an accredited or sophisticated investor…self-certification alone without any knowledge of a person’s financials circumstances or sophistication is not sufficient to form a substantive relationship.”
The SEC has made it clear that the establishment of a substantive, pre-existing relationship results from actual effort on the part of the issuer in getting to know the individual investor, and their current financial situation and wherewithal, rather than just checking a self-certification box, subscribing to your email list, or waiting a set amount of time.
When in doubt about whether your relationship with an individual investor will qualify as a substantive, pre-existing relationship in the eyes of the SEC, speak with your securities attorney.
What is 506(c)?
In 2013, the second exception of Reg D was introduced – 506(c).
If you sell securities under the 506(c) exception, here are the general guidelines:
Issuer may openly market their offering (i.e., advertising and general solicitation) but may only sell to accredited investors
Investors must be accredited – current accredited investor requirements are a $200,000 annual income individually ($300,000 jointly) or a $1 million net worth (individually or jointly)
Issuer must verify that the investors are accredited
For 506(c) offerings, you must take reasonable steps to verify the accredited investors status. To do so, you can have your CPA, attorney, or a registered broker-dealer review the investors financials, such as W-2s, tax returns, brokerage statements, credit reports, and the like. Self-certification is not permissible.
The major differences between the 506(b) and 506(c) are:
Solicitation is prohibited for 506(b) but permitted for 506(c)
Non-accredited investors may invest in 506(b) but not 506(c)
Self-certification of investor status is permitted for 506(b) but not 506(c)
You must have a substantive, pre-existing relationship for 506(b) but not 506(c)
So, if you are interested in raising capital from non-accredited investors with whom you have a pre-existing relationship, 506(b) may be your best option. If you are interested in mass marketing your deals online to accredited investors you do not know, 506(c) may be your best option.
Other Capital Raising Option
One of the other capital raising options you may identify is Regulation A (also referred to as Reg A). Reg A allows qualifying companies to raise capital from the public without taking on the exorbitant costs and legal requirements needed for filing a traditional IPO.
At its inception in the Securities Act of 1933, the Reg A requirements set forth were:
Securities sold in a year must be valued at $5 million or less
The issuer must file an offering statement with the SEC
An offering memorandum must be prepared for the potential security purchases
The issuer must register the offering in any state in which they plan to sell securities
For comparison purposes, there were over 100 Reg A filings in 2017 totaling more than $250 million. So a much smaller volume compared to Reg D.
In 2015, there was an update to the JOBS Act which broke the Reg A filings into two tiers. For tier I Reg A, the annual limit is $20 million. For tier II Reg A, the annual limit is $50 million. To find more information about Reg A offerings, click here.
More Resources on Money-Raising with Reg D
For more information on Regulation D, listen to my following podcast episode:
You take pride in being the owner of an investment property, but are you getting the most bang for your buck—or, the greatest return on your investment?
The reality is that sprucing up your single-family property can quickly add value to it. That’s exactly why recent research shows that nearly 60% of people queried said they would probably or definitely undergo home renovations or improvement projects within the next 12 months.
Of course, as you explore how to increase property value, you may be asking yourself, “What improvement projects will yield the best results for me?” Here’s a rundown on key improvements you should make to increase property value.
Improve Your Curb Appeal
This is one of the smartest moves you can make relatively quickly. That’s because the outside is a potential buyer’s first impression of the home. Unfortunately, it’s one of the areas that many investors neglect as they focus on changes to the interior.
What Exterior Projects Can You Complete to Increase Value?
Perhaps your single-family home could use an extra coat of paint, or maybe you need to replace that dilapidated fence. In addition, your driveway might be due for power washing, and you may need to groom some shrubs and trees or plant some flowers.
It’s also a wise idea to make sure that your patio space or deck is functional if you’d like to increase property value. Adding extra lighting or even a small table and setting are easy ways of accomplishing this. Getting rid of overgrown weeds from your yard, painting and weather-stripping your front door, and ensuring that your storage outside is usable and clean are also great steps that may help you to improve the value.
Upgrade Your Countertops
When it comes to your single-family home’s interior, your kitchen should be one of your first priorities if you’re wondering how to increase property value. According to research, a minor kitchen remodel (of no more than $15,000) may recoup nearly 93% of its cost at resale!
Kitchen Projects to Focus On
First, upgrading your countertops can quickly make your kitchen more valuable, thus making it easier for you to sell your single-family home or demand a higher rent amount. Quartz and cement are especially popular in higher-end housing markets, but granite is also a great option. The most important thing is that your new countertop is stylish, functional, and durable.
You could also add some fresh paint or stain to your cabinets to make them stand out and look brand new. However, if your old cabinets are made of particle board, you might want to upgrade them to something more functional and modern if you want to really increase property value.
Improve Your Fixtures
You can’t go wrong investing in better light fixtures and faucets for the kitchen and bathroom, as well as adding ceiling fans. You may also want to add new locks, door handles, or even window blinds, with faux wood blinds being especially popular for adding a lavish touch to any space.
Upgrading your fixtures will make your single-family home appear more polished. It’ll also increase the durability of the items in your home that experience a lot of wear and tear over time. If your upgrade is professionally done, you can sell your property or fill it with renters more quickly, thus maximizing your real estate investment income.
Upgrade Your Appliances
If you are planning to rent out or sell your home after you increase the property value, be sure to upgrade your appliances as well. This is critical because appliances are some of the first items that renters and home buyers look at when entering potential new homes.
If your kitchen features mismatched appliances, or if your appliances aren’t functioning at their optimal level, you likely won’t get top dollar for your property when you sell it. This is why you should purchase an appliance package with matching appliances and make sure that it comes with a warranty.
Improve Your Flooring
Finally, don’t overlook your flooring when trying to figure out how to increase property value. A general rule of thumb is that you should install wood flooring versus carpet, as it can add a more sophisticated touch to your single-family property. Plus, if you’re renting, you may have to change out your carpet every other tenant, as a single juice or bleach stain can permanently ruin it. Constantly replacing your carpet can get expensive and, thus, negatively impact your rate of return each year.
More on Wood Flooring
Wood flooring is a broad category that includes not only hardwood but also laminate, plank/faux wood, bamboo, and laminate. A major benefit of this type of flooring, besides its appearance, is that it is better health wise for those who suffer from carpet allergies.
Still, some renters and home buyers prefer to have carpet in the children’s bedrooms, or during the winter months. Thus, it may behoove you to install carpet in all bedrooms and then use flooring throughout the rest of the single-family property’s living spaces. Also, if you have linoleum or vinyl in your kitchen or bathroom, you may want to replace this lower-quality flooring with classier travertine or ceramic tile, which renters and buyers generally prefer.
Start Making More on Your Investments
If you would like to increase the return on your investment in a single-family property, completing the above projects is a great start. Apply these tips to your fix-and-flip and wholesale deals!
In a recent blog post, I outlined the three economic metrics that will encourage you about the impact a potential market correction will have on the multifamily industry (which you can read here).
Essentially, the economy has been extremely strong since the last market correction in 2007-2009 while, at the same time, the overall number of renters and the overall share of renter-occupied units has also increased.
In 9 cities, the percentage of renter-occupied units has increased by 30% or more. And in one of those 9 cities, the increase was more than 50%.
In March of 2008, the Dow Jones was at 12,216.40. One year later, the Dow Jones plummeted to 6,626.94. Nine years later, the Dow Jones has skyrocketed – nearly tripling to over 24,000. During that same period, unemployment decreased from nearly 10% to 4% and GDP increased from $15 trillion to $19.39 trillion.
All-in-all, the economy has seen a strong bounce back since the 2008/2009 recession.
With such a strong performance over the past decade, there are fears in the air about a looming correction. And everyone who was investing in 2008/2009 knows firsthand the effects a correction/downturn has on real estate.
The economy is a complex animal that is nearly impossible to predict. However, by studying the impacts of economic corrections on real estate in the past, you can have an idea of how real estate will be impacted by any correction in the future– big or small, in the next few months or the next few years.
One major fact that will encourage you about the impact a potential economic correction will have on the multifamily industry is that renting has increased as the economy has gotten better.
Say what? There are more renters even when the economy has gotten stronger?!
One of the most telling statistics is the increase in the number of renters during the past decade. Between 2006 and 2016, the US population grew by 23.7 million. During that time, the number of renters increased by over 23 million and the number of home owners increased by less than 700,000. In relative terms, the overall renter population grew by more than 25% in a decade. In fact, according to Pew Research Center, more U.S. households are renting than at any point in the last 50 years!
Sure, a large portion of this growth occurred immediately following the economic recession (an increase of 1.4%, 3.1% and 4.4% in 2007, 2008, and 2009), which is expected. The economy tanks and people cannot afford nor qualify for a mortgage, so they are forced to rent.
But what is surprising is that the increase in renters didn’t stop. In fact, while the Dow Jones tripled, unemployment was cut in half, and the GDP rose by nearly $5 trillion, the renter population increased nearly every single year (3.4%, 3.3%, 3.1%, 2.0%, 2.0%, 0.9% in 2010 to 2015).
And a lot of this growth has been concentrated in big cities across the US (population greater than 200,000).
Additionally, renter growth outpaced homeownership in 97 of the 100 largest cities in nearly every year between 2006 and 2016. That means that the number of owners grew at a faster pace than the number of renters in only 3 major cities across the county.
Even more staggering, during a robust economy in 2015 and 2016, rent growth outpaced homeownership in 46 of these major cities!
Okay, more people are renting now, but they plan on buying a home eventually, right?
Well, in a 2017 survey conducted by Freddie Mac, renters were asked a series of questions, including when they expected to move and whether they expected to rent or buy when they move.
Because of the turnaround we saw in the economy, you might think people would move out of their rental and into their own home. But, only 14% of renters expected to move within a year while 37% said they didn’t know and another 9% said they expected to never move. But what was even more shocking was this – only 41% expected to buy, which is the lowest it has ever been.
Another interesting fact is that 55% said they either strongly agree/somewhat agree with the statement “I like where I live and don’t plan to move despite the changes in my rent.” And only 31% said they would move into a different rental property if their rent increased in the next year.
Now the question is why did more people decide to rent while the economy was booming?
All of these reasons will be with us for the immediate future.
The fact that the number of renters increased by over 25% in the decade following the recession, even while the economy dramatically improved, gives me confidence in the prediction that when the next correction occurs, the same percentage of people or more will rent. And when the economy begins to improve again, the same percentage of people or more will rent. Which means that the multifamily investment strategy will continue to thrive now and in the foreseeable future, regardless of which correction takes place.
I was recently a speaker at Dan Handford’s virtual multifamily summit. The topic of my talk was how to attract passive apartment investors. More specifically, I provided 5 proven ways to attract passive investors based on my experience raising capital for over $470,000,000 worth of apartment communities, interviewing over 1,000 passive investors, and writing the best-selling book on apartment syndications – Best Ever Apartment Syndication Book.
The main thing I’ve discovered through my money raising experience is that passive investors don’t chose to invest with apartment syndicators who offer the best returns, who invest in the most favorable market, or who implement the greatest investment strategy. These are all reasons why someone choses to invest, but not the primary reason. Primarily, passive investors will invest only with someone they trust – both personally and as a business person.
And it must be both. I trust Jim Halpert from The Office as a person, but I would never invest in Jim’s apartment syndication because I don’t trust him as business/real estate person.
The best way to gain a passive investor’s trust is through time (to gain their trust personally) and expertise (to gain their trust as a business person). So, a more apt title to this blog post is “5 proven ways to build trust with passive apartment investors,” and here are those 5 ways:
You gain both types of trust with a thought leadership platform.
With a thought leadership platform, you are reaching hundreds of potential investors every day. This provides you with a head start in gaining people’s personal trust, because when you eventually hop on an introductory call with them, they’ve already heard you speak for hours. At the same time, since you’re interviewing other real estate experts and offering your own expertise on the apartment syndication process, you’ll become recognized as an apartment expert, which covers the “business person” type of trust.
My overall thought leadership platform and online presence (via podcast, YouTube newsletters, Facebook, and Forbes) has attracted a large portion of my passive investors.
2 – BiggerPockets
There are 1.2M members on BiggerPockets and only 6,702 (~ 0.5%) have received the “addict” award. To receive the addict award, you must visit the BiggerPockets website every single day for a month.
When I was first launching my apartment syndication business, I made it a habit to visit and engage on BiggerPockets every day, which is why I am one of the 0.5% who’ve received the “addict” award. And these efforts have paid off greatly, because another large portion of my passive investors have come from BiggerPockets.
To get the most out of BiggerPockets, you need to be engaged in the forums and member blogs and add value on a consistent basis. Set up apartment syndication and passive/accredited investor keyword alerts so you are immediately notified when those keywords were used in the forums.
Answer questions in the forums. Reply to direct messages quickly. Provide referrals to other investors in your market. Republish thought leadership platform content to the forums and member blogs.
In doing so, just like the thought leadership platform, you will build a personal connection with people you haven’t met in person, as well as become recognized as an apartment syndication expert, especially if you make it on the Top Contributors list on the multifamily or private lending forum.
3 – Create a Local Meetup
Creating a local meetup group in your market is very similar to a thought leadership platform. The major difference is that the meetup group is an in-person event. You will form personal connections with the followers of your thought leadership platform, but you can form deeper personal connections faster at an in-person meetup.
By being the host of the meetup, you will instantly gain the trust and respect of the attendees, and even more so after you host the meetup month-after-month and it continues to add value to their investing businesses.
Start small with a monthly meetup group in your target market. Then, slowly scale over time. Capture content provided at the meetup (via speakers or conversations you’ve had/overheard) and share it on social media, ideally on a Facebook community you’ve made for the group. On that same Facebook community, have attendees post their monthly goals. Also, use that community to create Facebook ads that target passive investors within a certain radius of the event.
Once you’ve successfully scaled your meetup group, the next step is to create a yearly, in-person conference, where you’ll gain even more respect and trust from potential passive investors – both those who attend and those who simply hear about how great your conference was.
4 – Transparent and Quick Communication
Who do you trust more? A colleague who is constantly shows up to work late, takes 2 to 3 days to reply to emails and texts, never answers their phone, and brings up problems without solutions? Or a colleague who shows up 15 minutes early, replies to emails within a few hours, always answers the phone, and is a problem identifier and problem solver?
It should be a no brainer. We trust people who are punctual, transparent, and quick communicators. And that also holds true for apartment syndications.
One of the voicemails I have saved on my phone is from a passive investor who was thanking me for my communication skills. He appreciated our monthly recap emails and the fact that we sent accurate distributions and accurate K-1s on-time. And I’ve received countless more phone calls, emails, and texts from investors saying the same thing, so what we are doing is clearly appreciated. Here is a list of what we do to ensure that we are effectively communicating with our investors:
Send detailed, transparent monthly recap emails with images for all deals
Send profit and loss statements and rent rolls on a quarterly basis
Provide information on new business and economic developments in the surrounding market
Send accurate monthly distributions on-time
Reply to emails, texts, and voicemails within 24 hours at most
Provide investors with cell phone number
Record new investment offering calls to send to investors who couldn’t attend
Send accurate K-1 tax statements on-time
5 – Volunteering
Volunteer at a nonprofit organization that aligns with your values, interests, and beliefs. The primary reason is to give back. But while you are giving back, a secondary objective is to get on the board.
A board member at a nonprofit organization is likely affluent with a high net-worth and has a circle of influence consisting of other high net-worth individuals. So, find a nonprofit organization, volunteer for a few months, and work your way onto the board. Once there, focus on building genuine personal relationships with your fellow board members outside of volunteering (which covers the personal trust). Then, organically bring up passive investment opportunities and see where the conversations lead.
Let me reiterate: the primary objective is to give back. Do not show up to your first day of volunteering and ask others to invest in your deals. Focus on giving back. Try to get on the board with the intentions of giving back even more. When you are volunteering, focus only on volunteering. But once you start to build relationships with other board members outside of volunteering, you can begin to organically bring up things that interest you, with apartment investing being one of them.
There are many ways to attract passive investors and this list is by no means exhaustive. However, I have used every strategy on this list to raise capital for my deals (hence the “proven” in the title). I recommend picking one of the strategies that interest you the most and focusing on scaling it for at least 6 months. Once it is rockin and rollin, pick a second strategy and repeat until you’ve built yourself a passive investor lead generating machine.
You no longer have to sip your cup of joe on your way to your 9-to-5. Instead, you’re sipping coffee as you browse the Internet from home, looking for the next piece of real estate to flip for a profit. All of a sudden, you shake your head and snap back to reality. You were daydreaming. But who says your dream of becoming your own boss as a real estate investor can’t become your reality?
Research shows that investment in commercial real estate in particular increased 17% between the fall of 2017 and the fall of 2018, and residential real estate also remains attractive to investors. So, if you’re asking yourself, “What is the best long-term investment?”, now appears to be as good a time as any to seriously explore investing in single-family homes, apartment communities, or even business spaces as your next career move.
