Apartment-Multifamily Real Estate Syndication

Apartment syndication is a great way to invest your money, but doing so requires a lot of work and maybe even some expert guidance. If you are new to investing, you probably have a lot of questions about real estate syndication. How do you get a project off the ground? How do you find the right people with whom to do business? What is the difference between active and passive investing, and which option is best for you? Over the years, I have helped curious investors like yourself navigate the world of apartment syndication, and have done so successfully. That’s why I am confident I have the resources you need to thrive, and, as my clients have learned, since I left the world of advertising and immersed myself in real estate, my goal is to help you “do more good.” That means freeing up your time so you can use it as you wish. Today, I am happy to share some of my real estate syndication insights with you for free through my comprehensive blog. Below, you will find many posts that can help you get started with apartment syndication, including where to find great apartment real estate, what it takes to stand apart from other syndicators, and how to close the deal on your first deal. After reading these posts, you may want to schedule a planning session, which can teach you how to buy apartments and how to bring in investors; additionally, you can learn how to start investing with me, which would lead to plenty of passive investment opportunities, provided you are an accredited investor.

How to Navigate 2020 – 5 Tips for Real Estate Investors

What a crazy year this has been! It has certainly been a rollercoaster to say the least, but the good news is that there are ways you can not only survive, but thrive in 2020 as a real estate investor. 

Here Are 5 Tips That Can Help:

#1 Educate, educate, educate. Working from home? Can’t travel? Attend some online events, webinars, read a few books, listen to podcasts, watch “how-to” videos, get on BiggerPockets and read blogs. 

“An investment in knowledge pays the best interest” – Benjamin Franklin 

#2 Re-define your goals and investing criteria. What are your long-term goals? What do you REALLY want to gain from investing in real estate? It’s not all dollars and cents and it’s not all about cashflow vs equity. Take a couple hours this summer to write down what it is you really want to achieve in life. Money can only be exchanged for experiences or “things” – what are you after? 

“You should set goals beyond your reach so you always have something to live for” – Ted Turner

#3 Volunteer your time – seek mentors. Learn from other’s successes and failures. Mentorship can come in many forms, but the most effective is usually in the form of having a personal coach or mentor. This has made the biggest impact in my life over the past decade. Have money to spare? Consider hiring a coach or mentor. Don’t have money to spare? Consider volunteering your time to add value to others in exchange for mentorship.  

“The richest people in the world look for and build networks. Everyone else looks for a job” – Robert Kiyosaki 

#4 Get your personal finances in order. What can you do to reduce overhead or save additional cash? Could you start a side business for some additional income? Stay focused and disciplined on your long-term objectives. Any time you spend money on things you don’t need, you move further from your goals.

“Personal finance is only 20% head knowledge and 80% behavior” – Dave Ramsey 

#5 Learn from mistakes. You will make mistakes and you will likely lose money based on inexperience; I know I have. Reading biographies, seeking mentors, asking people about their “lessons learned” can help you cut the learning curve. 

“It’s good to learn from your mistakes. It’s better to learn from other people’s mistakes” – Warren Buffet 

I hope you find these helpful. Even if you only implement ONE of these, you will be 90% ahead of most. This year, more than ever, is a time to grow, expand and thrive. 

To Your Success

Travis Watts 

 

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Senate Announces HEALS Act Stimulus Package: Here’s What You Need to Know

On Monday afternoon, the Senate Republicans unveiled the Health, Economic, Assistance, Liability Protection and Schools (HEALS) Act, the second stimulus package meant to offset the economic impacts of the coronavirus pandemic.  

Here’s what we know so far about the potential terms of the second stimulus package based on the HEALS Act:

Second round of stimulus checks: Like the CARES Act, the HEALS Act should send payments to qualifying individuals and families. The payment amount was up to $1,200 per person in the CARES Act, and the HEALS Act will likely follow the same payment model. What is undecided are the eligibility guidelines. However, it seems like the negotiation is between keeping the eligibility guidelines the same or allowing more people to receive the payment. Therefore, people who were eligible for the CARES Act stimulus checks will likely be eligible to receive a second payment. The goal is for people to receive checks in the beginning of August.

Unemployment benefits: People who applied for unemployment for the first time due to COVID or were already collecting unemployment will receive a weekly payment on top of the ordinary unemployment benefits. People who were unemployed received $600 a week from the CARES Act. However, the HEALS Act would reduce the extra payment to $200 a week and over time increasing to $500 a week.

Payroll Protection Program (PPP): The PPP program provides forgivable loans to small business to cover payroll (and other costs) as an incentive to keep employees on the payroll. The HEALS Act is expected to target the hardest-hit small businesses with PPP loans. 

Employee retention tax credit: This tax credit program was introduced in the CARES Act. Companies receive tax credits for wages paid to their employees during the pandemic as another incentive to keep employees on the payroll. The HEALS Act proposes to include additional tax relief for companies who hire and rehire workers. 

Return-to-work bonus: If an unemployed person gets a new job and begins working at a previous job again, they will receive a bonus of up to $450 a week on top of their wages.

Renter assistance: The renter assistance programs proposed would help tenants pay their rent, help landlords pay expenses and put another hold on evictions for up to a year.

The next step is for the House to negotiate the terms of the act to finalize the bill. Hopefully, Congress comes to an agreement by next Friday, August 7th, which is the last Senate session before a month-long recess. 

We will keep you posted on any developments regarding the next stimulus package.

 

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How to Go From Solopreneur to a Business That Can Run Without You

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.

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Everything You Need to Know About the GP Catch-Up

In apartment syndications, the General Partner (GP) catch-up is a distribution to the GP such that they have received their full portion of the profits.

The GP catch-up is relevant when the compensation structure of partnership between the GP and the Limited Partner (LP) includes a profit split.

For example, let’s say the LPs are offered a 7% preferred return and the profit split is 70% to the LPs and 30% to the GPs. At the conclusion of the partnership, 70% of the total project cash flow (ongoing cash flow and profits from sale) must have gone to the LPs and the remaining 30% must have gone to the GPs.