Of course, just like the greater economy, the real estate market goes through various highs and lows, so it’s critical that you assess the current market before simply diving in. Here’s a rundown on the top four real estate market trends or red flags to look for before investing in a deal.
1. The Demand for Property
If you notice a slip in property demand and/or you see businesses folding in a real estate market, this is a sign that you should not invest your money in the area right away for two reasons.
First, if companies are shutting down rapidly, this means that property values overall may start to decline as people move away and seek new job opportunities. Second, if business owners are avoiding the area, this might mean that the demand for properties in that area is low for one reason or another. If you ignore these signs and move ahead with a property purchase there, you may not get much return on your investment when you decide to sell. Or it might take a while for you to unload it.
Reasons for Low Interest in an Area
If a certain area is not piquing the interest of buyers, the culprits could be increasing crime rates, new developments close by, subpar school systems, or a less-than-stellar economy. No matter what the situation may be, it’s a good idea to select locales that are established or are rising in popularity if you want to avoid profit loss in the future.
2. The Job Market
In a similar vein, before purchasing real estate in a certain market, you should take a detailed look at your target area’s current job trends. For instance, are hiring volumes climbing and what kinds of positions are available?
This is critical because job market trends have a correlation with real estate market trends. For instance, if jobs in an area are not high-paying and don’t offer much growth potential, there will be fewer reliable renters or buyers available to you.
3. The Commercial Sector
A commercial sector that is stagnant in an area is a major red flag for investors. If businesses in a locale haven’t been there very long or if there aren’t many new companies moving in, this area might not be the wisest place to pursue an investment property. Many companies invest in their communities, so areas with lots of industry or other businesses are likely more financially sound.
Also, see if any major employers are planning to close their doors or downsize in the near future. If it appears that large employers plan to stay put long-term, this is good news for you. You can find information about which companies are planning to stay or go by reviewing local newspapers or even city council meeting and zoning board meeting minutes.
4. Community Planning
If the community you’re targeting for your investment property has a solid master plan in place, it’s likely a good one to stick with. That’s because master plans essentially lay out communities’ visions for themselves, and visionless communities will likely end up fizzling out at some point.
Elements of a Solid Master Plan
A strong master plan at the community level should explain not only how the community sees itself but also how it plans to turn its vision for itself into a reality. This plan outlines truly realistic and relevant changes, and it also focuses on actual solutions. Furthermore, it fosters innovation and promotes problem-solving. If there is little evidence that a community’s master plan is being executed, you may want to bypass that community when it comes to looking for a real estate investment property.
Start Real Estate Investing Today!
If you’re asking, “What is the best long-term investment?” and you are interested in getting your feet wet in real estate investing, I can help. In no time, you can experience the unique monetary potential that real estate has to offer. Get in touch with me today to find out more about the current real estate market trends and to start earning money as a real estate entrepreneur.
Being an accredited passive investor gives you the ability to make and participate in a wide variety of real estate investments. These may include single-family homes, commercial spaces geared towards businesses, and even apartment syndications.
According to federal securities laws and the Securities and Exchange Commission (SEC), an accredited passive investor is defined as a person or entity that is able to invest in securities, such as apartment deals, and non-registered investments. Both securities and apartment syndications are an extremely lucrative way to build sustainable passive income. Whether you’re looking to build your investment portfolio or simply want an additional stream of income, becoming an accredited investor is the first step to making that a reality. So what are the accredited investor requirements and how can you ensure that you become one?
Your Income and Net Worth
In order to qualify as an accredited investor, you must meet at least one of the following requirements: have an annual income of $200,000 or more ($300,000 if you have a joint income with your spouse) for the last two years or have a net worth that exceeds $1 million, either individually or joint. Basically, this ensures you can manage the risk inherent in investing.
When determining your net worth, be sure to exclude the value of your primary residence. Add the value of all your other assets (investments, bank accounts, vehicles, vacation homes, etc.) and subtract any liabilities (various loans, home equity line balance, etc).
Verifying Your Claims
Once you have met the accredited investor requirements, then you are considered an accredited passive investor. There isn’t a certificate, form to fill out or formal process to recognize you. You’re either accredited or you’re not. However, the SEC may require that individuals or entities selling to accredited investors verify that these requirements are met, depending on the investment offering type.
For apartment syndications, if the deal is a 506(b) offering (which is what we do), you can self-certify your accredited investor status. If the deal is a 506(c) offering, you must submit your financials, including W-2 forms, tax returns, and any additional documentation that further confirms your financial standing, to a 3rd party to verify your accredited investor status prior to investing.
Benefits of Accreditation
There are many benefits to becoming an accredited investor, particularly when it comes to real estate investing and building sustainable wealth through real estate. If you are able to meet the accredited investor requirements, then you will be able to meet with apartment syndicators, venture capitalists, hedge fund managers and more to further discuss your investment opportunities.
As a passive investor, it is possible to eventually live on cash flow brought in by your investments. When buying into an apartment deal, for example, you will get a portion of the rent from the residents, as well as the eventual sale of the property. This means bringing in money for bills and leisure while making time for the activities and people you love.
We’ve weighed the pros and cons of passive apartment investing versus investing in REITs, but what about another type of real estate — single family residences? To passively invest in single family residences (SFRs) is to purchase an SFR with the purposes of holding it as a rental property from a turnkey provider who handles every aspect of the transaction. To passively invest in apartments is to invest in an apartment syndication — a partnership between a sponsor who handles every aspect of the transaction and the passive investor who funds a portion of the down payment — and share in the profits.
Since both strategies are passive, they’re equal in regard to control (or lack thereof). However, being two distinctive types of real estate, the benefits and drawbacks of each are different. So, in order to determine which passive investment strategy is better, let’s compare and contrast them based on three categories: time commitment, returns and risk.
1. Time Commitment
There is no such thing as a 100% passive investment. There are similar time commitments for both strategies: You must initially qualify the sponsor/turnkey provider, qualify their deals before investing and stay up-to-date on the progress of the deal after close.
There are also differences.
Because it is a one-unit residential property, understanding and evaluating an SFR is not that complicated. You likely have the education to acquire a passive SFR investment. On the other hand, apartments are a more complex asset class. Before becoming a passive investor, you’ll likely need to educate yourself on the apartment syndication process.
It’s easier to scale by passively investing in apartment syndications. After you’ve qualified the sponsor, it’s as simple as they send you a deal, and you decide whether to invest. For each SFR investment, you’ll select from a menu of deals. It can take months until you find one that meets your investment goals, at which point the process repeats itself.
Additionally, since you’re limited to the number of residential loans you can obtain, you’ll eventually have to either purchase SFRs with all cash or with creative financing, both of which take more time than traditional financing. For apartment syndications, you can usually invest any amount — although a minimum investment of $25,000 to $50,000 is common — an unlimited number of times without having to worry about securing or qualify for financing. This reduces your ongoing time commitment and increases your ability to scale.
In regard to returns, the two factors to address are cash flow and equity. Cash flow is the profit distributed to the passive investor on an ongoing basis, and equity is the profit captured at sale and/or refinance.
As a passive SFR investor, you have 100% ownership of the property, which means you receive 100% of the profits. Since an SFR has one rentable unit, the returns are more fragile. If you have one vacancy, you’re 100% vacant. If you have one maintenance issue or expensive turn, your cash flow for a few months to a few years can be wiped out.
As a passive apartment investor, you only have partial ownership of the property, which means you receive a smaller percentage of the profits. But, since apartments have hundreds of units, a few vacancies, evictions or maintenance issues have a lower impact on the cash flow. At the same time, you are typically offered a preferred return, which is a threshold return distributed to investors before the sponsor receives payment. A greater number of units combined with a preferred return results in more certainty as it relates to cash flow.
The value of SFRs is dependent not on the rents but on the market, which is out of your control. Sure, in an appreciating market, you could double the property value. But you could also get unlucky with a stagnating or depreciating market.
The value of an apartment is dependent on the revenue, not the market, which is in your — or technically, the sponsors’ — control. The sponsor can increase the rents through renovations and increase the revenue by offering certain amenities (i.e., coin-operated laundry, carports, storage lockers, etc.). Luck is removed and replaced with skill. If the sponsor executes the business plan and increases the revenue, the property value, and thus your investment, is increased.
You have 100% ownership as a passive SFR investor, which means you participate in 100% of the upside and 100% of the downside. You hold all of the risk. Since you sign on the loan, you are responsible for 100% of the debt. Default on a payment, and you are the one who is impacted.
Again, the SFR cash flow is more fragile due to having one rentable unit. However, this risk is reduced once you’ve scaled to a certain number of SFRs. But having a passive portfolio of 100 SFRs is different than passively investing in a 100-unit apartment community. The SFRs are scattered across the market, which means you don’t benefit as much from economies of scale. Management and contractor (i.e., landscapers, maintenance people, etc.) fees are costlier. The benefit, however, is that you have 100% ownership of the 100 SFRs as opposed to partial ownership in the 100-unit apartment community, which means you’ll have a greater long-term upside potential.
Passively investing in apartment syndications is less risky because you aren’t signing on a loan. The risk is also reduced from day one because you are investing in multiple units right away as opposed to having to scale to hundreds of units. And with hundreds of units in one centralized location comes economies of scale, which means lower management and contractor costs.
Apartment syndications have a lower time commitment, more certain returns and less risk. SFRs have less scalability, more risk and fragile returns in the medium-term with a greater long-term upside potential.
Ultimately, the best strategy comes down analyzing the pros and cons of each and determining which one aligns the best with your risk tolerance, time commitment and return goals.
Want to learn how to build an apartment syndication empire? Purchase the world’s first and only comprehensive book on the exact step-by-step process for completing your first apartment syndication: Best Ever Apartment Syndication Book.
In this blog post, you will learn the definitions of these two important return factors, how they are calculated, and why they are relevant in apartment syndications.
What is Cash-on-Cash Return?
Cash-on-cash return (commonly referred to a CoC return) is a factor that refers to the return on invested capital. CoC return is the relationship between a property’s cash flow and the initial equity investment, which is calculated by dividing the initial equity investment by the cash flow. For the purposes of the CoC return calculation for apartment syndications, cash flow is the profits remaining after paying the operating expenses and debt service.
There are actually two different versions of the CoC return for apartment syndications: including profits from sale and excluding profits from sale. The CoC return factor excluding profits from sale will show passive investors how much money they should to expect to receive for each distribution during the hold period, as well as an average annual return on their investment. The CoC return factor including the profits from sale will show passive investors how much money they should expect to make from the project as a whole.
In order to calculate both CoC return factors, you need the initial equity investment amount, the projected annual cash flows, and the projected profit from sale for both the overall project and to the passive investors.
Here is an example of how to calculate CoC return for an apartment project:
Passive investors aren’t as concerned about the overall project’s CoC return but more so the CoC return to the limited partners (LP).
Here is an example of how to calculate the CoC returns to the limited partners based on an 8% preferred return and 70/30 profit split:
In this example, the average annual CoC return to the LP is 8.33%, which is good because it is above the preferred return offered. The overall CoC return for the five years is 185.72%. So, someone who invested $100,000 would make $85,720 in profit.
However, as you can see in the example above, the CoC return to the limited partner is below the preferred return percentage in years one and three. So, for this deal, the syndicators options are to review their underwriting assumptions to see if they can increase the cash flow, have the preferred return accrue and pay the accrued amount at sale or when the cash flow supports it (i.e. end of year two to cover the year one shortfall), or pass on the deal.
A “good” CoC return metric is subjective and based on the goals of the syndicator and the passive investors. However, a good rule of thumb is a minimum average CoC return excluding the profits from sale equal to the preferred return offered to the limited partners.
What is Internal Rate of Return?
The main drawback of the cash-on-cash return metric is that it doesn’t account for the time value of money. For example, receiving a 185.72% CoC return over a 5-year period is very different than receiving the same CoC return over a 10-year period or a 1-year period. That is where internal rate of return comes in.
The technical definition of internal rate of return (commonly referred to as IRR) is the interest rate that makes the net present value of all cash flow equal to zero. In layman’s terms, this equates to a project’s actual or forecasted annual rate of growth by isolating the effect of compounding interest if the investment horizon is longer than one-year, which CoC return does not.
If you have the data to calculate the CoC return, you can calculate an IRR for the overall project and to the passive investors. What is needed is the initial equity investment and the annual cash flows, with the final year including the profit from sale.
The IRR formula is complex (click here if you want to see the full formula), so for simplicity, the IRR() function in excel should be used.
Following the same example, here is the 5-year IRR for the overall project and for the limited partners:
Another IRR metric is XIRR. For the regular IRR calculation, the assumption is that the cash flows are distributed on a fixed, periodic schedule (i.e. annually, monthly, quarterly, daily, etc.). The XIRR function calculates the internal rate of return when cash flows are distributed on an irregular period.
In order to calculate XIRR, the additional data required are the exact days that the cash flow was distributed. Examples of instances where the XIRR would come into play are when the syndicator refinances or secures a supplemental loan to return a portion of the passive investors’ equity and when the syndicator sells the asset since the closing date likely will not be exactly 1, 2, 3, etc. years after purchasing the deal.
A “good” IRR metric is also subjective and based on the goals of the syndicator and their passive investors. For my company’s deals, we want a 5-year IRR to the limited partners of at least 15%.
The main difference between the cash-on-cash return and internal rate of return metric is time. If the investment is held for one-year, then the two return metrics are interchangeable. But if the projected hold period is more than a year, internal rate of return is more accurate.
Want to learn how to build an apartment syndication empire? Purchase the world’s first and only comprehensive book on the exact step-by-step process for completing your first apartment syndication: Best Ever Apartment Syndication Book.
Passive investing is one of the best ways to receive the benefits of owning a large apartment building without the time commitment, funding the entire project or obtaining the expertise require to create and execute a business plan.
A passive investor might not see the same returns as an active investor who is finding, qualifying and closing on an apartment building use their own capital and overseeing the business plan through its successful completion. But compared to other passive investment vehicles, like stocks, bonds or REITs, apartment syndications cannot be beat (assuming the passive investor has found the right general partnership and qualified their team).
The returns offered to the limited partner (i.e. the passive investors) vary from general partner to general partner. Before making the commitment to invest, the limited partners (referred to as the LP hereafter) should understand the general partner’s (referred to as the GP hereafter) partnership structure, which includes the type of investment structure and how the returns are distributed.
Typically, a passive investor is either an equity investor or a debt investor in an apartment syndication. In this blog post, I will outline these two investment structures and the types of return structures for each.
Of the two main types of investment structures, being an equity investor is the most profitable, because they participate in the upside of the deal. However, they typically will not receive their initial equity investment until the sale of the apartment.
The equity investor is offered an ongoing return, as well as a portion of the profits at sale. Generally, after the operating expenses and debt service are paid, the a portion of the remaining cash flow is distributed to the LP. For some partnership structures, the GP will take an asset management fee before distributing returns to the LPs. I do not like this approach since it decreases the alignment of interest because the GP receives payment before the LP. So, my company puts our asset management fee in second position to the LP returns (which means we don’t get an asset management fee until we’ve paid the LP).
The most common ongoing return is called a preferred return. The preferred return ranges from 2% to 12% annually based on the experience of the GP and their team, the risk factors of the project and the investment strategy. The less experience and the more risk, the higher the returns. In regards to the preferred returns associated with the three main apartment syndication investment strategies, the GP will offer the highest percentage for distressed apartments and the lowest percentage for turnkey apartments, with value-add apartments falling somewhere in-between.
For example, on a highly distressed apartment deal, the GP may offer a 12% preferred return. However, since the deal will likely have a lower or no return during the stabilization period, the preferred return would accrue and be paid out to the LP in one lumpsum. For turnkey apartments, the preferred return will fall towards the lower end of the range because, since the apartment is already stabilized and minimal value can be added, there is less risk. For value-add apartments, the typical preferred return that is offered to the LP is 8%.
Conversely, the GP may not offer a preferred return but a profit split instead. For example, 70% of the cash flow is distributed to the LP and the remaining 30% to the LP. However, I do not like this structure for the same reason why I don’t like putting the asset management fee ahead the LP returns – a reduction in alignment of interest. Therefore, the GP will usually offer a preferred return and specify a split of the overall profits between the LP and GP.
This remaining profit split can range from 90/10 (i.e. 90% to the LP, 10% to the GP) to 50/50. A common variation on the profit split will include hurdles, using return factors like the internal rate of return (referred to as IRR hereafter) or cash-on-cash return. For example, the LP is offered an 8% preferred return and 70% of the total profits. But, once the LP receives a 13% IRR, they receive 50% of the profits thereafter.
Another example is the LP is offered a 6% to 8% preferred and 50% of the total profits. But, once the LP receives an annualized return of 12% to 16% (which would occur at sale), the GP receives the remaining profits. This is the most ideally structure from the GPs point of view.
The equity investor also participates in the upside of the deal, which means they are offered a portion of the sales proceeds.
The most common equity structure for value-add apartment deals is an 8% preferred return with a 50/50 LP/GP profit split. The next most common equity structure is an 8% preferred return with a 70/30 LP/GP profit split until the LP IRR passes a certain threshold (10% to 20% is the standard range), at which point the remaining profits are split 50/50.
Of the two main types of investment structures, being a debt investor is the least profitable. However, the lower profitability comes with a lower risk. Once the GP pays operating expenses and debt service, the remaining cash flow must go to distributing the fixed interest rate to the debt investor. However, unlike the preferred return offered an equity investor, if the GP is unable to pay the fixed interest rate (assuming they are still able to cover the operating expenses and debt service), the debt investor can take control of the property. Hence, less risk.
Unlike the equity investor, the debt investor doesn’t participate in the upside of the deal. Instead, they are offered a fixed interest rate until the GP is able to return 100% of their investment.
Similar to the preferred return, the interest rate that is offered to a debt investor is based on the GP’s experience, the risk factors associated with the project and investment strategy. However, since there is an overall reduced risk involved with being a debt investor, the interest rate is typically lower than what the preferred return would be for a similar project.
Another difference between equity and debt investors is that debt investors will typically receive their capital back before the apartment is sold, which generally occurs after a refinance or securing a supplemental loan. A supplemental loan is a financing option that is secured on top of the existing financing on the property that is typically available 12-months after closing the initial loan.
What’s a Better Passive Investment?
Like any investment, the best partnership structure is based on the passive investor’s goals. For those looking for a low-risk investment vehicle to park their money for a few years while receiving a fixed return that beats inflation, then becoming a debt investor may be more appealing. For those looking for an investment vehicle that offers a higher ongoing return (although not guaranteed) and the potential for a large lumpsum profit at sale, then being an equity investor may be more appealing. And of course, diversifying between the two structures is also an option!
A glossary of terms and definitions, listed in alphabetical order, used in apartment syndications for aspiring apartment syndicators and passive investors to study in order learn the industry terminology.
Absorption Rate: The rate at which available rentable units are leased in a specific real estate market during a given time period.
Accredited Investor: A person that can invest in apartment syndications by satisfying one of the requirements regarding income or net worth. The current requirements to qualify are an annual income of $200,000, or $300,000 for joint income, for the last two years with the expectation of earning the same or higher, or a net worth exceeding $1 million either individually or jointly with a spouse.
Acquisition Fee: The upfront fee paid by the new buying partnership to the general partner for finding, evaluating, financing and closing the investment.
Active Investing: The finding, qualifying and closing on an apartment building using one’s own capital and overseeing the business plan through its successful execution.
Amortization: The paying off of a mortgage loan over time by making fixed payments of principal and interest.
Apartment Syndication: A temporary professional financial services alliance formed for the purpose of handling a large apartment transaction that would be hard or impossible for the entities involved to handle individually, which allows companies to pool their resources and share risks and returns. In regards to apartments, a syndication is typically a partnership between general partners (i.e. the syndicator) and limited partners (i.e. the passive investors) to acquire, manage and sell an apartment community while sharing in the profits.
Appraisal: A report created by a certified appraiser that specifies the market value of a property. The value is based on cost, sales comparable and income approach.
Appreciation: An increase in the value of an asset over time. The two main types of appreciation that are relevant to apartment syndications are natural appreciation and forced appreciation. Natural appreciation occurs when the market cap rate naturally decreases over time, which isn’t always a given. Forced appreciation occurs when the net operating income is increased by either increasing the revenue or decreasing the expenses. Force appreciation typically occurs by adding value to the apartment through renovations and/or operational improvements.
Asset Management Fee: An ongoing annual fee from the property operations paid to the general partner for property oversight.
Bad Debt: The amount of uncollected money owed by a tenant after move-out.
Breakeven Occupancy: The occupancy rate required to cover all of the expenses of a property.
Bridge Loan: A mortgage loan used until a borrower secures permanent financing. Bridge loans are short-term (six months to three years with the option to purchase an additional six months to two years), generally having higher interest rates and are almost exclusively interest only. Also referred to as interim financing, gap financing or swing loans. The loan is ideal for repositioning an apartment community that doesn’t qualify for permanent financing.
Capital Expenditures (CapEx): The funds used by a company to acquire, upgrade and maintain a property. Also referred to as CapEx. An expense is considered CapEx when it improves the useful life of a property and is capitalized – spreading the cost of the expenditure over the useful life of the asset. CapEx included both interior and exterior renovations.
Capitalization Rate (Cap Rate): The rate of return based on the income that the property is expected to generate. Also referred to as the cap rate. The cap rate is calculated by dividing the net operating income by the current market value of a property.
Cash Flow: The revenue remaining after paying all expenses. Cash flow is calculated by subtracting the operating expense and debt service from the collected revenue.
Cash-on-Cash Return: The rate of return based on the cash flow and the equity investment. Also referred to as CoC return. Coc return is calculated by dividing the cash flow by the initial equity investment.
Closing Costs: The expenses, over and above the purchase price of the property, that buyers and sellers normally incur to complete a real estate transaction. These costs include origination fees, application fees, recording fees, attorney fees, underwriting fees, due diligence fees and credit search fees.
Concessions: The credits given to offset rent, application fees, move-in fees and any other cost incurred by the tenant, which are generally given at move-in to entice tenants into signing a lease.
Cost Approach: A method of calculating a property’s value based on the cost to replace (or rebuild) the property from scratch. Also referred to as the replacement approach.
Debt Service: The annual mortgage amount paid to the lender, which includes principal and interest. Principal is the original sum lent to a borrower and the interest rate is the charge for the privilege of borrowing the principal amount.
Debt Service Coverage Ratio (DSCR): The ratio that is a measure of the cash flow available to pay the debt obligation. Also referred to as the DSCR. The DSCR is calculated by dividing the net operating income by the total debt service. A DSCR of 1.0 means that there is enough net operating income to cover 100% of the debt service. Ideally, the DSCR is 1.25 or higher. A property with a DSCR too close to 1.0 is vulnerable, and a minor decline in revenue or minor increase in expenses would result in the inability to service the debt.
Depreciation: A decrease or loss in value due to wear, age or other cause.
Distressed Property: A non-stabilized apartment community, which means the economic occupancy rate is below 85% and likely much lower due to poor operations, tenant problems, outdated interiors, exteriors or amenities, mismanagement and/or deferred maintenance.
Distributions: The limited partner’s portion of the profits, which are sent on a monthly, quarterly or annual basis, at refinance and/or at sale.
Due Diligence: The process of confirming that a property is as represented by the seller and is not subject to environmental or other problems. For apartment syndications, the general partner will perform due diligence to confirm their underwriting assumptions and business plan.
Earnest Money: A payment by the buyers that is a portion of the purchase price to indicate to the seller their intention and ability to carry out sales contract.
Economic Occupancy Rate: The rate of paying tenants based on the total possible revenue and the actual revenue collected. The economic occupancy is calculated by dividing the actual revenue collected by the gross potential income.
Effective Gross Income (EGI): The true positive cash flow. Also referred to as EGI. EGI is calculated by subtracting the revenue lost due to vacancy, loss-to-lease, concessions, employee units, model units and bad debt from the gross potential income.
Employee Unit: An apartment unit rented to an employee at a discount or for free.
Equity Investment: The upfront costs for purchasing a property. For apartment syndications, these costs include the down payment for the mortgage loan, closing costs, financing fees, operating account funding and the fees paid to the general partnership for putting the deal together. Also referred to as the initial cash outlay or the down payment.
Equity Multiple (EM): The rate of return based on the total net profit and the equity investment. Also referred to as EM The EM is calculated by dividing the sum of the total net profit (cash flow plus sales proceeds) and the equity investment by the equity investment.
Exit Strategy: The general partner’s plan of action for selling the apartment community at the conclusion of the business plan.
Financing Fees: The one-time, upfront fees charged by the lender for providing the debt service. Also referred to as finance charges.
General Partner (GP): An owner of a partnership who has unlimited liability. A general partner is usually a managing partner and is active in the day-to-day operations of the business. In apartment syndications, the general partner is also referred to as the sponsor or syndicator and is responsible for managing the entire apartment project.
Gross Potential Income: The hypothetical amount of revenue if the apartment community was 100% leased year-round at market rental rates plus all other income.
Gross Potential Rent (GPR): The hypothetical amount of revenue if the apartment community was 100% leased year-round at market rental rates. Also referred to as GPR.
Gross Rent Multiplier (GRM): The number of years it would take for a property to pay for itself based on the gross potential rent. Also referred to as the GRM. The GRM is calculated by dividing the purchase price by the annual gross potential rent.
Guaranty Fee: A fee paid to a loan guarantor at closing for signing for and guaranteeing the loan.
Holding Period: The amount of time the general partner plans on owning the apartment from purchase to sale.
Income Approach: A method of calculating an apartment’s value based on the capitalization rate and the net operating income (value = net operating income / capitalization rate).
Interest Rate: The amount charged by a lender to a borrower for the use of their funds.
Interest-Only Payment: The monthly payment for a mortgage loan where the lender only requires the borrower to only pay the interest on the principal.
Internal Rate of Return (IRR): The rate needed to convert the sum of all future uneven cash flow (cash flow, sales proceeds and principal paydown on the mortgage loan) to equal the equity investment. Also referred to as IRR.
Lease: A formal legal contract between a landlord and a tenant for occupying an apartment unit for a specified time and at a specified price with specified terms.
Letter of Intent (LOI): A non-binding agreement created by a buyer with their proposed purchase terms. Also referred to as the LOI.
Limited Partner (LP): A partner whose liability is limited to the extent of their share of ownership. Also referred to as the LP. In apartment syndications, the LP is the passive investor who funds a portion of the equity investment.
London Interbank Offered Rate (LIBOR): A benchmark rate that some of the world’s leading banks charge each other for short-term loans. Also referred to as LIBOR. The LIBOR serves as the first step to calculating interest rates on various loans, including commercial loans, throughout the world.
Loan-to-Cost Ratio (LTC): The ratio of the value of the total project costs (loan amount + capital expenditure costs) divided by the apartment’s appraised value.
Loan-to-Value Ratio (LTV): The ratio of the value of the loan amount divided by the apartment’s appraised value.
Loss-to-Lease (LtL): The revenue lost based on the market rent and the actual rent. Also referred to as LtL. The LtL is calculated by dividing the gross potential rent minus the actual rent collected by the gross potential rent.
Market Rent: The rent amount a willing landlord might reasonably expect to receive and a willing tenant might reasonably expect to pay for tenancy, which is based on the rent charged at similar apartment communities in the area. The market rent is typically calculated by conducting a rent comparable analysis.
Metropolitan Statistical Area (MSA): A geographical region containing a substantial population nucleus, together with adjacent communities having a high degree of economic and social integration with that core. Also referred to as the MSA. MSAs are determined by the United States Office of Management and Budget (OMB).
Model Unit: A representative apartment unit used as a sales tool to show prospective tenants how the actual unit will appear once occupied.
Mortgage: A legal contract by which an apartment is pledged as security for repayment of a loan until the debt is repaid in full.
Net Operating Income (NOI): All the revenue from the property minus the operating expenses. Also referred to as the NOI.
Operating Account Funding: A reserves fund, over and above the purchase price of an apartment, to cover things like unexpected dips in occupancy, lump sum insurance or tax payments or higher than expected capital expenditures. The operating account funding is typically created by raising extra capital from the limited partners.
Operating Agreement: A document that outlines the responsibilities and ownership percentages for the general and limited partners in an apartment syndication.
Operating Expenses: The costs of running and maintaining the property and its grounds. For apartment syndications, the operating expense are usually broken into the following categories: payroll, maintenance and repairs, contract services, make ready, advertising/marketing, administrative, utilities, management fees, taxes, insurance and reserves.
Passive Investing: Placing one’s capital into an apartment syndication that is managed in its entirety by a general partner.
Permanent Agency Loan: A long-term mortgage loan secured from Fannie Mae or Freddie Mac. Typical loan terms lengths are 3, 5, 7, 10, 12 or more years amortized over up to 30 years.
Physical Occupancy Rate: The rate of occupied units. The physical occupancy rate is calculated by dividing the total number of occupied units by the total number of units at the property.
Preferred Return: The threshold return that limited partners are offered prior to the general partners receiving payment.
Prepayment Penalty: A clause in a mortgage contract stating that a penalty will be assessed if the mortgage is paid down or paid off within a certain period.
Price Per Unit: The cost per unit of purchasing a property. The price per unit is calculated by dividing the purchase price of the property by the total number of units.
Private Placement Memorandum (PPM): A document that outlines the terms of the investment and the primary risk factors involved with making the investment. Also referred to as the PPM. The PPM typically has four main sections: the introductions (a brief summary of the offering), basic disclosures (general partner information, asset description and risk factors), the legal agreement and the subscription agreement.
Pro-forma: The projected budget with itemized line items for the revenue and expenses for the next 12 months and five years.
Profit and Loss Statement (T-12): A document or spreadsheet containing detailed information about the revenue and expenses of a property over the last 12 months. Also referred to as a trailing 12-month profit and loss statement or a T-12.
Property and Neighborhood Classes: A ranking system of A, B, C or D assigned to a property and a neighborhood based on a variety of factors. For property classes, these factors include date of construction, condition of the property and amenities offered. For neighborhood classes, these factors include demographics, median income and median home values, crime rates and school district rankings.
Property Management Fee: An ongoing monthly fee paid to the property management company for managing the day-to-day operations of the property.
Ration Utility Billing System (RUBS): A method of calculating a tenant’s utility usage based on occupancy, unit square footage or a combination of both. Once calculated, the amount is billed back to the tenant.
Recourse: The right of the lender to go after personal assets above and beyond the collateral if the borrower defaults on the loan.
Refinance: The replacing of an existing debt obligation with another debt obligation with different terms.
Refinancing Fee: A fee paid to the general partner for the work required to refinance an apartment.
Rent Comparable Analysis (Rent Comps): The process of analyzing the rental rates of similar properties in the area to determine the market rents of the units at the subject property.
Rent Premium: The increase in rent demanded after performing renovations to the interior and/or exterior of an apartment community.
Rent Roll: A document or spreadsheet containing detailed information on each of the units at the apartment community, including the unit number, unit type, square footage, tenant name, market rent, actual rent, deposit amount, move-in date, lease-start and lease-end date and the tenant balance.
Sales Comparison Approach: A method of calculating an apartment’s value based on similar apartments recently sold.
Sales Proceeds: the profit collected at the sale of the apartment community.
Sophisticated Investor: A person who is deemed to have sufficient investing experience and knowledge to weigh the risks and merits of an investment opportunity.
Subject Property: The apartment the general partner intends on purchasing.
Submarket: A geographic subdivision of a market.
Subscription Agreement: A document that is a promise by the LLC that owns the property to sell a specific number of shares to a limited partner at a specified price, and a promise by the limited partner to pay that price.
Underwriting: The process of financially evaluating an apartment community to determine the projected returns and an offer price.
Vacancy Loss: The amount of revenue lost due to unoccupied units.
Vacancy Rate: The rate of unoccupied units. The vacancy rate is calculated by dividing the total number of unoccupied units by the total number of units.
Value-Add Property: A stabilized apartment community with an economic occupancy above 85% and has an opportunity to be improved by adding value, which means making improvements to the operations and the physical property through exterior and interior renovations in order to increase the income and/or decrease the expenses.
Yield Maintenance: A penalty paid by the borrower on a loan is the principal is paid off early.
Regardless of their investment criteria, an experienced GP will perform underwriting on tens, if not hundreds, of deals before finding one that qualifies for an offer. And once they do, there is a four-step process for submitting an offer.
Understanding this process is obviously important for those striving to syndicate their own apartment deals in the future. But it is important for those passively investing in apartment syndications to understand as well. If they are entrusting the GP with their hard-earned capital, they should know how the offer price and terms are calculated.
1. Pre-Offer Conversation
Before completing the underwriting process and submitting an offer, the GP will likely need to reach out to the listing real estate broker and their property management company.
If questions arise during the course of the underwriting process, the GP will need to get the answers from the listing broker before submitting an offer. For example, there might be a discrepancy between the rent roll and the offering memorandum in regards to the number of units renovated by the current owner. Or the properties used by the listing broker for the rental comparable analysis are too dissimilar to the subject property. Or the GP needs more information on the exterior capital expenditures completed by the current owner over the past few years. The GP should leave no stone unturned before determining an offer price.
Similarly, the GP should review the underwriting with the property management company who will manage the deal after acquisition in order to confirm the assumptions there were made.