There are two main types of GP catch-ups. The most common is a GP catch-up at sale. The other, less common, is an ongoing GP catch-up.

The advantage of the ongoing GP catch-up is that the GPs can receive distributions immediately rather than waiting until sale.

Whichever GP catch-up you decide to pursue, make sure it is properly defined in your waterfall in the PPM.

To explain how each of these two GP catch-ups work, let’s use the following dataset as an example:

  • Preferred Return to LPs: 7%
  • Profit Split (LP/GP): 70/30
  • LP Equity Investment: $1,000,000
  • Year 1 to 5 Cash Flow
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5
 ($1,000,000)   $71,000   $77,000   $84,000   $93,000   $130,000

 

  • Profit at Sale (After $1,000,000 in equity is returned): $1,500,000

GP Catch-Up At Sale

For a GP catch-up at sale, the LPs receive their preferred return first. Then, the profits above the preferred return are split 70/30. At sale, after the LP equity is returned and before the profits are split 70/30, a catch-up distribution goes to the GP until they have received 30% of the cumulative cash flow up to this point.

Here is a breakdown to the ongoing distributions to LPs and GPs:

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Total
Total  $(1,000,000)  $ 71,000  $ 77,000  $ 84,000  $ 93,000  $ 130,000  $ 455,000
LP  $ 70,700  $ 74,900  $ 79,800  $ 86,100  $ 112,000  $ 423,500
GP  $      300  $   2,100  $   4,200  $   6,900  $   18,000  $   31,500

 

Based on the “Total” column, the LPs have received 93.08% of the profits and the GPs have received 6.92% of the profits. Therefore, the first portion of the $1,500,000 profit at sales goes to the GP until they have received 30% of the total profits.

Here is how you calculate that amount:

X equals $150,000.

After the $150,000 distribution, the LP has received $423,500 and the GP has received $181,500, and the 70/30 split is achieved.

The remaining profits, $1,350,000, are split 70/30. This equates to $945,000 to the LP and $405,000 to the GP.

Here is the updated data table for cash flows to the LP and GP:

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Total
Total  $(1,000,000)  $ 71,000  $ 77,000  $ 84,000  $ 93,000  $ 1,630,000  $ 1,955,000
LP  $ 70,700  $ 74,900  $ 79,800  $ 86,100  $ 1,057,000  $ 1,368,500
GP  $      300  $   2,100  $   4,200  $   6,900  $    573,000  $    586,500

 

The total distribution is $1,955,000. $1,368,500, or 70%, went to the LP. $586,500, or 30%, went to the GP.

 

Ongoing GP Catch-Up

With an ongoing GP-catch up, the LPs still receive their preferred return first. However, before the remaining profits are split 70/30, the GP receives a catch-up distribution. This distribution is equivalent to a 70/30 split.

Here is how that amount is calculated:

X equals 3.

Therefore, the GP receives a 3% return based on the total LP equity investment. Any unpaid GP catch-up is accrued and paid out when possible. Once both the LP and GP have been paid, the remaining profits are split 70/30.

Since our sample equity investment is $1,000,000, the LP receives $70,000 annually and the GP receives $30,000 annually.

Year 1 Cash Flow is $71,000, which means the LP receives $70,000, the GP receives $1,000, and $29,000 is owed to the GP.

Year 2 Cash Flow is $77,000, which means the LP receives $70,000, the GP receives $7,000, and an additional $23,000 is owed to the GP. Total amount owed to the GP is $52,000.

Year 3 Cash Flow is $84,000, which means the LP receives $70,000, the GP receives $14,000, and an additional $16,000 is owed to the GP. Total amount owed to the GP is $68,000.

Year 4 Cash Flow is $93,000, which means the LP receives $70,000, the GP receives $23,000, and an additional $7,000 is owed to the GP. Total amount owned to the GP is $75,000.

Year 5 Cash Flow is $130,000, which means the LP receives $70,000 and the GP receives $30,000. The remaining $30,000 also goes to the GP to pay down the accrued amount. Total amount owed to the GP is now $45,000.

At sale, after the LP equity is returned, the accrued amount owed to the GP, $45,000, is distributed. Then the remaining profit, $1,455,000, is split 70/30. The LP receives $1,018,500 and the GP receives $436,500.

Here is the data table for cash flow to LP and GP:

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Total
Total  $(1,000,000)  $ 71,000  $ 77,000  $ 84,000  $ 93,000  $ 1,630,000  $ 1,955,000
LP  $ 70,000  $ 70,000  $ 70,000  $ 70,000  $ 1,088,500  $ 1,368,500
GP  $   1,000  $   7,000  $ 14,000  $ 23,000  $    541,500  $    586,500

 

As you can see, the “Total” 5-year distributions to the LPs and the GPs are the same for each catch-up types. However, for the ongoing GP catch-up, the GPs receive more money sooner, which – in turn – means that the LPs receive money later. As a result, the LP internal rate of return (IRR) is lower with the GP catch-up

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 IRR
At Sale  $(1,000,000)  $ 70,700  $ 74,900  $ 79,800  $ 86,100  $ 1,057,000 7.390%
Ongoing  $(1,000,000)  $ 70,000  $ 70,000  $ 70,000  $ 70,000  $ 1,088,500 7.320%

 

Therefore, the GP catch-up at sale is more advantageous for the LPs and the ongoing GP catch-up is more advantageous for the GPs, even though both the LP and the GP receive the same total cash distributions in each scenario.

 

Disclaimer: The views and opinions expressed in this document are provided for informational purposes only, and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.

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5 Tips for Raising Money from Family Offices to Buy Apartments

The typical progression for raising money for apartments goes like this:

  • 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
  • Eventually, you transition to raising money via 506(c), which allows you to advertise your deals to raise capital

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.

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Demand for Multifamily Rentals to Increase by Nearly 50% in Next Five Years

On January 18th, 2019, I published an article on my blog entitled “Why I Am Confident Multifamily Will Thrive During and After the Next Economic Recession.” 

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.”

(Emphasis Added)

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.