Additionally, the GP should visit the property in-person. Ideally, the GP visits the property with their property management company and, if they plan on performing renovations after acquisition, a general contractor. Together, they should look at the condition of the big ticket exterior items, like the roofs, siding, parking lots, clubhouse, amenities (i.e. pool, fitness center, playground, etc.), landscaping and signage. They should interview the onsite property management company to understand the historical operations of the property. They should tour a handful of units, preferably the “best” and “worst” unit. Then, they should leave the property and drive a 2-mile radius around the property, making note of nearby retail centers, restaurants, employment hubs and other apartment communities. Lastly, they should visit these other apartment communities to gain an understanding of the local competition.
Based on the feedback from the real estate broker and property management company, and the in-person visit, the GP should update or revise any underwriting assumptions in preparation for submitting an offer. At this point, the GP will have better assumptions than those that were made by simply reviewing the rent roll and profit and loss statement. But, if they are awarded the deal, the GP will conduct more detailed due diligence in order to finalize their assumptions.
2. Determine an Offer Price
During the underwriting and pre-conversation phase, the GP will usually have an idea of the price at which the owner is wanting to sell. Sometimes, the sales price is explicitly stated but this is usually only the case for smaller apartment deals. For deals with 50 to 100 or more units, the listed purchase price will likely say “to be determined by the market.” If that is the case, the GP can usually get a ballpark number from the listing real estate broker or the owner. If not, then they may use the current market cap rate and the current net operating income to get an estimated sales price.
However, the sale price the owner desires is fairly irrelevant when determining an offer price. Experienced GPs will set an offer price that results in projected returns that meet their investment criteria. For example, my company will set an offer price that results in, at minimum, a 8% cash-on-cash return and a 16% 5-year internal rate of return to the limited partners.
If the GP’s offer price differs greatly from the listed, stated or estimated sales price, it may be due to an error on the GP’s side or due to the seller making too aggressive of assumptions. If it is the latter, the GP can either walk away from the deal or submit their offer along with an explanation for why the offer is much lower than what the seller desires.
In addition to determining an offer price, the GP should also have a conversation with their lender or mortgage broker to obtain estimated loan terms to include in their offer.
3. Submit an LOI
At this point, if the results of the underwriting meet their investment criteria, the GP will submit an offer in the form of a letter of intent (referred to as LOI hereafter). The LOI should be prepared by the GP’s real estate attorney.
The LOI is not legally binding. Its purpose is to show the GP’s intent to purchase the apartment at the stated price and terms, which includes the purchase price, down payment amount, earnest deposit and the due diligence timeline.
For the earnest deposit, 1% of the purchase price is standard and goes hard (i.e. is non-refundable) once the inspection period is completed (30 to 45 days). However, if the GP is in a competitive offer situation, the earnest deposit terms can deviate from the norm, whether it is a higher deposit amount and/or a shorter time frame before it goes hard (with the most competitive offers having the earnest deposit go hard day 1). For example, on a recent deal, my company had a $200,000 earnest deposit go hard day 1.
The GP can have a conversation with their real estate broker about what they are seeing in the current market for earnest deposit and its terms. Or, the GP can base the earnest deposit amount and terms on their previous acquisitions in the same submarket.
After submitting the LOI, the GP may be invited to a best and final call with the sellers. This is when the sellers ask for the interested investors’ best and final offer. Then, the investors with the most competitive offers will be invited to a call with the sellers, which is basically an interview so that the seller can determine if the investor is capable of closing on the deal.
4. Submit a Formal Offer
If the sellers accept and sign the GP’s letter of intent or they are awarded the deal after the best and final round, the GP will submit a formal offer in the form of a purchase sales agreement. Similar to the LOI, this sales agreement should be prepared by the GP’s real estate attorney. The purchase sales agreement is a detailed contract that outlines all of the terms of the sale.
Funding the upfront costs
In addition to the earnest deposit, other fees paid prior to closing are the upfront bank fees. Since the earnest deposit is due soon after closing, the GP needs to know where these funds will come from prior to putting the property under contract. The GP may front these costs and reimburse themselves at the close. Another option is for the GP ask an investor to fund the earnest deposit and upfront bank fees and create a promissory note so that the GP is responsible for paying the investor back if they lose the money (which happens if the contract is cancelled after the earnest deposit goes hard). Or, the GP could partner with someone on their team that has those funds. Ideally, the party who funds the earnest deposit will fund the other upfront banks fees as well.
In terms of how much upfront cash is needed, a good estimate is 2.5% of the purchase price (1% for the earnest deposit and 1.5% for the bank fees). For example, a $10 million purchase price would require an estimated $3.5 million in equity (25% down payment, GP fees, closing costs and cash reserves) at close. Of that $3.5 million, the GP would need approximately $250,000 in cash to cover the earnest deposit and upfront bank fees to get the deal to the closing table.
In real estate investing, there are two major strategies to choose from, and each can be used to pursue a variety of different opportunities. In passive real estate investing, two of the most popular investment opportunities are apartment syndications and real estate investment trusts, or REITs.
A REIT is a company that owns, operates or finances income-producing real estate that generates revenue, which is paid out to shareholders in the form of dividends. An apartment syndication is when a syndicator (i.e., the general partner) pools together capital from passive investors (i.e., the limited partners) to purchase an apartment community while sharing in the profits.
In both cases, the passive investor is investing in real estate. However, the investment structures differ, which means that there are distinct pros and cons for each strategy. From my experience syndicating over $300,000,000 in apartment communities, when compared to REITs, I’ve found six pros and cons of passively investing in an apartment syndication.
With REITs, you have the ability to buy and sell like a standard stock. If you find yourself needing to pull out your capital, you can do so relatively quickly. Conversely, a passive apartment syndication is less liquid. Your initial investment is locked in until the end of the projected hold period. However, depending on the syndicator, there may be exceptions to this rule.
First, the syndication may have a clause that allows you to sell your shares of the company with the written consent of the general partnership. It is not as fast or as simple as selling shares of a REIT, but if an emergency were to arise and the syndication has such a clause, there is a process for reclaiming your investment. But overall, the passive apartment syndication is less liquid than a passive REIT investment.
In regards to liquidly, REITs win. REITs 1, apartments 0.
2. Barrier To Entry
To invest in a REIT, a large sum of capital isn’t required. Most REITs have no minimum investment, although they may require that you purchase blocks of 10 or 100 shares. That means you can invest in a REIT with less than $1,000, whereas apartment syndications have a higher barrier to entry.
First, you may need to be accredited, which means having an annual income of $200,000 or $300,000 for joint income for the last two years, or an individual or joint net worth exceeding $1 million. Additionally, apartment syndication may require a minimum investment. For example, my company requires a first-time minimum investment of $50,000 and then $25,000 thereafter. You can find syndicators that don’t require a minimum investment or for which you meet the accredited investor qualifications, but regardless, the financial barrier of entry is higher for apartment syndications than REITs.
REITs 2, apartments 0.
With REITs, you invest in a diversified portfolio of properties that provide a blended return. Because the risk is shared across a pool of assets, you will not see major fluctuations in your returns and portfolio value. With a passive apartment investment, your return is directly tied to the performance of a single asset. If something negative happens to the property or the submarket in which the property is located, your projected returns will be reduced accordingly. However, the same logic applies to the upside as well.
Of course, this risk can be greatly reduced by only investing with apartment syndicators who follow the Three Immutable Laws of Real Estate Investing. Additionally, you can make up for the lack of diversification by investing in multiple apartment syndication deals, essentially creating your own personal REIT.
I’m calling this one a draw. So, the score remains: REITs 2, apartments 0.
The major benefit of passively investing in apartment syndications is the higher average returns. The total REIT return over the last five years (May 2013 to 2018) is 25.213%, including dividends and distributions. If you initially invested $100,000 in May 2013, your total profit by May 2018 is $25,213. As a comparison, my company does not purchase an apartment community unless the average annual return exceeds 9% and the five-year internal rate of return exceeds 16% to our passive investors. On a deal we purchased in 2015, we projected a 13.5% average annual return and a 20% five-year IRR to our passive investors, which would result in a total five-year profit of $102,805. As of this writing, not only are we on pace to exceed these projections, but we were able to refinance the property into a new loan and return about 40% of our passive investors initial capital. That is the power of apartment syndications.
Money is the crux of why people invest in real estate at all, so I’m giving apartments three points on this consideration. REITs 2, apartments 3.
When investing in an apartment syndication, you also benefit from having direct ownership of the underlying asset. The major benefit of direct ownership is transparency — you see the actual asset you are investing in. As the general partnership progresses through the business plan, you will receive updates where, again, you can to see the actual asset, along with pictures of the updates and a variety of KPIs (rents, occupancy, etc.).
Another — and essential — benefit is having the direct contact information of the person calling the shots. If you have a question, you won’t have to worry about speaking with customer service or an automated phone service. Instead, you have direct access to the general partner who is managing the asset.
Another point for apartments: REITs 2, apartments 4.
From a tax perspective, both REITs and apartment syndications will pass the depreciation benefits through to the passive investor. However, where these two strategies differ is with the profit at sale. For a passive apartment syndication investment, you have the opportunity to utilize the 1031 exchange tax instrument, which allows you to defer the taxes on your profit at sale by reinvesting in another deal with the same syndicator.
The final tally: REITs 2, apartments 5.
While the returns on both REITs and apartments have historically exceeded those of regular stocks as long as you are financially qualified and willing to tie up your capital for five to 10 years, passively investing in apartment syndications is, overall, the superior strategy.
DISCLAIMER: THIS IS FOR YOUR INFORMATION ONLY. SINCE I AM NOT A TAX ADVISORY FIRM, I REFER ALL GENERAL TAX-RELATED REAL ESTATE QUESTIONS FROM PASSIVE INVESTORS BACK TO THEIR ACCOUNTANTS. HOWEVER, I WILL SAY THAT INVESTORS OFTEN SEEK REAL ESTATE OPPORTUNITIES TO INVEST IN DUE TO THE TAX ADVANTAGES THAT MAY COME FROM DEBT WRITE OFF AND LOSS DUE TO DEPRECIATION. BUT I DON’T INCLUDE ANY ASSUMPTIONS ABOUT THESE TAX ADVANTAGES IN OUR PROJECTIONS.
In addition to the capital preservation and cash flow benefits, one of the main reasons that passive investors seek to invest in real estate opportunities, and apartment syndications in particular, is because of the tax benefits of rental property.
When a passive investor invests in a value-add apartment syndication, they will generally receive a profit from annual cash flow and the profit at sale. Being a profit, this money is taxable. However, for apartment syndications, there are five pieces of tax information that the syndicator and the passive investor need to understand in order to determine the tax advantages of investing. These are 1) the depreciation benefits, 2) accelerated depreciation via cost segregation, 3) depreciation recapture, 4) bonus depreciation, and 5) capital gains tax at sale.
Investment property depreciation is the amount that can be deducted from income each year as the depreciable items at the apartment community age. The IRS classifies each depreciable item according to its useful life, which is the number of years of useful life of the item. The business can deduct the full cost of the item over that period.
The most common form of depreciation is straight-line depreciation, which allows the deduction of equal amounts each year. The annual deduction is the cost of the item divided by its useful life. The IRS considers the useful life of real estate to be 27.5 years. So, the annual depreciation on an apartment building worth $1,000,000 (excluding the land value) is $1,000,000 / 27.5 years = $36,363,64 per year.
As one of the tax benefits of apartment syndications, the depreciation amount is such that a passive investor won’t pay taxes on their monthly, quarterly, or annual distributions during the hold period. They will, however, have to pay taxes on the sales proceeds.
Cost segregations is a strategic tax planning tool that allows companies and individuals who have constructed, purchased, expanded, or remodeled any kind of real estate to increase cash flow by accelerating depreciation deductions and deferring income taxes. A cost segregation study performed by a cost segregation engineering firm dissects the construction cost or purchase price of the property that would otherwise be depreciated over 27.5 years, the useful life of a residential building. The primary goal of a cost segregation study is to identify all property-related costs that can be depreciated over 5, 7, and 15 years
For example, my company performed a cost segregation on our portfolio for 2017. On one of the properties, we showed a loss from investment property depreciation of greater than 412% than we would have seen with the straight-line depreciation using the 27.5-year useful life figure.
To perform a cost segregation, the syndicator will need to hire a cost segregation specialist. This can cost anywhere between $10,000 and $100,000, depending on the size of the apartments.
Depreciation recapture is the gain received from the sale of depreciable capital property that must be reported as income. Depreciation recapture is assessed when the sale price of an asset exceeds the tax basis or adjusted cost basis. The difference between these figures is “recaptured” by reporting it as income.
For example, consider an apartment that was purchased for $1,000,000 and has an annual depreciation of $35,000. After 11 years, the owner decides to sell the property for $1,300,000. The adjusted cost basis then is $1,000,000 – ($35,000 x 11) = $615,000. The realized gain on the sale will be $1,300,000 – $615,000 = $685,000. Capital gain on the property can be calculated as $685,000 – ($35,000 x 11) = $300,000, and the depreciation recapture gain is $35,000 x 11 = $385,000.
Let’s assume a 15% capital gains tax and that the owner falls in the 28% income tax bracket. The total amount of tax that the taxpayer will owe on the sale of this rental property is (0.15 x $300,000) + (0.28 x $385,000) = $45,000 + $107,800 = $152,800. The depreciation recapture amount is $107,800 and the capital gains amount is $45,000.
One of the major changes with the Tax Cuts and Jobs Act of 2017 was the bonus depreciation provision, where business can take 100% bonus depreciation on a qualified property purchased after September 27th, 2017. This is definitely one of the tax benefits of rental property you should learn more about, so click here for more information on the qualifications and benefits of the change in bonus appreciation.
When the asset is sold and the partnership is terminated, initial equity and profits are distributed to the passive investors. The IRS classifies the profit portion as long-term capital gain.
Under the new 2018 tax law, the capital gains tax bracket breakdown is as follows:
Taxable income (individual or joint)
$0 to $77,220: 0% capital gains tax
$77,221 to $479,000: 15% capital gains tax
More than $479,000: 20% capital gains tax
Annual Tax Statements
At the beginning of the following year, the syndicator will have their CPA create Schedule K-1 tax reports for each passive investor. The K-1 is a tax document that includes all of the pertinent tax information that the passive investor will use to fill out their tax forms.
If you’re interested in partnering with me and potentially gaining from these tax benefits of rental property, please fill out the form here.
There are three main steps to take an apartment deal from contract to close. First, the apartment syndicator performs detailed due diligence to confirm or update the underwriting assumptions. Next, the apartment syndicator secures a loan to finance the deal. Lastly, and the focus of this blog post, the apartment syndicator secures financial commitments from passive investors in order to fund the deal.
For apartment syndications, and the value-add investment strategy in particular, the syndicator will get a loan to cover the majority of the project costs. Generally, the costs that are not covered by the loan are the down payment for the loan (which is 20% to 30% of the purchase price or the purchase price plus renovations, depending on the loan), general partnership fees charged by the syndicator, financing fees (which are approximately 1.75% of the purchase price), closing costs (which are approximately 1% of the purchase price) and an operating account fund (which is approximately 1% to 3% of the purchase price).
In total, a syndicator should expect to require 30% to 40% of the total project costs in order to close on the deal. These remaining costs come from a combination of the general partners (i.e. the syndication team) and the limited partners (i.e. passive investors), with the majority generally coming from the limited partners.
The purpose of this blog post is to outline the 5-step process for securing financial commitments from passive investors after an apartment deal is under contract in order to cover this 30% to 40% of the project costs and close on the deal.
1 – Investment Package
From the syndicator’s perspective, one of the first steps towards securing commitments from passive investors is creating an investment package. Before closing on the deal, the syndicator underwrote the property, conducted a rental comparable analysis, visited the property in-person and negotiated a purchase price. During this time, they become extremely familiar with the property and the surrounding area. The purpose of the investment package is to take all of this knowledge gained by the syndicator from initially qualifying the deal and consolidating it into a digestible form so that the passive investors can review the deal and make an educated investment decision.
The form of and the information included in an investment package will vary from syndicator to syndicator, depending on their experience and the business plan. At the very least, the investment package will include the main highlights of the deal that are relevant to the passive investor. These highlights include the purchase price, the projected returns for the project and to the passive investors, an explanation of the business plan including the exit strategy, and the partnership structure. However, ideally the investment package includes much more about the underlying assumptions behind these investment highlights.
For example, my company creates an investment summary package which includes the following sections:
Executive Summary: a summary of the information that is relevant to the passive investor, which is expanded upon in later sections. This includes things like purchase price, return projections and the business plan
Investment Highlights: an explanation on why this apartment deal is a solid investment. This includes things like our value-add business plan, the debt terms, the exit strategy and anything unique to the specific deal or market
Property Overview: an overview of the property details. This include things like the community amenities, unit features, a property description, the unit mix and floorplans, and a site map
Financial Analysis: shows the underlying analysis and assumptions of the return projections. This includes things like the offering summary, debt summary, projected returns to the investor and the detailed proforma
Market Overview: an overview of the submarket and market in which the apartment deal is located. This includes things like job growth, demographic data, nearby transportation of developments and the rental and sales comparables that were used to calculate the projected rents
Mostly everything that a passive investor needs to know in order to make an educated investment decision should be included in the investment package.
2 – Passive Investors Notified about New Deal
Once the investment package is created, which could take anywhere from a few days to a week, the next step is for the syndicator to notify their investor database about their deal.
I highly recommend that a syndicator gets verbal commitments from passive investors and creates an investor database prior to looking for deal (here are over 20 blog posts on how to find passive investors). In fact, understanding how much money they can raise will determine the size of deal a syndicator should pursue. For example, understanding the they will require approximately 30% to 40% of the project costs to close, a syndicator with $1 million in verbal commitments can look for apartment deals in the $2.5 to 3.3 million range.
For my company, once we put a deal under contract and creates the investment package, we notify our passive investors about the new opportunity via email. In this email, we include the top two to three highlights of the deal, include a link to the investment package and invite them to a conference call where we will go over the deal in more detail. We set up the conference call using www.FreeConferenceCall.com and include the date and call-in information in this email.
Provide an overview of the deal, the market and the team
Go into more detail on the deal, the market and the team
Questions and answers session
Conclude the call and send the recording to the investors
This is my company’s approach, but it will vary from syndicator to syndicator. Some syndicators will structure their presentations differently. Some syndicators may host a video webinar. Others might just send the investment package and/or a recording to their investors.
4 – Secure Commitments
After the new investment offering presentation, however the syndicator decided to approach it, the next step is to secure financial commitments from the passive investors.
If you are a passive investor, if the deal aligns with your investment goals, you can verbally commit to investing in the deal. How you make your commitment will vary for syndicator to syndicator. For my company, we send our investors a recording of the conference call and ask them to send us an email with their commitments (and whether they are investing as an individual or LLC) and we hold their spot until they review and sign the required documentation, which I will outline in the next section.
If you are an apartment syndicator, this process will vary depending on your experience level. When you are first starting out, you will need to be more proactive when securing commitments. A good strategy is to send emails to your investor database every week or two, inviting them to invest in the deal and providing them a new piece of positive information. You don’t want to send them an email that only asks them to invest. You want to provide a new piece of positive information like a due diligence report came back clean, a new development that was recently announced down the street, the rental comparable report came back and the rents are higher than what you projected, etc. Then, as you gain more experience and credibility from passive investors, they will come to you. Your goal should be to have 100% of the funding 30 days before closing. And once the deal is fully funded, don’t turn away interested investors. Instead, tell them that the deal is fully funded but that you will put them on a waiting list.
5 – Complete Required Documentation
The last step is for the passive investors to make their investments official by reviewing and signing the required documentation. There are five main documents that the syndicator needs to prepare (with the help of their real estate and securities attorney) and the passive investors need to sign in order to make the investments official. We will send our investors these documents to sign via Adobe Sign.
Private Placement Memorandum (PPM)
The PPM is a legal document that highlights all the legal disclaimers for how the passive investor could lose their money in the deal.
Generally, a PPM will include two major components. One is the introduction, which includes a summary of the offering, description of the asset being purchased, minimum and maximum investment amounts, key risks involved in the offering and a disclosure on how the general partners are paid. The other section covers basic disclosures, which includes general partner information, offering description and a list of all the risks associated with the offering.
The PPM should be prepared by a securities attorney for each apartment deal.
The PPM will also include funding instructions. Once the investor has signed the PPM and sent their funds, we will send them an email confirmation within 24 to 48 hours.
For each apartment deal, my company forms a new limited liability company (LLC). My company is a general partner (GP). Our investors will purchase shares in that LLC and become a limited partner (LP). However, every syndicator should speak with a real estate attorney to determine which approach is best for them.
The operating agreement outlines the responsibilities and ownership percentages for the GP and LP.
The operating agreement should be prepared by a real estate attorney for each apartment deal.
Simply put, the subscription agreement is a promise by the LLC to sell a specified number of shares to passive investors at a specified price, and a promise by the passive investors to pay that price. For example, a passive investor that is investing $50,000 would purchase 50,000 shares of the LLC at $1 per share.
Like the operating agreement, the subscription agreement should be prepared by a real estate attorney for each deal.
Accredited Investor Qualifier Form
The accredited investor form required is based on whether the offering is 506(b) vs. 506(c). Most likely, the general partner is either selling private securities to the limited partners under Rule 506(b) or 506(c). One key difference is that 506(c) allows for general solicitation or advertising of the deal to the public, while 506(b) offerings do not. But the other difference is the type of person who can invest in each offering type. For the 506(b), there can be up to 35 unaccredited but sophisticated investors, while 506(c) is strictly for accredited investors only. That being said, a syndicator should have a conversation with a securities attorney to see which offering is the best fit for them.
If the general partners are doing a 506(c) offering, they must verify the accredited investor status of each passive investor, which requires the review of tax returns or bank statements, verification of net worth or written confirmation from a broker, attorney or certified account. The accredited investor qualifications are a net worth exceeding $1,000,000 excluding a personal residence or an individual annual income exceeding $200,000 in the last two years or a joint income with a spouse exceeding $300,000.
If the general partners are doing a 506(b), they are not required to verify the accredited investors status – the passive investor can self-verify that they are accredited or sophisticated. In addition, for the 506(b) offering, to prove that the general partners didn’t solicit the offering, they must be able to demonstrate that they had a relationship with the passive investor before their knowledge of the investment opportunity, which is determined by the duration and extent of the relationship.
This form should also be prepared by a securities attorney, but only on one occasion (unless the accredited investor qualifications change).
Lastly is the ACH application. This document is optional but recommended. It will allow the passive investor to receive their distributions via direct deposit into a bank of their choice.
Once a passive investor has committed to investing in a deal, the general partners should them these five documents to make the partnership official.
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Once a syndicator puts an apartment deal under contract, concurrent with the due diligence process is the process of securing investment property loans. Generally, debt is a part of the apartment syndicator’s business plan because of the benefits that arise from leverage. Rather than purchasing the apartment community with all cash, they obtain a loan for upwards of 80% of the value while benefiting from 100% ownership.
However, not all debt and apartment financing are the same. The type of debt and financing an apartment syndicator puts on the asset is highly dependent on the business plan. Also, different types of financing bring different levels of risks. Therefore, as a passive investor or an apartment syndicator, it is important to understand 1) the different types of debt and 2) the different types of financing. In doing so, you will be able to identify which combination of debt and financing is in your best interests based on the business plan.
Two Types of Debt: Recourse and Nonrecourse
Before diving into the two main types of loans, it is important to first distinguish the two types of debt – recourse and nonrecourse. According to the IRS, with recourse debt, the borrower is personally liable while all other debt is considered nonrecourse. In other words, recourse debt allows the lender to collect what is owed for the debt even after they’ve taken the collateral (which in this case is the apartment building). Lenders have the right to garnish wages or levy accounts in order to collect what is owed.
On the other hand, with nonrecourse debt, the lender cannot pursue anything other than the collateral. But, there are exceptions. In the cases of gross negligence or fraud, the lender of investment property loans is allowed to collect what is owed above and beyond the collateral.
Apartment syndicators almost universally prefer nonrecourse debt, while lenders almost universally prefer recourse debt. But, while nonrecourse is advantageous to the borrower for the reasons stated above, it generally comes with a higher interest rate and is only given to individuals or businesses with a strong financial history and credit.
Two Types of Financing: Permanent and Bridge Loan
Generally, an apartment syndicator will secure one of two types of loans when seeking apartment financing: a permanent agency loan or a bridge loan.
The other most common type of investment property loan is the bridge loan. A bridge loan is a short-term loan that is used until the borrower secures long-term financing or sells the property. This loan is ideal for repositioning an apartment, like with the value-add or distressed apartment strategy.
Typically, bridge loans have a term of 6 months to 3 years, with the option to purchase an extension of a year or two. They are almost exclusively interest-only. For example, with a 2-year bridge loan, the investor would make interest-only payments for two years, at which point the investor must pay off the loan, refinancing, purchase an extension, or sell the property.
The bridge loan is an LTC (loan-to-cost) loan at 75% to 80%, which means the lender will provide funding for 75% to 80% of the total project cost (purchase price + renovation costs) and the syndicator provides the remaining 20% to 25%.
Generally, bridge loans are nonrecourse to the borrower and have a faster closing process. Also, since they are interest-only, the monthly debt service is lower. However, the disadvantages are that they are riskier than permanent loans because they are shorter-term in nature. Before the end of the term, which will likely occur before the end of the business plan, the syndicator must refinance or sell. And if the market is such that permanent financing isn’t available or if the business plan didn’t go according to plan, the syndicator is in trouble.
Permanent Agency Loans:
A permanent agency loan is secured from Fannie Mae or Freddie Mac and is longer-term compared to bridge loans. Typically loan term lengths are 5, 7, or 10 years amortized over 20 to 30 years. For example, with a 5-year investment property loan amortized over 25 years, the syndicator would make payments for 5 years at an amount based on a loan being paid off over 25 years. At the end of the loan term, the syndicator will either have to pay off the remaining principal, refinance into a new loan, or sell the asset.
The permanent agency loan is an LTV (loan-to-value) loan at 75% to 80%, which means the lender will provide funding for 75% to 80% of the value of the apartment and the syndicator provides the remaining 20% to 25%.
Generally, permanent agency loans are nonrecourse. However, value-add or distressed investors likely won’t be able to have the renovation costs included in the loan. Additionally, depending on the physical condition and operations, the asset may not qualify for permanent financing.
Compared to bridge loans, the interest rate is lower, and you may be able to get a few years of interest-only payments. Also, since these loans are longer-term in nature, they are less risky. The permanent loan is a set-it-and-forget-it-loan where you won’t have to worry about a balloon payment or refinancing before the end of your business plan.
When securing apartment financing, the most important thing is that the length of the loan exceeds the projected hold period, which is law number two of the Three Immutable Laws of Real Estate Investing. In doing so, as long as the syndicator follows the other two laws (buy for cash flow and have adequate cash reserves), the business plan is maintainable during a downturn. This law will usually be covered with the permanent loan. However, if the syndicator secures a bridge loan that will come due in the middle of the business plan, they better have a plan in place well ahead of time, whether that’s an early refinance or purchasing an extension.
Overall, the type of debt and financing a syndicator secures is based on their business plan. Bridge loans can be great for value-add investors, as long as they buy right, plan ahead and have an experienced team in place. And permanent financing is great because it is less risky and is a set-it-and-forget-it type of loan.
But regardless of the business plan and type of investment property loans, the syndicator should always have a conversation with a lending professional before securing financing for a deal.
One of the 11 responsibilities an apartment syndicator has as the asset manager of an apartment community is maintaining and maximizing the economic occupancy. For value-add investors, this involves renovating the units and upgrading the community amenities in order to increase the rents, thus increasing the cash flow and returns.
However, no matter how beautiful the newly upgraded apartment community is, the syndicator still needs to implement a marketing strategy in order to fill the units with high-quality residents. Ideally, the syndicator hires a property management company that already applies the best marketing practices. But it is still their responsibility to oversee the management company and make sure the marketing strategy is being implemented properly.
Therefore, whether you are an apartment syndicator or a passive investor in syndications, it is helpful to understand the main ways to effectively market rental listings to attract the desired resident – one who pays rent on time and is courteous to their neighbors – and increase overall economic occupancy.
Here is a list of 18 creative ways to market an apartment rental listing to accomplish the above stated goals:
Create a landing page, either standalone or as a part of your website, that captures the information of potential residents
Create a direct mailing campaign and send it out to people living in similar buildings, inviting them to move into yours by offering some sort of concession (i.e. reduced rent for the first month, reduced security deposit, waive the application fee, etc.) and highlighting the major selling point of your community compared to theirs (i.e. direct garage access, new fitness center, BBQ pit, etc.). This strategy could anger local owners, so if you decide to do this, don’t expect to be popular and expect others to do it to your residents
Contact the Human Resources departments at all the major employers in the area, letting them know that you own an apartment in the area and asking if they can direct new hires to your community
Create a resident referral program where you offer current residents a flat fee ($300 is standard) if they refer someone that signs a lease
Set up an open house and invite members of the local community to attend. Having a model unit and offering refreshments is helpful
Offer special pricing to soldiers, police and first responders, like 50% off the first month’s rent
Design a “for lease” banner and put it near the entry of your property, or near an area that has high foot or car traffic
Design and place flyers at local establishments that are frequented by your resident demographic, like laundry mats, hair salons, nail salons, gyms, coffee shops, etc.
Purchase advertisements in the local newspaper
Post “for rent” listings to Craigslist, Zillow, Realtor.com, Apartments.com and other free online rental listing services
Partner with a real estate broker or agent and advertise your apartment community on the MLS
Create a Facebook advertisement, which allows you to select criteria to hyper-target your preferred resident
Create a Facebook page for your apartment community, posting weekly content to generate a following and posting your rental listings
Pay close attention to the nearby landmarks to cater to that audience, like colleges, military bases, large corporations, etc.
Provide good old-fashioned customer service. Be responsive and timely with requests and questions. If doesn’t matter if you are a marketing wizard and get hundreds of responses to your rental listings if you don’t pick up the phone or respond quickly to emails, politely answer their questions and get them one step closer to viewing the property and signing the lease
Call all residents who have previously notified you that they plan on leave at the end of their lease, asking them about their reason for leaving to see if it is something that can be addressed
Send marketing material or gift baskets to businesses and employers surrounding your community
Follow-up with old leads that are older than 90 days
Some of the strategies are free and just require effort on the part of the syndicator and/or property management company. Others will require an upfront investment or result in a short-term reduction in income. Therefore, it is important that the syndication team understands the marketing strategy prior to closing on the deal so that they account for these expenses in the underwriting.
What about you? Comment below: What strategies do you implement to fill vacancies at your rental properties?
After putting a deal under contract, the due diligence process for an apartment building is much more involved and complicated in comparison to that of a single-family residence or smaller multifamily building. For the real estate due diligence process on an SFR or smaller multifamily building, the lender will likely only require an inspection report and an appraisal report in order to provide you with financing. Then, for your own knowledge, you’ll perform your own financial audit, comparing the leases and rent rolls with the historical financials to make sure the rental rates are in alignment.
When you scale up to hundreds of units, the increase in the number of potential risk points is such that the lender will require additional reports prior to financing the deal, and you will want to obtain additional reports before deciding to move forward with the deal.
For the apartment community due diligence process, you’ll want to obtain and analyze the results of these 10 reports:
Financial Document Audit
Internal Property Condition Assessment
Property Condition Assessment
Environmental Site Assessment
In this ultimate guide, I will outline the contents of each report, how to obtain them, the approximate cost of each (for apartment communities 100 units or more) and how to analyze the results. This should be a great introduction to how to do due diligence on real estate, and you can build on this for your unique deals.
1 – Financial Document Audit
The financial document audit is an analysis that compares the apartment’s historical operations to your budgeted income and expense figures you set when underwriting the deal.
For the audit, a consultant will collect detailed historical financial reports from the sellers, including the last one to three years of income and expense data, bank statements, and rent rolls. The output of the analysis is a detailed spreadsheet of the asset’s historical income, operating expenses, non-operating expenses, and net cash flow which are compared to the budgeted figures you provided.
The summary will take on a form that is similar to a pro forma, with the income and expenses broken down into each individual line item for an easy comparison on your end. They will also provide you with an executive summary document, which will outline how to interpret the audit, what data was used to create the audit spreadsheet and an explanation of any figures that deviate from your budget.
To obtain this document, you will need to hire a commercial real estate consulting firm that specializes in creating financial document audits. An approximate cost for this report is $6,000.
When you initially underwrote the deal, you set the income and expense assumptions based on how you and your team will operate the property once you’ve taken over. These assumptions came from a combination of the trailing 12 months of income and expense data and the current rent roll provided by the seller and the standard market cost per unit per year rates for the expenses.
Once you receive the results of the financial audit report, part of your real estate due diligence is to go through each income and expense line item and compare them to the assumptions in your underwriting model. Ideally, the consultant that performed the audit already compared the results to your provided budget, made adjustments based on their expertise and any inputs you provided, and commented on any discrepancies.
If any discrepancies were found or if the consultant recommended any adjustments, discuss them with your property management company to see if you need to update your budget. If you and your management company come to the conclusion that the budget needs to change, make the necessary adjustments to your underwriting model.
2 – Internal Property Condition (PCA) Assessment
The internal property condition assessment (PCA) is a detailed inspection report is an integral part of your real estate due diligence because it outlines the overall condition of the apartment community.
A licensed contractor will inspect the property from top to bottom. Based on the inspection, he or she will prepare a report with recommendations, preliminary costs, and priorities for immediate repairs, recommended repairs, and continued replacements, along with accompanying pictures of the interiors, exteriors, and the items needing repair.
Being an internal report, you will be responsible for hiring a licensed commercial contractor to perform the assessment. An approximate cost for this assessment is $2,500.