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1031 Exchange: The Rules

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: 

 

  • Like-kind property 
  • 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 

 

Like-Kind Property

 

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.

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An Investor’s Secret to Doing Large Apartment Deals with No Experience

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.

Another example is Hamza Ali, who Theo interviewed on my podcast, Best Real Estate Investing Advice Ever. He currently owns 1,000 doors in Houston, TX. 

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.

Want to raise money from passive investors but lack experience? Bring a big-time player onto the General Partnership.

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.

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Everything You Need to Know About Apartment Syndication Waterfalls

I’m not talking Niagara Falls but passive investor compensation.

In apartment syndications, a waterfall describes how, when, and to whom funds are paid in an apartment syndication deal. The type of waterfall will determine the returns to the Limited Partners and General Partners.

Ultimately, you as the General Partner decide which waterfall structure to have in place for your deals.

In this blog post, I will outline the waterfalls for the most common apartment syndication structures.

 

Waterfall #1: 8% Preferred Return Only

Compensation structure: Class A passive investors receive an annualized 8% preferred return only. Class B General Partners receive all profits.

Waterfall for cash flow

  • Cash flow is distributed to Class A until they receive an annualized return of 8% based on their initial capital contribution
  • Any remaining distributable cash flow is distributed to Class B  

Waterfall for capital transaction (i.e., a sale, supplemental, or refinance)

  • Repay the unreturned capital contributions of Class A investors (i.e., their initial equity investment amount)
  • Make up arrearages in Class A preferred returns (if applicable)
  • Any remaining distributable cash is distributed to Class B.

 

Waterfall #2: 8% Preferred Return + 70/30 Split

Compensation structure: Class A passive investors receive an annualized 8% preferred return and 70% of the profits. Class B General Partners receive 30% of the profits.

Waterfall for cash flow

  • Cash flow is distributed to Class A until they receive an annualized return of 8% based on their initial capital contribution
  • Any remaining cash flow is split 70/30, with 70% paid to Class A and 30% paid to Class B

Waterfall for capital transaction

  • Repay the unreturned capital contributions to Class A investors (the amount is either the initial equity investment or the reduced equity investment based on the capital returned from 70% profit splits)
  • Make up arrearages in Class A preferred returns (if applicable)
  • Cash is distributed to the General Partner until such time as the General Partner has received an amount equal to 30% of the cumulative amount distributed (i.e., total distributions from cash flow, including preferred return and profits)
  • Any remaining cash is split 70/30, with 70% paid to Class A and 30% to Class B

This is the waterfall structure that is currently set up on the Simplified Cash Flow Calculator, which you can download for free here. In the LP/GP Returns data table starting in cell B67, input the preferred return percentage to Limited Partners and the profit split to Limited Partners. The annual LP Return and GP Return is automatically calculated based on the preferred return, profit split, and flow of cash based on the waterfall structure outlined above.

At the sale, the unreturned capital contribution to the Limited Partners is their initial equity investment minus cash received, which you can see calculated on the IRR Calculation tab.

 

Waterfall #3: 8% Preferred Return + IRR Hurdle

Compensation structure: Class A passive investors receive an annualized 8% preferred return and 70% of the profits up to a 13% IRR. After a 13% IRR is achieved, Class A passive investors receive 50% of the profits. Class B General Partners receive 30% of the profits up to a 13% IRR to Class A. After a 13% IRR to Class A is achieved, Class B receives 50% of the profits.

Waterfall for cash flow

  • Cash flow is distributed to Class A until they receive an annualized return of 8% based on their initial capital contribution
  • Any remaining cash flow is split 70/30, with 70% paid to Class A and 30% paid to Class B 

Waterfall for capital transaction

  • Repay the unreturned capital contributions to Class A investors (the amount is either the initial equity investment or the reduced equity investment based on the capital returned from 70% profit splits)
  • Make up arrearages in Class A preferred returns (if applicable)
  • Cash is distributed to the General Partner until such time as the General Partner has received an amount equal to 30% of the cumulative amount distributed (i.e., total distributions from cash flow, including preferred return and profits)
  • Cash is split 70/30, with 70% paid to Class A and 30% to Class B up to a 13% internal rate of return
  • Remaining cash is split 50/50 between Class A and Class B

There can be more or more hurdles. For example, 70/30 up to 13% IRR, 60/40 up to a 15% IRR, and 50/50 thereafter.

 

Waterfall #4: Two Passive Investor Tiers

Compensation structure:  Class A passive investors receive an annualized 10% preferred return. Class B passive investors receive an annualized 7% preferred return and 70% of the profits. Class C General Partners receive 30% of the profits.

Waterfall for cash flow

  • Cash flow is distributed to Class A until they receive an annualized return of 10% based on their initial capital contribution
  • Cash flow is distributed to Class B until they receive an annualized return of 7% based on their initial capital contribution
  • Any remaining cash flow is split 70/30, with 70% paid to Class B and 30% paid to Class C 

Waterfall for capital transaction

  • Repay the unreturned capital contributions to Class A investors (since Class A isn’t receiving a profit split, their capital account isn’t reduced)
  • Repay the unreturned capital contributions to Class B investors (the amount is either the initial equity investment or the reduced equity investment based on the capital returned from 70% profit splits)
  • Make up arrearages in Class A preferred returns (if applicable)
  • Make up arrearages in Class B preferred returns (if applicable)
  • Cash is distributed to the General Partner until such time as the General Partner has received an amount equal to 30% of the cumulative amount distributed (i.e., total distributions from cash flow, including preferred return and profits)
  • Any remaining cash flow is split 70/30, with 70% paid to Class B and 30% paid to Class C

 

Waterfall #5: General Partner Catchup

This is a waterfall structure that you, the syndicator, can receive distributions starting from day 1.

Compensation structure: Class A passive investors receive an annualized 8% preferred return and 70% of the profits. Class B General Partners receive an annualized 3.43% preferred return and 30% of the profits.

Waterfall for cash flow

  • Cash flow is distributed to Class A until they receive an annualized return of 8% based on their initial capital contribution
  • Cash flow is distributed to Class B until they receive an annualized return of 3.43% based on the Class A initial capital contribution (3.43% is the equivalent to a 70/30 split between Class A and Class B – 70/30 = 8/x; 70x=240; x=3.43)
  • Any remaining cash flow is split 70/30, with 70% paid to Class A and 30% paid to Class B

Waterfall for capital transaction

  • Repay the unreturned capital contributions to Class A investors (the amount is either the initial equity investment or the reduced equity investment based on the capital returned from 70% profit splits)
  • Make up arrearages in Class A preferred returns (if applicable)
  • Make up arrearages in Class B preferred returns (if applicable)
  • Any remaining cash flow is split 70/30, with 70% paid to Class A and 30% paid to Class B

 

These are the waterfalls for the five most common passive investor compensation structures. 

Make sure you download the free simplified cash flow calculator (here), which has the waterfall #2. If you plan on using a different waterfall structure, you will need to update the formulas in this or other cash flow calculators accordingly.

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You Shouldn’t Do Deals During the Coronavirus Pandemic: Multifamily Myth Debunked

Let’s debunk another multifamily myth.

Click here to read my debunking of another common money-raising myth – that you need a strong track record in multifamily to raise money.

The myth I will debunk in this blog post is “I shouldn’t be doing any apartment deals until the coronavirus pandemic has passed.”

The key word is apartment deals. This blog post will focus on how you can continue to do apartment deals during the coronavirus pandemic.

My company recently renegotiated an apartment deal that we placed under contract before the coronavirus pandemic. My consulting clients are still actively looking at deals and putting them under contract. Active investors I have spoken to on my podcasts are still doing deals.

In fact, many active investors I have spoken with who raise money for their deals are saying that they are seeing an increase in demand. With the amount of uncertainty in the stock market, people are looking at passive real estate investing as an alternative.

What is allowing investors to continue to do apartment deals during the coronavirus pandemic? Because they understand what changes need to be made to the underwriting assumptions.

When analyzing apartment deals, you input your income and expense assumptions. Then, you determine the purchase price that will result in ROI projections that meet your passive investors’ financial goals. If you use pre-coronavirus underwriting assumptions, you are virtually guaranteed to overpay and fail to meet your projections.

Therefore, if you want to do deals during the coronavirus pandemic that conserve and grow your passive investors’ capital, here are the four changes you need to make to your underwriting process.

 

1. Year 1 Operations

It could be expected that there will be an increase in vacancy, bad debt, and concessions throughout 2020. Once things settle down a bit and the economy reopens, it is possible that some residents will no longer be able to afford living at the apartment any more.

Therefore, year 1 projections should assume some softening of the rent roll. That is, higher vacancy, bad debt, and concessions than the T-12 and typical market rates.

 

2. Rent growth

The rent growth for 2020 in the vast majority of markets is projected to suffer as unemployment rises. However, most of any rent lost in 2020 is expected to be recovered in 2021. Therefore, rent growth in years 1 and 2 should reflect the immediate area and demand in the market. This information will come from your experienced property management company.

 

3. Debt

As of right now, most private lenders are taking a “pause” from bridge lending. However, lenders that are still active are being extremely conservative with their loan proceeds and terms. The agencies are lending, yet they are also being conservative on their underwriting and requiring large upfront reserves for debt service payments. Therefore, more conservative proceeds should be underwritten and the underwriting needs to include these upfront reserves as it will impact the equity required to fund. Make sure you ask your lender or mortgage broker about the new LTV, upfront reserve requirements, and other terms prior to submitting an offer on a new deal.

 

4. Value-Add Deals

Depending on the deal, we have seen many owners pause their interior renovation programs until the markets re-stabilize. When underwriting a deal, it may be wise to assume that the value-add program does not start until the overall market stabilizes.

 

Overall, it is a myth that you shouldn’t be doing deals during the coronavirus pandemic. But you will need to make the correct updates to your underwriting assumptions:

  1. Underwriting higher vacancy, bad debt, and concessions during year 1,
  2. Underwriting a lower rent growth during year 1
  3. Include any upfront reserves that are required by your lender
  4. Expect to delay your interior renovations if you are a value-add investor.

If you make these four underwriting changes, you can continue to do apartment deals during the coronavirus pandemic.

 

Are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

 

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Will Apartments Be Stronger in the Post-Coronavirus World?

JP Morgan Chase, the largest lender by assets and fourth largest lender overall in the US, recently announced that they are raising borrowing standards for most new home loans to reduce their exposure during the coronavirus pandemic.

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.

Additionally, Chase also announced that they are temporarily halting HELOC loan offerings.

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?

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The S.O.S. Approach to Managing an Investment During Coronavirus

As I am sure you are aware, CDC is responding to an outbreak of respiratory disease caused by a novel (new) coronavirus that has first detected in China and which has now been detected in almost 70 locations internationally, including the United States. The virus has been named “SARS-CoV-2” and the disease it causes has been named “coronavirus disease 2019” (abbreviated “COVID-19”).

Consequently, the DOW Jones has dropped by nearly 10,000 points over the past 30 days.

Per the CDC, “the best way to prevent infection is to avoid being exposed to this virus.” Therefore, social distancing has been one of the main methods to combat the virus. As a result, many people are working from home and many others have been laid off or furloughed.

From a business perspective, when a crisis – like the coronavirus, hurricane, fire, earthquake, etc. –  occurs and you have an investment property, you need to have a process for approaching the situation, and even more so when you have passive investors. The procedure I use is the acronym S.O.S, which stands for Safety, Ongoing Communication, and Summary.

 

S – Safety

The first step when a crisis occurs is always and most importantly safety. That is, safety for both the people and the money.