During the underwriting process, you created a renovation/upgrade plan for the interior and exterior of the apartment community, which included the estimated costs. Once you receive the internal PCA, compare the results to your initial renovation budget.
The results of the internal PCA are preliminary costs, not exact costs. However, they will most likely be more accurate than the assumptions you made during the underwriting process. Therefore, if there are discrepancies between the contractor’s estimated renovation costs and your renovation budget, update the underwriting model to reflect the results of the internal PCA.
Hopefully, your initial renovation assumptions were fairly accurate. And ideally, if you made very conservative renovation cost assumptions, you discover that you over-budgeted and can reduce the costs in your underwriting model.
3 – Property Condition Assessment
The property condition assessment is the same as the internal property condition assessment, except this one is created by a third party selected by the lender. The cost is approximately $2,000.
Analyze this reports the same way that you analyzed the internal PCA. Then, compare and contrast the results of the two PCAs. Maybe the lender’s contractor caught something that your contractor did not, and vice versa.
4 – Market Survey
The market survey is a more formal and comprehensive rental comparison analysis than the one you performed during the underwriting phase, which is why it is a necessary part of your real estate due diligence.
For the market survey, your property management company will locate direct competitors of the apartment community. Then, they will compare your apartment community to each of the direct competitors over various factors to determine the market rents on an overall and a unit type basis. A few key points on the market survey analysis is to make sure that your property management company uses apartment communities that are upgraded similarly to how your apartment community will be post-renovations and not in its current condition. These should also be in similar neighborhoods and built within a similar time period.
When initial underwriting the deal, you set your renovated rental assumptions based on a combination of performing your own rental comparable analysis and, if the sellers had initiated an upgrade program, proven rental rates. Compare the results of the market survey to your initial renovated rent assumptions. If there are any discrepancies, update your underwriting model to reflect the results of the market survey and complete this portion of the real estate due diligence.
5 – Lease Audit
Your property management company will collect all of the leases of the current residents at the apartment community and perform an audit. They will analyze each lease, recording the rents, security deposits, concessions, and terms. Then, they will compare the information gathered from the leases to the rent roll provided by the owner, recording any discrepancies.
Unless the current property management company was extremely incompetent, the discrepancies should be minor, if there are any at all, and it should affect your financial model.
6 – Unit Walk
A question my apartment syndication clients ask a lot is “when I am performing real estate due diligence, do I need to walk every single unit?” The answer is a resounding yes! And that is the purpose of the unit walk report.
During the unit walk, your property management company will inspect the individual units. The purpose of the unit walk is to determine the current condition of each. So, while conducting the unit walk, they will take notes on things like the condition of the rooms, the type and condition of appliances, the presence or absence of washer/dryer hookups, the conditions of the light fixtures, missing GFCI outlets, and anything else that stands out as a potential maintenance or resident issue.
Once you receive the unit walk report, compare the results to your interior renovation assumptions to determine the accuracy of your interior business plan.
Do the number of units that require interior upgrades match your business plan? Is there unexpected deferred maintenance that wasn’t accounted for in your budget? Are there a high number of residents who will need to be evicted once you’ve taken over the operations?
Using that data, you can create a more detailed, unit-by-unit interior renovation plan and calculate a more accurate budget. Make any adjustments to your interior renovation assumption on your financial model.
Most likely, your property manager will perform the market survey, lease audit, and unit walk report, and they will usually do it for free. However, ask the property manager how much they will charge you for these three reports if you do not close on the deal. And if you have to hire a 3rd party to create these three reports, the cost is approximately $4,000.
7 – Site Survey
A site survey resembles a map and shows the boundaries of the property, indicating the lot size. It also includes a written description of the property.
There are a lot of third-party services that can conduct a site survey. A quick Google search of “site survey + (city name) will do the trick. I recommend reaching out to multiple companies to get a handful of bids for your project. The approximate cost for the site survey is $6,000.
The site survey report will list any boundary, easement, utility, and zoning issues for the apartment community. Generally, if a problem is found during the site survey, the bank will not provide a loan on the property. So, if something does come up during this real estate due diligence report, your options are limited and should be addressed on a case-by-case basis. If the problem can’t be resolved, you will have to cancel the contract.
8 – Environmental Site Survey
The environmental site assessment is an inspection that identifies potential or existing environmental contamination liabilities. It will address the underlying land, as well as any physical improvements to the property, and will offer conclusions or recommendations for further investigations of an issue is found. The environmental site assessment is also performed by a 3rd party vendor selected by your lender. The approximate cost is $2,500. Similar to the site survey, if the vendor identifies an environmental problem, the lender will not provide a loan for the property. Again, these issues should be addressed on a case-by-case basis.
9 – Appraisal
The appraisal report is created by an appraiser selected by your lender and determines the as-is value of the apartment community. The cost is approximately $5,000.
The appraiser will inspect the property, and then calculate the as-is value of the apartment community. The two appraisal methods that will be used to determine the value of the property are the sales comparison approach (i.e. comparing the subject property to similar properties that were recently sold) and the income capitalization approach (i.e. using the net operating income and the market cap rate).
Once you receive the appraisal, you should compare the appraised value to the contract purchase price as part of your real estate due diligence. The lender will base their financing on the appraised value, not the contract price. Therefore, if the appraisal comes back at a value higher than the contract price, fantastic! That’s essentially free equity. However, if the appraised value is lower than the contract price, you will have to either make up the difference by raising additional capital or renegotiate the purchase price with the seller.
10 – Green Report
The Green report is an optional assessment that evaluates potential energy and water conservation measures for the apartment community. The report will include a list of all measures found, along with the associated cost savings and initial investment.
The report is created by a 3rd party vendor selected by your lender. The approximate cost is $3,500.
The green report, which is the only document that won’t disqualify a deal, will outline all of the potential energy and water conservation opportunities. It will list all of the opportunities that were identified, the estimated initial investment to implement, the associated cost savings and the return on investment. Deciding which opportunities to move forward with should be based on the payback period and the projected hold period of the property.
An Example of Green Options
For example, the following energy efficient opportunities were identified at an apartment project my company assessed:
Dual pane windows
Wall insulation and leakage sealing
Low-flow showerheads and toilets
Interior and exterior LED lighting
Energy Star rated refrigerators and dishwashers
After analyzing the investment amount and cost savings, the opportunities we implemented, and the associated savings and payback periods were:
Exterior LED lighting: 14.4-year payback, $3,236 annual savings
Pool cover: 1.5-year payback, $409 annual savings
The reasoning behind the low-flow showerheads and pool cover was that we planned on holding the property for 5-years, so, once we paid back the initial investment amount, it was pure profit. We ended up losing money on the exterior LED lighting project. However, we installed these lights to increase resident safety.
You will find that the green report will list ALL opportunities, even if the payback period is absurdly long. If we implemented all the opportunities identified in the example above, the overall payback period would have been 91.9 years, with the longest payback period being 165 years for the Energy Star rated dishwashers. Unless we decided to hold onto a building until we died or unit they’ve discovered an immortality serum, we stuck to the opportunities that either resulted in a payback period lower than our projected hold time or address a resident safety concern.
How to Pay for the Due Diligence Reports
Usually, the costs of the real estate due diligence reports will not be due until closing. So, when underwriting the deal, make sure you are taking these costs into account when determining how much equity you need to raise.
Other times, you will need to pay for a due diligence report upfront. If this is the case, you can do one of two things. You can pay out-of-pocket and reimburse yourself at close. Or, you can take a loan from a third-party (maybe one of your passive investors) and reimburse the initial loan amount with interest at close.
Review the Results of Your New Underwriting Model
Based on the financial document audit, market survey report, lease audit report, and green program report, you will either confirm or update your income assumptions. The financial document audit will help you confirm or update your expense assumptions. The two property condition assessments and the unit walk report will lead you to confirm or update your renovation budget assumptions. Based on the appraisal report, you will either confirm the accuracy of the purchase price or determine that you have the property under contract at a price that is below or above the as-is value. And based on the site survey and environmental survey, you will determine if there is anything that disqualifies the deal entirely.
Once you have received the results of all 10 real estate due diligence documents and made the necessary adjustments to your underwriting model, you need to re-review your return projections. If you had to make drastic changes to the income, expenses or renovation budgets in the negative direction, then the new return projections will be reduced. In some cases, the return projections will be reduced to such a degree that the deal no longer meets the return goals of you and your investors. Also, if an issue came up during the site survey or the environmental site assessment, which is rare, it will need to be resolved prior to closing. If the seller is unwilling or unable to address these issues, your lender will not provide financing on the property, which means you will have to cancel the contract.
If the updated return projections fall below your investor’s return goals, adjust the purchase price in your underwriting model until the projected returns meet your investor’s goals again. Then, explain to your real estate broker that you want to renegotiate the purchase price and state the reasons for doing so.
If the seller will not accept the new contract terms, don’t be afraid to walk away from the deal. At the end of the day, it is your job to please your investors, which means providing them with their desired return goals.
One of the three main risk points associated with passively investing in apartment syndications is the syndication team (the other two are the deal itself and the market). The best deal, from a projected returns standpoint, in the best market in the country may result in failure if the team cannot successfully execute the business plan. Therefore, prior to committing to a particular apartment syndicator or to a particular deal, a passive investor should qualify the main team members involved in the deal.
There are the 7 team members involved in syndication process: property management company, real estate broker, CPA, mortgage broker, real estate attorney, securities attorney and a consultant (optional). But the main team member is the property management company.
The property management company is the boots-on-the-ground force that is responsible for overseeing the ongoing, day-to-day operations of the apartment community. This includes marketing efforts to attract new residents, resident relations (like hosting resident events), managing turnovers, fulfilling maintenance requests, maximizing rents and occupancy levels, etc. If the syndicator is following a value-add or distressed investment strategy, the property management company will also oversee the renovation process.
Prior to investing with an apartment syndicator, you want to determine the credibility of the property management company, which you can accomplish by asking the following 8 questions:
How long have they been in business?
A relatively new property management company might not have enough experience managing certain sized or types of apartments. Generally, the longer they’ve been in business, the better. For example, the property management company that we use has been in business for over 75 years.
What geographic areas do they cover?
The property management company MUST have a presence in the market in which the apartment syndicator is investing. That means the company must be local to the market or, if they are a national property management company, must have a regional office located in the market.
How many units do they manage?
Similar to the question 1, the property management company should manage multiple apartment communities in the same market. However, bigger isn’t always better, because if they manage too many units, they might not be able to provide the highest quality service. Also, if they have been in business for decades but only manage a handful of communities, that could be a red flag.
How many units do they own?
If the property management company owns other apartment communities in the same market, it could be a conflict of interest. If the syndicator’s property and their property have a vacant 2 bed, 1 bath unit at the same time, which one are they likely to fill first? Not a deal breaker, but this is definitely something that you want to be aware of.
What asset class do they specialize in?
The property management company MUST have experience implementing the same business plan that the syndicator is pursuing. For example, If the syndicator is following a value-add investment strategy, the property management company must have experience with value-add apartment communities.
What are some of the names of nearby properties they are currently managing?
This proves that they are actually managing apartments in the local market. But it will also allow you to perform some research to see how the apartment communities are maintained. If you are local to the market, you can visit these properties in person. If not, you can perform online research by looking at the website and by looking at the property on Google Maps. Also, you can look up the apartment community on Google or Apartments.com to read resident reviews and see the overall rating.
Have you worked with this company in the past?
Since you are ideally investing with a syndicator who has previous apartment experience, this shouldn’t be the first time they used their property management company. If the property management company doesn’t manage the majority of their portfolio in their target market, that could be red flag. So, if that is the case, a follow-up question would be to ask them why this management company doesn’t manage the majority of their portfolio.
Is the property management company showing alignment of interests?
Alignment of interests are always important, but they are especially important if the syndicator doesn’t have a long, successful track record with apartment communities. There are five main ways that the property management company can show alignment of interest.
The lowest level of alignment of interests is the management company has a proven track record managing apartment communities that are located in the local market, has worked with the syndicator in the past and has followed the same investment strategy that the syndicator is implementing. Regardless of the experience level of the apartment syndicator, this level of alignment of interest should be shown.
The next level up is when the property management company has an equity stake in the general partnership.
The third level of alignment of interest is when the property management company invests their own capital in the deals.
The fourth level of alignment of interest is when the property management company invests their own money in the deal AND brings on their own passive investors.
And the highest level of alignment of interests is when the property management company signs on the loan.
Again: it is ideal that the syndicator has previous experience with apartments, but if they don’t, having alignment of interests with the property management company – or with other team members, like the real estate broker or a local apartment owner/consultant – can offset their lack of experience. If the syndicator does have experience, then the level two to five alignment of interests are less important.
Over the course of your communication with a prospective apartment syndicator, these are the eight questions you want to ask in order to determine the credibility and experience of their property management company.
Once the deal is closed, they are responsible for the ongoing asset management of the project, which includes implementing the business plan, distributing the returns to the passive investors, communicating updates to the passive investors, visiting the property and frequently analyzing the competition and the market.
Essentially, they are responsible for managing the entire process from start to finish. Because of their heavy involvement in the process, the success or failure of the deal rests mostly on their shoulders. Therefore, rather than investing with the first apartment syndicator you find, you need to qualify them by asking questions.
The Business Plan
One of the first things you want to know is the general business plan they implement. Click here to learn more about the three apartment syndication options. This will segue into the next question, which is what is their past experience with this particular business plan? In particular, you want to know if they have taken a deal full cycle (from acquisition to sale) following this business plan and whether or not they were successful (which is determined by how the projected returns compared to the actual returns distributed to the passive investors).
Alignment of Interests
If the syndicator does not have previous experience implementing the business plan, that is not an automatic disqualifier. However, their lack of experience must be made up for by having a credible team and strong alignment of interests. And for the experienced syndicator with a proven track record of successfully implementing their business plan, having a partnership structure that promotes alignment of interests is the icing on the cake.
There are many other team members that are involved in the syndication process, but the three team members with the most involvement in the deal are the property management company, the real estate broker and – if the syndicator doesn’t have previous apartment experience – a consultant. And each of these team members bring different levels of alignment of interests to the deal. Generally, an experienced property management company results in the most alignment of interests, followed by an experienced syndication consultant or local owner who is active in the apartment industry, followed by an experienced real estate broker.
The syndicator themselves can also promote alignment of interests. For example, one of the common fees the syndicator charges in an ongoing asset management fee. If they put that fee in second position to the preferred return, that promotes alignment of interests. If you don’t get paid, they don’t get paid.
Additionally, they can promote alignment of interests by investing their own capital in the deal, whether that’s is their personal funds, company funds or by allocating a portion or all of their acquisition fee into the deal. By not having money in the deal, the syndicator isn’t exposed to the same level of risks as you are. If the deal performs poorly, they won’t get paid but they also won’t lose any capital either. Whereas, by having their own skin in the game, they are incentivized to maximize returns.
Another way to promote alignment of interest is for the syndicator, or a member of the team, to personally guarantee the loan as a loan guarantor.
Another characteristic of a good syndicator is transparency. To determine the level of transparency, ask them about their ongoing communication process. How often do they send updates on the deal? Will they provide you with financial reports so you can review the property’s operations?
You also want to ask them what the communication process is when you have a question. Will they provide you with their cell phone number or direct email address? And if you do have a question, what will be the turn-around time?
You are trusting the syndicator with your hard-earned capital, so having transparency in regards to what they are doing with your money and how the deal is progressing is a must.
A good question to determine the syndicators track record is to ask them how many of their passive investors have invested in multiple assets. Syndicators who have investors that continue to come back deal after deal is an indication that they have a proven track record of meeting and/or exceeding the projected returns. While the opposite may be true if the syndicator has a poor investor retention rate.
Similarly, ask the syndicator what percentage of their new investors come in the form of referrals. If they have a lot of referrals, that indicates satisfied investors who are motivated to share their success with friends and colleagues.
You can also gauge the reputation and credibility of a syndicator by their online presence. Are they easily found when you perform a Google search? Do they have a website? Do they create content in the form of a podcast or blog? You can learn a lot about a syndicator by performing online research prior to actually speaking with them.
The syndicator’s past experience with the apartment business plan, level of alignment of interests, transparency and credibility are important factors to understand when determining whether or not to passively invest in their deal.
If you are a current passive real estate investor, what do you think? Comment below: what do you look for when qualifying an apartment syndicator?
The types of fees and the range of each fee will vary from syndicator-to-syndicator. But every fee that is charged should be directly tied to a task that is explicitly adding value to the apartment deal.
In order to identify the fairness and reasonableness of the GP compensation structure, you need to understand 1) the types and standard ranges of the general partnership fees for the industry, 2) what tasks they are performing in return for those fees and 3) if each of those fees promotes alignment of interests between the LP and GP.