So, you first want to ensure the safety of both your residents and your team members on the ground. We sent all of our residents safety notices outlining the CDC’s guidelines for preventing the spread of the disease, which includes:

  • Wash your hands often with soap and water for at least 20 seconds. If soap and water are not available, use an alcohol based hand sanitizer
  • Avoid touching your eyes, nose, and mouth with unwashed hands
  • Avoid close contact with people who are sick
  • Stay home when you are sick
  • Cover your cough or sneeze with a tissue, then throw the tissue in the trash
  • Clean and disinfect frequently touched objects and surfaces

We also provided URLs to the CDC webpages with more information on the coronavirus:

The money side of the safety equation is still up in the air. It is hard to tell how the coronavirus will impact multifamily real estate. The stock market is going down which means more money should flow into real estate. At the same time, many people are losing jobs, which means they will have difficulty paying rent. We will have to see how rent collections are impacted over the next few months.

One interesting strategy I’ve seen is to allow residents to use their security deposits to pay for rent over the next few months. For example, investor Julie Fagan will allow her residents with a $1000 per month rent payment and a $1000 security deposit to apply $500 to this month’s rent and $500 to next month’s rent, reducing their rents to $500 per month. In exchange, the residents sign a new 12 month lease and sign up for security deposit insurance. I like this strategy because it helps the resident as well as the bottom-line at the property.

Investors will need to start getting creative if the coronavirus does negatively impact multifamily collections.

 

O – Ongoing Communication

Once we have ensured the safety of the people, we sent an initial communication to our passive investors.

The communication we sent to our investors was similar to what we sent to our residents. The major difference is that it also included information on what we are doing to ensure the safety of both the people and the money.

In addition to the relevant CDC information, we mentioned that we are working closely with our property management partners to monitor the operations at the property and that we will have more information for them by the middle of next month. We also mentioned the coronavirus will not impact their distribution for the previous month.

So, we sent one email to let investors know that we are aware of and monitoring the situation and when they can expect another update. It is hard to tell how long the coronavirus pandemic will last, so the plan is to continue to provide monthly updates to our investors about the status of the rent collections at our properties.

Overall, I think it is better to only send emails when there is sustentive information to provide as opposed to hourly or daily updates.

 

S – Summary

Once things return to normal, we will send our investors a final email with a summary of how the coronavirus impacted the operations at our property and distributions, as well as any changes we will have moving forward to make up for lower cash flow and distributions, if applicable.

 

When a crisis occurs, like the coronavirus, the three step procedure is S.O.S. – safety of the people and the money, ongoing communication to provide your investors with status updates, and then providing a summary once things return to normal.

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Multifamily Money Raising Myth Debunked

A common refrain I hear and read about apartment syndications is “you need a strong track record in multifamily to raise money.”

The idea is that no one will entrust you with their capital if you haven’t completed at least one multifamily transaction already.

However, this is a myth. And it is fairly easy to debunk.

If you needed a strong track record in multifamily to raise money, the majority of apartment syndicators wouldn’t exist. Sure, some operators have previous experience with large apartment communities. Maybe they had the capital to do their own large deals and transitioned into raising money to scale. Or maybe they worked for a large institution that acquired apartment communities. However, many more apartment syndicators – myself included – were never involved with large apartment communities before doing raising money their first syndicated deal.

At some point in every syndicators’ career, they are sitting where you are sitting now. They wanted to purchase large apartment communities using other people’s money. The ones who didn’t have previous apartment experience didn’t let the myth of a strong multifamily track record stop them from buying their first, and many more, deals.

If you too want to raise money but don’t not have a track record in multifamily, here are the three things you need to do:

 

1. Change Your Mindset

First, you need to change your mindset. Not only is the need to have a strong track record in multifamily to raise money a myth but also a limiting belief. It is just a story you’ve convinced yourself to be true. It may be a powerful story, but it is fiction nonetheless.

It is like watching a horror film about the boogeyman and then checking under your bed every night before you go to bed to make sure he isn’t there!

The boogeyman isn’t real. And neither is this limited belief.

The main difference between an apartment syndicator with a billion portfolio and an aspiring syndicators who is hesitates is the belief in this boogeyman.

The boogeyman isn’t under your bed. You don’t need a strong track record in multifamily to raise money.

For more practical advice for how to get your mind right, check out some of my success habits blog post by clicking here.

 

2. Business Experience

I guess I should have said that “you need a strong track record in multifamily to raise money” is only partially false. The first part is actually true. You do need a strong track record. But it doesn’t need to be in multifamily.

One of the two areas that every single-first time apartment syndicator had a strong track record in was business.

Investing in real estate is a business. And apartment syndications even more so. When you are an apartment syndicator, you are creating and executing a business plan. Therefore, if you have a strong business background, you have a track record creating and/or executing a business plan.

A strong track record in business doesn’t mean you’ve just graduate college and were hired by a Fortune 500 company. It doesn’t mean that you had a lemonade stand as a kid (but, surprisingly, this could help you raise money! Click here to learn how).

It does mean that you started your own business in the past. It doesn’t matter how small the company was. What does matter is that it was successful (i.e., profitable). It can also mean that you worked for a large corporation and were promoted to the level of director or higher.

If you created a successful business and/or were promoted to a high level within a large corporation, you have the skill sets needed to successfully execute a business plan.

 

3. Real Estate Experience

If you do not have a strong track record in business, then you need to have a strong track record in real estate. Even if you have a strong track record in business, having a strong track record in real estate as well is a huge plus.

You have more flexibility with the real estate experience. It can mean that you were an investor (i.e., wholesaler, fix-and-flipper, single family rentals, small multifamily rentals, etc.). It can mean that you were a property manager. It can mean that you taught other people howto become investors. It can mean that you were a broker or a realtor.

When you have a strong track record in real estate, you understand how the transactional and management process works. All you need to do now is use that same knowledge on larger apartment communities.

 

Believing that you need to have a strong track record in multifamily before raising money is a myth. As long as you have a strong track record in business and/or real estate, your money raising foundation is almost completed.

The last step is to get educated on apartment syndications. A good place to start is by reading my apartment syndication blogs here or by listening to our Syndication School podcast series here.

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Texas and Florida Add The Most New Jobs in 2019

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

Visit Austin

  • 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

Florida Politics

  • 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

D Magazine

  • 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%

Orlando-Kissimmee-Sanford MSA

10best.com

  • 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%

Tampa-St. Petersburg-Clearwater

Parade

  • 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.

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10 Large Cities with Most Explosive Rent Growth in 2019

One of the most important factors used to evaluate a potential target investment market is supply and demand.

The demand side of the equation is measured in part by the change in median rent year-over-year – an increase in median rent indicates an increase in the demand for rental properties in a particular area, and vice versa.

Ideally, the change in rent for your target market is positive (obviously) and is greater than the average national change in rent. From January 2019 to January 2020, the average national change in rent was +1.6% (compared to +1.6% and +2.6% over the same time period in 2018 and 2017 respectively). This would indicate that rent growth is continuing to be sluggish on a national scale compared to previous years. However, the top markets in the country are continuing to outpace the current and past two year averages.

Overall, 217 of the 712 US cities experienced rent growth of 2% of more. 96 had rent growth of 3% or more. 36 had rent growth of 4% of more. And 12 had rent growth of 5% or more. The city with the greatest rent growth was the city of Madison in Alabama (population of 47,959) – 6.9%.

Here are the top 10 large US cities where rents increased the most from January 2019 to January 2020:

 

National Averages

  • Median 1 BR Rent: $962
  • Median 2 BR Rent: $1,193
  • Y/Y Change: 1.6%

10. Arlington, TX

Loews Hotels

  • Median 1 BR Rent: $1,016
  • Median 2 BR Rent: $1,262
  • Y/Y Change: 2.6%

9. Plano, TX

NCTCOG.org

  • Median 1 BR Rent: $1,186
  • Median 2 BR Rent: $1,474
  • Y/Y Change: 2.8%

8. Stockton, CA

Downtown Stockton Alliance

  • Median 1 BR Rent: $994
  • Median 2 BR Rent: $1,304
  • Y/Y Change: 2.8%

7. Las Vegas, NV

Destination360

  • Median 1 BR Rent: $963
  • Median 2 BR Rent: $1,193
  • Y/Y Change: 3.2%

6. Austin, TX

Visit Austin

  • Median 1 BR Rent: $1,191
  • Median 2 BR Rent: $1,470
  • Y/Y Change: 3.3%

5. Nashville, TN

Andrew Jackson’s Hermitage 

  • Median 1 BR Rent: $947
  • Median 2 BR Rent: $1,163
  • Y/Y Change: 3.3%

4. Colorado Springs, CO

DowntownCS.com

  • Median 1 BR Rent: $986
  • Median 2 BR Rent: $1,272
  • Y/Y Change: 3.3%

3. Phoenix, AZ

TripSavvy

  • Median 1 BR Rent: $883
  • Median 2 BR Rent: $1,101
  • Y/Y Change: 3.7%

2. Henderson, NV

 

Wikipedia

  • Median 1 BR Rent: $1,127
  • Median 2 BR Rent: $1,397
  • Y/Y Change: 4.2%

1. Mesa, AZ

 

  • Median 1 BR Rent: $915
  • Median 2 BR Rent: $1,140
  • Y/Y Change: 5.1%

If you are investing in one of these markets, do not assume that the future rent growth will be the same. Always conservatively estimate the annual income growth factor – 2% to 3% maximum. That way, if the rental rates slow, you’ll still hit your projections. And if the rental rates continue or increase, you’ll exceed your projections, which means more money for you and your investors.

 

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2019 H2 Cap Rates of the Nation’s Top 50 Multifamily Markets

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.

Download CBRE’s second half of 2019 report here.

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 second half of 2019 of the nation’s top 50 tier I, II, and III multifamily markets for Class A, B, and C asset classes .

 

Tier I Markets

Tier 1 multifamily cap rate

CBRE Research

 

Tier II Markets

Tier 2 multifamily cap rate

CBRE Research

 

Tier III Markets

Tier 3 multifamily cap rate

CBRE Research

 

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private equity real estate

Why I Don’t Work with Private Equity Institutions for My Apartment Syndications

The most common method apartment syndicators use to fund their projects is raising money from a group of individual sophisticated and/or accredited investors.

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.

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The 51 Responsibilities of the General Partnership in Apartment Syndications

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:

 

Pre-Contract Phase

  1. Select potential target investment markets
  2. Evaluate potential target investment markets
  3. Select 1 to 2 potential target markets
  4. Create a website
  5. Create a company presentation
  6. Define a target audience for a thought leadership platform
  7. Create and grow a thought leadership platform
  8. Create an in-person meetup group
  9. Create a Facebook group and/page
  10. Find, interview, and select a property management company
  11. Find, interview, and select a commercial real estate broker/s
  12. Find, interview, and select a commercial mortgage broker or lender
  13. Find a business partner
  14. Find an accountant who specializes in apartment syndications
  15. Find a real estate attorney
  16. Find a securities attorney
  17. Find a loan guarantor
  18. Define the roles and responsibilities of each member of the GP
  19. Set investment criteria for deals
  20. Set GP compensation structure
  21. Set Limited Partner compensation structure
  22. Create list of investor emails in Mail Chimp (or other mass email sending service)
  23. Find passive investors
  24. Build relationships with commercial real estate brokers
  25. Subscribe to commercial real estate brokers’ on-market email lists
  26. Implement marketing strategies to generate off-market deals
  27. Underwrite deals
  28. Submit LOI and negotiate PSA

Contract-to-Close Phase

  1. Perform due diligence on the deal
  2. Create an investment summary
  3. Announce new deal to investor list
  4. Perform new investment offering conference call or webinar
  5. Send conference call or webinar recording to investors
  6. Create legal documents and send to investors
  7. Create LLCs
  8. Ensure passive investor money is transferred
  9. Set up operating bank accounts
  10. Secure financing
  11. Close on deal

Post-Closing Phase

  1. Create investor guide
  2. Notify investors of closing
  3. Send monthly recap emails to investors
  4. Send quarterly financials to investors
  5. Send K-1 tax documents to investors
  6. Answer incoming questions from investors
  7. Oversee property management company
  8. Weekly performance call with property management company
  9. Frequently analyze competition to set rents
  10. Frequently analyze the market to determine when to sell
  11. Ensure the correct distributions are sent on-time
  12. Oversee the sale of the asset

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.