There a lot of different fees that the syndicator could charge, but here is a list of the seven fees that you will come across most often. An important disclaimer to make is that this is not a list of the fees that every syndicator will charge every single time. Rather most syndicators will mix-and-match the types of fees that charge, depending on the project.
1 – Profit Split
Depending on the type of LP compensation structure, the general partnership may earn a split of the total profits.
For example, the LP may receive an 8% preferred return and a total split of the profits. This split can be anywhere from 50/50 to 90/10 (LP/GP)
If the LP invested $1,000,000 into a property that cash flowed $100,000 for the year, assuming an 8% preferred return and a 50/50 split thereafter, the LP would receive $80,000 as a preferred return, plus another $10,000 as a profit split. Then, the GP would receive the remaining $10,000.
The profit split promotes alignment of interests because the GP is financially incentivized to operate the apartment community such that the annual return exceeds the preferred return. Because if they don’t, they are missing out on an opportunity to make money. Then for the passive investor, when the annual returns exceed the preferred return, the LP receives a higher annual distribution and – since the net operating income is directly tied to the property value – a higher distribution at sale.
On a related note, you want to confirm that at sale, the profit split is calculated based on the profits AFTER the LP’s initial equity is return. Also, when the GP is outlining the LP return projections, you want to confirm that those projections are net of the GP fees. This means that you want to make sure that the projections they show you are AFTER the GP has taken their fees, because if not, the actual returns will be less than what they are showing you.
2 – Acquisition Fee
Nearly every apartment syndicator will charge an acquisition fee. The acquisition fee is an upfront, one-time fee paid to the GP at closing. The acquisition fee ranges from 1% to 5% of the purchase price, depending on the size, scope, experience of team and profit potential of the project.
Think of the acquisition fee as a consulting fee paid to the GP for putting the entire project together. It is a fee that pays the GP for their time and money spent on market research, creating a team (lawyers, CPAs, real estate brokers, etc.), finding the deal, analyzing the deal, raising money, securing financing, performing due diligence and closing.
3 – Asset Management Fee
The asset management fee is an ongoing annual fee paid to the GP in return for overseeing the operations of the property and implementing the business plan. The asset management fee is either a percentage of the collected income or a per unit per year fee. The standard percentage range is 2% to 3% while the standard per unit per year is $200 to $300.
The range of the asset management fee is usually based on the business plan. If the plan is to perform interior renovations and exterior renovations/upgrades, a higher asset management fee may be justified, because the GP will be heavily involved in ongoing oversight of the business plan. But the opposite is true if the property is already stabilized and up-to-date from day one. In other words, the more effort and time required by the GP, the higher the asset management fee. And since the asset management fee is directly tied to the collected revenue, if the business plan isn’t implemented effectively, the GP doesn’t maximize what they could make, which helps with alignment of interests.
Additionally, there is a higher alignment of interests with the percentage-based fee as opposed to the unit-based fee. Since the percentage-based fee is tied to the actual collected income, the lower the collected income, the lower the asset management fee. So, the GP is incentivized to maximize the income, which in turn will maximize your returns. Whereas the unit-based fee is a flat fee that remains the same regardless of the amount of collected income.
For another level of alignment of interest, the GP will put the asset management fee in second position behind the preferred return. That means that if the preferred return isn’t distributed, they won’t receive the asset management fee. Not every GP will have a compensation structure with the asset management fee in second position. So, for the ones that don’t, the alignment of interests is lower than that of the GP that does.
4 – Refinance Fee
A refinancing fee is a fee that is paid to the GP for the work required to refinance the property. Of course, if the business plan doesn’t include a refinance, the GP will not charge such a fee.
At the closing of the new loan, a fee of 1% to 3% of the total loan amount is paid to the GP. However, to promote alignment of interests, this fee should only be charged if a specified equity hurdle is reached. For example, the return hurdle may be returning 50% of the LP’s initial equity. If only 40% is returned, while that is still beneficial to the LP, the GP will not collect the fee. Therefore, this type of refinance fee structure incentivizes the GP to maximize the property value such that they will hit the equity return hurdle at refinance. And the LP benefits by receiving a large portion of their equity back and – again, since the property value is directly tied to the net operating income – higher ongoing returns.
5 – Guaranty Fee
The guaranty fee is typically a one-time fee paid to a loan guarantor at closing. The loan guarantor guarantees the loan. The GP may bring on an individual with a high net-worth/balance sheet to sign on the loan to get the best terms possible. Or, the GP may sign the loan themselves, collecting the fee or deciding to forgo it.
At close, a fee of as low as 0.5% to 1% and as high as 3.5 to 5% of the principal balance of the mortgage is paid to the loan guarantor. The riskier or more complicated the deal, the higher the guaranty fee. If the GP doesn’t have a good relationship with the loan guarantor, that individual will charge a higher fee as well. In some instances, the GP will offer the loan guarantor a percentage of the GP (10% to 30%) in addition to the one-time upfront fee.
Also, the size of the fee depends on the type of loan. Generally, there are two types of debts: recourse and nonrecourse. Recourse debt allows the lender to collect what is owed for the debt even after they’ve taken collateral. Nonrecourse debt does not allow the lender to pursue anything other than the collateral (with a few exceptions or “carve outs,” like in instances of gross negligence or fraud). So, the guaranty fee will be higher for recourse loans compared to nonrecourse loans.
Since the loan guarantor is personally guaranteeing the loan, this promotes alignment of interests. Because if they project fails, the GP is personally liable.
6 – Construction Management Fee
The construction management fee is an on-going annual fee paid to the company overseeing the capital improvement process. If the GP has a hands-on role in the renovation process or if the GP has their own property management company, they may charge a construction management fee.
This fee ranges from 5% to 10% of the renovation budget, depending on the size and complexity of the improvement plan.
For some syndicators, this fee will be built into the asset management fee, while others will charge a construction fee on top of the asset management fee. When a GP charges both an asset management and construction management fee, it may reduce your ongoing returns, especially while renovations are being performed.
7 – Organization Fee
The organization fee is an upfront fee paid to the GP for putting together the group investment. This fee ranges from 3% to 10% of the total money raised, depending on the amount of money raised.
For some syndicators, this fee will be built into the acquisition fee, while others will charge an organization fee on top of the acquisition fee. When a GP charges both an acquisition and organization fee, your overall return may be reduced.
These are the seven type of fees you will most commonly come across as a passive apartment investor.
When the average person thinks of real estate investing, they might imagine a billionaire who develops massive commercial properties, or an HGTV fix-and-flipper who turns a profit by converting a run-down property into someone’s dream home. With this mental representation, it’s no wonder more people aren’t real estate investors.
Obviously, this isn’t the case in reality. There are thousands of different real estate investing strategies from which to choose. The difficult part — aside from shedding the false belief that real estate investing is only for the rich — is identifying the ideal investment strategy that fits one’s current economic condition, abilities and risk tolerance level.
Generally, entry-level investment strategies fall into two categories: passive and active investing. The question is, which one is best for you?
For our purpose here, I will define active investing as the acquisition of a single-family residence (SFR) with the goal of utilizing it as a rental property and turning over the ongoing management to a third-party property management company. Alternatively, passive investing is placing one’s capital into a real estate syndication — more specifically, an apartment syndication — that is managed in its entirety by a sponsor.
In order to determine which investment strategy is best for you, it is important to understand the main differences between the two. Based on my personal experience following both of these investment strategies and interviewing thousands of real estate professionals who have done the same, I’ve discovered that the differences between passive and active investing fall into three major categories: control, time commitment and risk.
As a passive investor, you are a limited partner in the deal. You give your capital to an experienced sponsor who will use that money to acquire and manage the entire apartment project. You have no direct control over any aspect of the business plan, so you are putting a lot of trust into the sponsor and their team. However, this trust is established by not giving your money to a random, unqualified sponsor but through an alignment of interests. For example, the sponsor will offer you a preferred return, which means that you will receive an agreed-upon return before the syndicator receives a dime. Therefore, the syndicator is financially incentivized to achieve a return above and beyond the preferred return.
As an active investor, you can directly control the business plan. You decide which investment strategy to pursue. You decide the type and level of renovations to perform. You decide the quality of tenant to accept and the rental rate to charge. You determine when to refinance or sell. With for passive investing, all of the above is determined by the apartment syndicator.
As an active investor, the advantage of more control comes with the disadvantage of a greater time commitment. It is your responsibility to educate yourself on the ins and outs of single-family rental investing. Then, you have to find and vet various team members. Once you have a team in place, you have to perform all the duties required to find, qualify and close on a deal. After closing, as long as you have a good property management company, it should be pretty hands-off. Although, if (really, when) something unexpected occurs, you’re responsible for making those decisions, which can come with a lot of stress and a lot of headaches.
Of course, it is indeed possible to automate the majority, if not all, of the above tasks. But that requires a certain level of expertise and a large time investment to implement effectively.
Passive investing is more or less hassle-free. You don’t have to worry about any of the actions described above. You just need to initially vet the apartment syndicator and vet the deal. From there, you simply invest your capital and read the monthly or quarterly project updates.
You are exposed to much less risk as a passive investor. You are plugging into an already created and proven investment system run by an experienced apartment sponsor who (preferably) has successfully completed countless deals in the past. Additionally, there is more certainty on the returns. You will know the projected limited partner returns — both ongoing and at sale — prior to investing. And assuming the syndicator conservatively underwrote the deal, these projected returns should be exceeded.
Active investing is a much riskier strategy. However, with the higher risk comes a higher upside potential. You own 100% of the deal, which means you get 100% of the profits. But, you also have to bear the burden of 100% of the losses. For example, a turnkey rental will likely cash flow a few hundred dollars a month depending on the market. The costs associated with one large maintenance issue or a turnover could wipe out months, or even years, of profits. A value-add or distressed rental has a huge upside potential. However, a common tale among distressed or value-add investors, especially the newer or less experienced ones, is projecting a certain renovation budget but finding an unexpected issue during the rehab process that drastically increases their budget, resulting in a lower or negative overall return.
Additionally, failing to accurately calculate a post-renovation unit’s rental premium will also result in the reduction or elimination of profits. While these profit reduction or elimination scenarios could technically occur with a passive investment, the risk is spread out across many investors, and a sponsor with a proven track record and a qualified team will mitigate these risks.
Real estate investing is for everyone, not just the moguls of the world. However, not all investment strategies are the same. It’s important to understand the pros and cons associated with each to determine which strategy will set you up for success.
Similar to determining your ideal general investment strategy (i.e. active vs. passive), you need to establish your ideal situation for investing in rental properties. And, in order to establish your ideal passive investment, you need to know what your options are first. In particular, you need to learn about the different types of apartment syndications in which you can passively invest your money and the benefits and drawbacks of each. Generally, apartment syndications fall into one of three categories: turnkey, distressed, or value add.
Turnkey apartments are class A properties that require minimal to no work after acquisition. These properties are fully updated to the current market standards and are highly stabilized with occupancy rates exceeding 95%. Therefore, the turnkey business model is to take over the operations and continue managing the asset in a similar fashion to the previous owners. No renovations. No tenant turnover. Nothing fancy.
Of the three apartment syndication strategies, investing in rental properties that are turnkey has the lowest level of risk. The property is fully updated and fully stabilized at acquisition. The risks associated with performing renovations, which include overspending, unexpected capital expenditures, bad contractors, incorrect rental premium assumptions, etc., and turning over a large percentage of tenants are minimized. Additionally, the asset will achieve the projected cash flow from day one, because the revenue pre- and post-acquisition remains the same.
The drawbacks of the turnkey apartment syndication strategy are the lower ongoing returns and the lowest upside potential compared to the other two apartment types. Because the property is fully updated and stabilized, there isn’t room to increase the revenue of the property. Therefore, the ongoing returns are and remain in the low to mid-single digits. Additionally, since the value of the asset is calculated using the net operating income and the market cap rate, unless the overall market naturally appreciates, the property value will remain relatively stable. As a result, there is little to no upside potential at sale. Most likely, you will receive your initial equity investment back with minimal to no profit.
On the opposite of the end of the spectrum is the distressed apartment. Distressed apartments are class C or D assets that are non-stabilized with occupancy rates below 85% and usually much lower due to a whole slew of reasons, including poor operations, tenant issues, outdated interiors, exteriors, common areas and amenities, mismanagement and deferred maintenance. Generally, apartment syndicators will take over and, within a year or two, stabilize the asset by addressing the interior and exterior deterred maintenance, installing a new property management company, finding new tenants, etc. Then, they will either continue their business plan to further increase the apartment’s occupancy levels and/or rental rates or they will sell the property.
The major advantage of investing in rental properties that are distressed is the upside potential at sale. Once the asset is stabilized the revenue – and therefore the value – will increase dramatically, resulting in a large distribution at sale.
The drawbacks of distressed apartments compared to the other two types are being exposed to the highest level of risk and receiving the lowest ongoing returns. The high upside potential at sale also comes with the risk of losing ALL of your investment. There are a lot of variables to take into account with a distressed apartment, which means there are a lot more that could go wrong. Additionally, since the asset is not stabilized at acquisition, there will be little to no cash flow – and maybe even negative cash flow. That means you won’t receive ongoing distributions unless the syndication structure is such that you receive interest on your investment before the sale.
Lastly, we have value-add apartments to consider when investing in rental properties. Value-add apartments are class C or B assets that are stabilized with occupancy rates above 85% and have an opportunity to “add value.” Generally, the value-add apartment syndicator will acquire the property, “add value” over the course of 12 to 24 months and sell after five years.
“Adding value” means making improvements to the operations and physical property through exterior and interior renovations in order to increase the revenue or decrease expense. These renovations are different than the ones performed on a distressed apartment. Typical ways to add value are updating the unit interiors to achieve higher rental rates, adding or improving upon common amenities to increase revenue and competitiveness (like renovating the clubhouse or pool area, adding a dog park, playground, BBQ pit, soccer field, carports or storage lockers), and implementing procedures to decrease operational costs like loss-to-lease, bad debt, concessions, payroll, admin, maintenance, marketing, etc.
Compared to the other two apartment types, value add apartments have a lower level of risk, the highest ongoing returns, and a high upside potential at sale. At acquisition, the property is already stabilized and generating a cash flow. So, at the very least, the property will continue to profit at its current level and your passive investment is preserved. That also means that you will receive an ongoing distribution (typically around 8%, depending on the syndication partnership agreement) during the renovation period. Once the value add projects are completed, the ongoing distribution will increase to the high single digits, low double digits and remain at a similar level until the sale. Additionally, the increase in revenue and decrease in expenses from the value add business plan will increase the overall value of the asset, which means there is the potential for a lump-sum distribution at sale.
What’s Your Ideal Passive Investment?
Your ideal passive investment will be in an apartment type with the benefits and drawbacks that align most with your financial goals.
Are you content with tying up your capital for a year or two with minimal to no cash flow and willing to risk losing it all in order to double your investment? Then I would consider passively investing with an apartment syndicator that implements the distressed business plan.
Are you more interested in capital preservation and receiving a return that beats the inflation rate? Then I would consider passively investing in rental properties with an apartment syndicator that purchases turnkey properties.
Are you attracted to the prospect of receiving an 8% to 12% cash-on-cash return each year with the prospect of a sizable lump sum profit after five or so years? Then I would consider passively investing with an apartment syndicator that implements the value-add business model.
Want to learn how to build an apartment syndication empire? Purchase the world’s first and only comprehensive book on the exact step-by-step process for completing your first apartment syndication: Best Ever Apartment Syndication Book.
When I first started raising money from investors to purchase apartment communities, as long as the individual was interested in a passive investment and met the accredited qualifications, I accepted their capital without hesitation. And if you are just launching your syndication career, perhaps you’re doing the same. However, as you begin to gain experience and your list of private investors grows, it is beneficial to be aware of the red flags that may indicate the potential for future disputes and, if necessary, to not add or remove the investor from future new investment offering correspondences.
To understand these red flags, it is first important to define the ideal syndicator/passive investor relationship. The typical life cycle of an apartment syndication is 5 years. Therefore, when forming a relationship of this length, I want a passive investor who both trusts me as a person and treats me as a partner, as opposed to considering me as their vendor. Based on my experience from hundreds of accredited investor conversations and completing more than ten apartment syndications, I’ve found that there are two main factors that indicate to me that our relationship will not meet these requirements.
Red Flag 1 – Contempt
A famous study published in 1998 by marriage researcher John Gottman videotaped newlywed couples discussing a controversial topic for 15 minutes with the purpose of measuring how the fought over it. Then, three to six years later, Gottman and his team checked in on these couples’ marital status – were they together or were they divorced? As a result, they determined that they could predict with an 83% accuracy if newlywed couples would divorce. The study found that there are four major emotional reactions that are destructive to marriages and of the four, contempt is the strongest.
If there is contempt in a marriage, it will not last. And I believe that the same applies to business relationships. According to Dictionary.com, contempt is the feeling that a person or a thing is beneath consideration, worthless, or deserving of scorn.