 

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2019 H1 Cap Rates of the Nation’s Top 50 Multifamily Markets

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.

Download CBRE’s first half of 2019 report here.

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 .

 

Tier I Markets

CBRE Research

 

Tier II Markets

CBRE Research

 

Tier III Markets

CBRE Research

 

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How to Announce a New Apartment Syndication Deal to Maximize the Number of Passive Investments

After you’ve officially placed an apartment syndication deal under contract and created the investment summary document that outlines the major highlights of the opportunity, the next step is to notify your database of investors about your new deal.

Here is how to create an attractive new deal email to maximize the number of investor commitments.

The purpose of the new deal email is to:

  1. Notify investors that you have a new deal under contract
  2. Provide investors with the highlights of the investment
  3. Send them a link to download the investment summary
  4. Invite them to invest
  5. Invest them to the conference call

I recommend using an automated email service like MailChimp to create your emails as opposed to sending one-off emails to each of your investors. With MailChimp, you can create a professional looking email, upload every contact from your investor database, and send the email campaign to everyone.

 

1. The Subject

The first thing an investor will see when they receive the new deal email is the subject line of the email. So, your subject line needs to convey why they should invest in the opportunity and grab their attention.

A bad subject line would be: “New Deal in Dallas, TX” or “Great Investment Opportunity.” These are too generic and not specific enough.

A good subject line would be: “Off-Market Opportunity Under Contract at 25% Below Recent Sales” or “Significant Value-Add Opportunity in A+ Market.” Both of these examples tell the investor why it is a good deal and grabs their attention.

 

2.The Picture

At the top of your new deal email, you should include a picture or pictures of the asset. On our new deal emails, we actual create a collage of four images. We have a main image, which is typically a picture of the monument sign. Then, we have three smaller pictures below, which are typically things like the pool, the clubhouse, the fitness center, or some other aesthetically pleasing part of the asset.

Additionally, we include our company logo on the collage.

Adding images of the property to the email make it more professional looking and allows the investors to actually see what they are investing in right away.

You should have already added many images to the investment summary, so you can pull four images from there.

 

3. Introduction

Below the image, you should start the body of the email off with the subject line of the email in all bold.

Then, in the next paragraph, you should include the main highlights of the deal, starting off with elaborating more on the subject line. For the “Significant Value-Add Opportunity in A+ Market” example, you would elaborate on why it is a significant value-add deal and why it is an A+ location.

For example:

  • “All of the unit interiors are inferior compared to the surrounding competition.”
  • “The asset is located in an A+ location, which has one of the most desirable school districts in the state, is the top market in the nation for job, and has an average household income of over $100,000.”

In the next paragraph, you should include an explanation of your business plan. Some questions to answer are:

  • Will you be doing renovations?
  • Are these renovations proven?
  • How many units will you be renovating?
  • What are the projected rental premiums on renovated units?
  • How do those rental premiums compare to the surrounding competition?

 

4. Other Notable Aspects of the Deal

The introduction should be enough to communicate the main highlights of the deal. However, while it isn’t a requirement, you can also include other notable aspects of the deal. For example, you can provide more statistics on the overall market or submarket, provide information on the debt you are securing, explain any major operational upsides you’ve identified, talk about the company managing the project, etc.

All of the main highlights should be included in the introduction. These points should simply reinforce the main highlights and why you are investing in the deal.

 

5. Projected Returns and Investment Information

After you’ve written out the main highlights and other notable aspects of the deal, you want to include the projected returns and other important information the investors need to know about the opportunity.

First, include the projected cash-on-cash return to the investors excluding and including proceeds from sale, and the projected internal rate of return to investors based on the projected hold period.

Next, include information on the minimum and maximum investment amount. Typically, you want to set the maximum investment amount equal to 19% of the total equity raise. If an investor invests 20% of more of the equity, the lender will perform additional due diligence on that person, which requires personal financial information.

Then, you want to state the closing date and funding date ranges.

Lastly, you want to let investors know how they can commit to the deal (i.e., “once you are ready to commit, please reply to this email with your investment amount”.)

 

6. Investment Summary

I also recommend including a link to download the investment summary. The best way to do so is to upload the investment summary to Dropbox and include a link to download the file from Dropbox in the email. That way, you won’t need to send out individual emails to investors with the investment summary. Plus, Dropbox allows you to track who actually downloads the file.

Click here for a Syndication School episode on how to create an investment summary and to download a free investment summary template.

 

7. New Investment Conference Call

To conclude the email, I recommend inviting interested investors to attend your new investment conference call or webinar. We host our calls on FreeConferenceCall.com. So, prior to creating the email, I schedule a date and time with my business partner and set up the call on FreeConferenceCall.com. Then, I include the date, time, and call in information at the bottom of the email.

 

Before hitting send, double check that the link to the investment summary works and that you are sending the email to your most up-to-date list of investors. After you hit send, the next step is to prepare for the new investment conference call.

Click here to learn my 7-step process for presenting a new apartment deal to my passive investors.

 

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Should You Sell Your Apartment Syndication Deal Early?

As an apartment syndicator, one of your ongoing asset management duties is to frequently analyze the market to estimate the current as-is value of your property.

One way to calculate the current as-is value of the property is to determine the market cap rate based on recent sales and divide that by the current net operating income (value = net operating income / cap rate)

Another way to determine the current as-is value of your apartment is to request a broker’s opinion of value from your commercial real estate broker.

The purpose of estimating your apartment value at least a few times a year? – to determine if it makes financial sense to sell early.

In addition to the current as-is value of your property (i.e., the potential sales price), here are six other factors to consider to help you determine if it makes sense to sell your apartment deal before your initially projected sales date.

 

1. Status of the Loan

One thing to consider is the type of loan you secured. If you secured an interest-only loan, how many more months of I/O payments are remaining? Generally, you will receive a higher cash flow during the interest-only period, so it may make sense to wait to sell until you start paying down the principal.

Also, when is the loan due? You don’t ever want to get forced to sell, so if you think it is time to sell and your loan is due soon, it may make sense to sell now rather than waiting until the loan is due.