How I identify contempt is based on my initial gut reaction. Do I get the feeling that this person sees me as an equal and as a partner? Or do they look down on me and see me as a vendor? For example, I recently had an email correspondence with a potential investor. He led off the conversation by saying, “My standards are high. My patience for slick marketing is low.” Then, after I provided him some information about my company, including past case studies of the returns I provided to my investors, his reply was, “So what I need to hear is why do some deals with you as opposed to (the company with which he currently invests)?” I felt that this individual’s replies had traces of contempt and politely explained that we wouldn’t be a good fit. If I was earlier on in my career, I would have likely brought this individual on as a partner, but since I already have strong relationships with my current investors, I didn’t find the potential issues worth pursuing the relationship any further.
If you are having a conversation with an investor and your gut is telling you that this person holds you in contempt, I would consider passing on the relationship. To set the relationship up for success, only work with investors who treat you as an equal and who want a mutually beneficial partnership.
Red Flag 2 – Lots of accusatory questions that don’t convey that they trust me
The second red flag I’ve come across is when a potential investor asks a laundry list of questions in an accusatory tone. For example, I have an investor who literally sends me a list of 50 or more questions that are written in an accusatory fashion for every new investment offering. After taking the time to answer each question on multiple deals, they have yet to invest. Because they are asking questions in that manner, regardless of my answer, they will still be suspicious.
An important distinction to make here is that I have no issue with my investors sending me a list of questions, no matter how long. In fact, that is encouraged, because the more information I can provide about the deal, the more confidence they will have in the investment. The red flag is when the questions are asked in an accusatory manner. That conveys that they don’t have trust in me and that they’ll likely never invest in a deal. At the end of the day, the key to a successful, long-term relationship is trust, and when my instincts are telling me that there is a lack of trust, I decide to no longer pursue the relationship.
The two red flags to look for when having conversations with investors is contempt and the asking of a long list of questions in an accusatory tone that conveys that they don’t trust me.
Keep in mind that both these factors are highly subjective. Each syndicator and each investor has a different personality and will get along with different types of people. Just because you get the feeling that someone holds you in contempt or asks questions in an accusatory tone does not mean that they are a bad person. However, what it does indicate is that you will have an issue connecting in such a way that builds a relationship that is capable of surviving the course of a syndication deal. So, if either of these red flags arise, be polite, but strongly consider not working with that investor on your apartment deal.
If you have had a rocky business relationship in the past that came to an unfortunate end, what did you identify as the cause?
Before raising money for my first deal, I thought the primary reason accredited investors would passively invest in my deal would be because of the return. However, after raising $1 million for that deal, I discovered that the return on investment was not the major concern. Because there are other syndication and investment avenues to which an investor can go, offering solid returns cannot be the driving factor.
So, if returns aren’t their primary motivation, what is?
Since my first deal, I’ve partnered with hundreds of accredited investors on more than ten apartments communities worth nearly $200,000,000. From this experience, I have narrowed down the passive investors’ three primary reasons for investing in an apartment syndication:
My money is in good hands
I will be updated on relevant information on the deal
The process is hassle-free
Need #1 – Is my money in good hands?
My first need is to know that my money is in good hands. First and foremost, that means I want to know that – at the very least – you won’t lose my money. Billionaire investor Warren Buffett has two rules for investing: 1) Never lose money. 2) Never forget rule number 1. Therefore, your main focus when managing other people’s money should be capital preservation.
Like any investment, there are never guarantees – not for returns or the preservation of capital. So, I need to know that you are proactively mitigating any major risks. The syndicator accomplishes this by adhering to the three principles of apartment investing:
Don’t buy for appreciation
Don’t get forced to sell
Follow these three principles and I will be confident that you will not only preserve my capital, but maximize my return as well.
Along with this, I want to know that my money is in the hands of an experienced syndicator. So, before you’re ready to raise money for your first deal, you must establish a solid educational foundation and have a track record in business and/or real estate. If you are lacking in either or both of these areas, you can make up for your deficiencies by surrounding yourself with a trustworthy, credible team, like a mentor, property management company and broker who have experience in the apartment industry and have successfully completed syndications. For me to invest in your deals, I must be confident in you and your team’s ability to return my capital and provide me with the projected return.
I also need to trust you as a person. I need to have a good feeling about you and truly believe that you have my best interests in mind. This trust is established by the length and quality of our relationship and by you demonstrating your expertise through your experience, your team or your thought leadership.
With this trust, I will be confident that you will have common sense, make good decisions, conservatively underwrite the deal, perform all the required due diligence before purchasing an apartment and at a minimum, meet the projected returns you outlined.
Finally, I want to know that you are a responsive communicator. If there is a problem with the deal, I want you to not only notify me of the issue, but have a proposed solution as well. And if I reach out to you with a question or concern, I expect that same lightning quick response with an answer.
Overall, I want to know that my money is in good hands. The syndicator will convey this to me by proactively mitigating the risks, having the relevant experience, building a trusting relationship and being a responsive communicator.
Need #2 – Will I be provided with status updates on the deal?
Additionally, I want to be provided with ongoing status updates of the project. On a consistent basis, I want a director level – not a CEO or entry-level employee level – update on the deal with supporting data.
To accomplish this, the syndicator needs to provide their investors with a monthly email update (I use MailChimp) that includes the following information:
Occupancy and pre-leased occupancy rates
Actual rents vs. projected rents
(If you are a value add investor) actual rental premium vs. projected rental premiums
Capital expenditure updates with pictures of the progress
Relevant market and/or submarket updates
Any issues, plus your proposed solution
Any community engagement events
Then, on a quarterly basis, provide me with the profit and loss statement and rent roll so if I want, I can review the operations of the property and dig deeper into the details. My company actually provides monthly distributions – as opposed to quarterly or annual distributions – so our investors are not only provided with updates on a monthly basis, but are paid as well.
Need #3 – Is the process hassle-free?
Finally, I want a hassle-free process. The reason I am a passive investor is because I want to park my money in an investment and not have to worry about doing any of the day-to-day operations. I am busy making money with other business endeavors, so I want to minimize my time investment in the deal.
After performing my initial due diligence on the deal prior to investing, I want a boring investment with little to no surprises. All I want to do is read the monthly email updates and receive my distributions. So, to effectively provide investor distributions, set up a direct deposit, as opposed to sending checks in the mail, so all I need to do is look at my bank account rather than going to the bank each month to deposit a check.
If I do reach out with a concern, I want a quick resolution with minimal back and forth. Therefore, you should proactively address potential concerns in your monthly updates and if an investor has a concern, have a solution in place prior to replying.
In summary, I’ve completed nearly $200,000,000 worth of apartment syndications with hundreds of passive investors, and if you set your business/deals up so your investors answer YES to these 3 questions, you’ll be well on your way to closing more deals:
Is my money in good hands?
Will I be provided with status updates on the deal?
Is the process hassle-free?
If you use private money investors for you deals, what have you found to be their top motivations for investing with you and not with another qualified investor?
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Jeremy Roll, who is currently an investor in more than 70 deals across over $500 million worth of real estate and business assets, is one of many speakers who will be presenting at the 1st annual Best Real Estate Investing Advice Ever Conference in Denver, CO February 24th to 25th.
In a conversation with Jeremy last year, he provided his Best Ever Advice, which is a sneak preview of the information he will be presenting at the conference.
What was Jeremy’s advice? He explains the three essential factors to take into account when approaching diversification in passive real estate investing – geography, asset-class, and operators.
Some investors like to invest locally, which can be defined as a location that is within an hour or two-hour drive. Others will invest out-of-state, but all in one sub-market. There are thousands of different ways to invest and most of them are effective. However, there is a problem with having all of your properties concentrated in one geographic location: you are much more susceptible to economic, weather, and other geographically related risks.
If there is a major earthquake, for example, and you own 10 properties within 3 miles of each other that are all destroyed, you are in trouble. I know this is an extreme example, but it is still a risk. Since earthquakes and similar risks are such a rarity, Jeremy calls them 1% risks.
In last months of 2016, Florida was hit by hurricanes, which most likely had a major affect on some real estate. While it might be okay to own real estate in Florida, if you were heavily invested in one Floridian location and one hurricane wiped out half of your properties, again, you are in trouble.
Another weather related example – Jeremy invests in six different funds with some very large mobile home park operators, with one being the 5th largest in the world. This operator shared a story about why they have no issue with investing in areas that have tornados, but they avoid hurricane areas. The reasoning was that when a hurricane hits, it typically wipes out a massive territory. As a result, the different governmental agencies and insurance companies are too overwhelmed and can’t handle it, so it takes forever to repair the damage. But for tornadoes, a more isolated area is affected, so FEMA will come in immediately and help. Isolated areas are much more manageable. In this specific situation, these mobile home operators had all of their homes that were damaged or destroyed by a tornado replaced for free. The lesson here is that tornados are manageable and hurricanes are unmanageable.
Besides weather related risks, another reason to diversify across different geographical areas is that each has it’s own unique economies and as a result, it’s own unique challenges. If you are invested in a city that relies heavily on a specific employer and they decide to relocate their plant across the country, you are in trouble.
There are countless other examples, so all in all, it is important to spread your investments out across different geographical areas.
It is also important to diversify across different asset classes, both from an asset-type and tenant perspective. For example, Jeremy won’t invest in apartments unless they are 100 units of more. For a 100 unit building, when one person leaves his vacancy rates increases by 1%. On the other hand, if you invest in a 4plex and one tenant leaves, your vacancy rate increases by 25%!
Diversifying across asset-types is key because certain types perform better in a growing economy while others perform better, or are at least more manageable, during a downturn. For example, office and retail don’t perform as well during a good economy, but can go through a recession relatively well. Specifically, retail with anchor tenants – big grocery stores, CVS, Walgreens. Mobile home and self-storage – can perform even better during a down turn. In 2009, self-storage vacancy only increased by 1%. This is probably due to the increase in demand that came from homeowners who were foreclosed on and needed a place to store all their personal belongings.
In the long-term, you want to be as diversified as possible. In doing so, whether we are in a good economy or a bad economy, the cash flow is still going to come in. This is especially important if, like Jeremy, you are dependent on cash flow to live off of.
Jeremy does not recommend that you invest in every asset class. For example, he personally doesn’t invest in hotel or industrial space. On average, these asset classes tend to do really well in an upturn or positive economy. However, they tend to have really quick revenue reductions during a downturn. He doesn’t want to be exposed to that volatility.
Therefore, it is important that you diversify as much as possible, but make sure that you are comfortable and knowledgeable in all the asset classes you select.
Whenever you invest passively, you are trading control for diversification. You are giving someone else control of the day-to-day operations and you are probably investing with multiple different investors, so your control is minimized. Therefore, if you are going to give up control, you better trade it for diversification. Jeremy finds that there is always a 1% risk with operators, due to the possibility of mismanagement, fraud, a Ponzi Scheme, etc. You are increasing your risk inherently by being a passive investor. To mitigate that risk, diversify across operators. Don’t have too many eggs in one basket.
Everyone has their own take on the maximum exposure an investor should have in terms of number of operators. The common number that Jeremy sees is that people don’t like to be exposed to an operator with more than 5% to 10% of their total capital. The same applies to geography and asset-classes as well.
It is also important to keep in mind that proper diversification takes a long time, but it is the best way to reduce risk. The more diversified, the better. Jeremy recommends that you shouldn’t invest more than 5% of your capital into an opportunity. This means that your goal should be to diversify across at least 20 different opportunities. At that point, you can determine how many operators you are comfortable with – 1, 3, 5 or more, depending on the person. It is very subjective and depends on what you are comfortable with.
Diversification in real estate investing is a must to ensure long-term success and reduce risk. Jeremy Roll diversifies his investments by keeping three essential factors in mind:
Jeremy believes your ultimate investment goal should work towards investing no more than 5% of your overall capital into a single opportunity and to expose no more than 10% of your capital to a single geography, asset-class, or with a single operator.
What are some stories of problems you have come across that were a direct result of not being diversified enough?
Want to learn more about lease-option investing, as well as a wide range of other real estate niches? Attend the 1st Annual Best Ever Conference February 24-25 in Denver, CO. It’s the only real estate investing conference whose content and speakers are curated based on the expressed needs of the audience. Visit www.besteverconference.com to learn more!
Putting all of your eggs into one basket can be very dangerous in real estate investing. Jeremy Roll, who currently invests in more than 70 opportunities across over $500 million worth of real estate and business assets, is a firm believer in creating a diversified investment portfolio. In our conversation on the podcast, he explains how he personally approaches diversification by breaking it down into the 3 most essential pieces – geography, asset-class, and operators.
Some investors like to invest locally, somewhere that they can drive to within an hour or two. Others will invest out-of-state, but all in one sub-market. Everyone has their different investment strategies and most of them are effective. However, the problem with having all of your properties concentrated in one geographic location is that you are much more susceptible to weather and economic related risks.
For example, if there is a major earthquake (or volcanic eruption) and you own 10 properties within 3 miles of each other that are all destroyed, you are in trouble. While this is extreme, it is still a risk (Jeremy calls these 1% risks).
Certain parts of the United States, like Florida, are frequently bombarded with hurricanes, which have a major impact on real estate. While it might be okay to own real estate in Florida, if you were heavily invested in one Floridian location and one hurricane wipes of half of your properties, again, you are in trouble. On a related note, if you are impacted by a hurricane, make sure you follow the SOS approach, especially when you have private investors.
Another weather related example – Jeremy invests in 6 different funds with some very large mobile home park operators, with one being the 5th largest in the world. This operator shared a story about why they have no qualms with investing in areas that have tornados, but they avoid hurricane areas. The reasoning was that when a hurricane hits, it typically wipes out a massive territory. As a result, the different governmental agencies and insurance companies are too overwhelmed, so it takes forever to repair the damage. Whereas for tornadoes, a more isolated area is affected, so FEMA will come in immediately and help. Isolated areas are much more manageable. In this specific situation, these mobile home operators had all of their homes replaced for free. The lesson here is that tornados are more manageable than hurricane.
Asides from weather related risks, another reason to diversify across different geographical areas is that each has it’s own economies and applicable challenges. If you are invested in a city that relies heavily on a specific employer, if they decide to relocate their plant across the country, you are in trouble. Job and economic diversity is just one of the many factors to look at when selecting a target market.
There are countless other examples, so all in all, it is important to spread your investments out across different geographical areas.
It is also important to diversify across different asset classes, both from an asset-type and tenant perspective. For example, Jeremy won’t invest in apartments unless they are 100 units of more. If one person leaves, his vacancy rate increases by 1%. On the opposite end, if you invest in a 4plex and one tenant leaves, your vacancy rate increases by 25%.
Diversifying across asset-types is key because some perform better in a growing economy, while others perform better, or are at least more manageable, during a downturn (and, of course, you should always follow the Three Immutable Laws of Real Estate Investing to thrive in any market condition). For example, office and retail don’t perform as well during a good economy, but can remain consistent during a downturn – specifically, retail with anchor tenants like big grocery stores, CVS, Walgreens, etc. Mobile home and self-storage can perform even better during a down turn. In 2009, self-storage vacancy only increased by 1%. This is due in part to the increase in demand that came from homeowners who were foreclosed on and needed a place to store all their items.
In the long-term, you want to be as diversified as possible. In doing so, if we are in a good economy or a bad economy, the cash flow is still going to come in. This is especially important if, like Jeremy, you are dependent on passive cash flow to live off of.
Jeremy does not recommend that you invest in every asset class. He doesn’t invest in hotel or industrial space, for example. On average, these asset classes tend to do really well in an upturn or positive economy. However, they tend to have really quick revenue reductions during a downturn. He doesn’t want to be exposed to that volatility. Therefore, it is important that you diversify as much as possible, but make sure that you are comfortable in all the asset classes you select.
Whenever you invest passively, you are trading control for diversification. You are giving someone else control of the day-to-day operations and you are probably investing with multiple different investors, so your control is minimized. Therefore, if you are going to give up control, you better trade it for diversification. Jeremy finds that there is always a 1% risk with operators, due to the possibility of mismanagement, fraud, a Ponzi Scheme, etc. You are increasing your risk inherently by being a passive investor. To mitigate that risk, diversify across operators. Don’t have too many eggs in one basket.
Everyone has their own take on maximum exposure an investor should have in terms of number of operators. The common number that Jeremy sees is that people don’t like to be exposed to an operator with more than 5% to 10% of their total capital. The same applies to geography and asset-classes as well.
It is also important to keep in mind that proper diversification takes a long time, but it is the best way to reduce risk. The more diversified, the better. Jeremy recommends that you shouldn’t invest more than 5% of your capital into an opportunity. This means that your goal should be to diversify across at least 20 different opportunities. At that point, you can determine how many operators you are comfortable with – 1, 3, 5 or more, depending on the person. It is very subjective and depends on what you are comfortable with.
What about you? Comment below: What are some stories of problems you have come across that were a direct result of not being diversified enough?