Lastly, if you were to sell now, would you be required to pay a prepayment penalty? If so, what is the amount and how much longer until that prepayment penalty clause expires? If there is a large prepayment penalty for selling early, you will need to subtract that amount from your projected sales proceeds. If the prepayment penalty clause expires soon or if paying the prepayment penalty results in returns that are less than or not significantly greater than your initial projections, it may make sense to wait to sell.

 

2. Status of the Business Plan

As value-add investors, we make physical improvements to the property via interior renovations and amenities upgrades in order to increase the income. Generally, every time you lease a newly renovated unit, the income increases. So, if you haven’t completed your value-add business plan, how many more units could you renovated if you held onto the property for another 12 months, 18 months, etc.? And what would the overall returns to your investors be if you waited to sell until you renovated those units in 12 months, 18 months, etc.?

If you’ve completed your value-add business plan, then this point isn’t important. But if you still have a large majority of units to renovate, it may make sense to capture that value first so that you can sell for a higher price at a later date.

 

3. Status of the Market

The income is only one of the factors that impacts your potential sales price. The other is the market cap rate. So, you need to think about where the market and submarket is heading. This is accomplished by analyzing the various reports created by third-party research companies, like Yardi Matrix, CBRE, Marcus and Millichap, etc., to determine the rental rate, occupancy rate, and market cap rate trends for the next 1 to 3 years (or the remaining time until your initial projected sales date). Then, determine how these trends compare to your underwriting projections. If the trends are better than your underwriting projections, it may make sense to wait to sell, and vice versa.

 

4. Age of Property

Another important factor to think about when considering the sale of your property is the date of construction.

If the property was constructed before 1980, capital expenditures and deferred maintenance will be an ongoing issue. Whatever you have budgeted to cover these ongoing issues will eat away at the ongoing return to your investors, which means that it may make sense to sell early.

 

5. Risk Tolerance

When you initially presented the investment offering to investors, you provided them with projected returns – most likely an IRR and an annualized cash-on-cash return.

Let’s say you projected an 18% IRR to your investors with a 5-year exit. After 3 years, you determine that you can sell at a price that would result in a 27% IRR to your investors. In addition to the factors above, determine what the projected IRR would be if you held onto the property for 12 months, 18 months, etc. Then, perform a sensitivity analysis to determine what those 12-month, 18-month, etc. IRRs would be if the market were to shift in the positive or negative direction. If those sensitized IRRs are not significantly greater than, following our example, 27%, then you are risking the chance that you will have a lower IRR if you hold.

Most likely, your passive investors have a relatively lower risk tolerance, which is why they are passively investing in the first place. So, if you are not confident that you can achieve a significantly higher IRR (or whatever return factor is important to your investors) by waiting to sell, it is not worth the risk.

 

6. Investment Goals

At the end of the day, the decision to sell or not to sell is based on the returns you can provide to your investors.

Do they care more about long-term cash flow or about receiving their money and profits back within 3 to 7 years?

If they are interested in receiving their capital and profits sooner rather than later, then IRR is likely the return factor they focus on the most. Keep in mind that IRR is a time-based measurement. The IRR is higher if the initial capital and profits are received today compared to 1 year from now. The longer you hold onto the deal, the lower the IRR. So, if you are not confident that you can make up for that reduction in the value of money over time by creating more value and cash flow, it may make sense to sell now.

On the other hand, if your investors are more interested in receiving an ongoing cash flow payment, you may want to hold onto the deal so that you can continue distribution cash flow payments.

 

Overall, if you are confident that selling now will get you the highest return for your investors, then you should sell. Each of these 6 factors above will help you determine if now truly is the best time or if you will have a better chance at achieving a higher return by waiting.

 

Are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

 

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Looking at The Sales Comparison Approach (SCA)

The approach is used as the basis for comparative market analysis (C.M.A.), which is an analysis of the prices of recently sold properties that are similar and within the same geographic area. It’s important to note that the sales comparison approach is not an official appraisal, and if a property is unique, a formal appraisal might be needed. One of the best ways to determine multifamily and commercial investment real estate value is by doing a thorough analysis of the property’s physical and financial status. CAP rates are another good way to compare your sale price with others who have sold in your area.

To get sales comparison information you can do things like:

  1. Visit websites like apartments.com and craigslist.com to search for similar properties and units
  2. Get the comparison from your broker
  3. Get survey for rents from your property manager
  4. Access a local MLS listing
  5. Walk the property and visit apartments yourself physically

Make sure that you compile all that data to the spreadsheet and focus on rent per square foot mainly to compare your property to another.

A few great places to start your search is by looking at research from the major real estate brokerage companies in your area as well.  A few of the national real estate brokerage firms that have great research reports are Marcus and Millichap and CBRE.

These companies produce research reports each quarter that you can get for free by registering on their websites.  These research reports can tell you very valuable information such as; what properties have sold in your area, what they sold for, going CAP rates in your area, and comparable price per unit sales information.  They can also tell you how your area compares to the rest of the US and their forecasts for how these numbers might change in the future.

As you may know we have a book when it comes to starting your syndication business from the ground up called “Best Ever Apartment Syndication Book”, so make sure you grab your copy and start making investments in yourself and building your real estate business and if you are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

 

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Everything You Need to Know About Sending Distributions to Passive Apartment Investors

You just closed on your first or another apartment syndication deal. Congratulations!

One of your most important duties as the asset manager of your newly acquired apartment deal is to send out the correct distributions to your investors on time. (Click here for a list of all asset management duties and responsibilities).

Let’s be honest, if you mess up the distributions, the likelihood of your investors coming back for future deals decreases drastically. Additionally, my largest source of new investors is through referrals. So, by screwing up the distributions, not only would I be losing current investors, but potential investors as well.

In order to retain your investors and attract new investors, here is everything you need to know about sending distributions to your passive investors in order to not only set you and your investors up for success for this deal, but for all future deals.

For the purposes of this blog post, we will assuming you’re sending out monthly distributions and offering an 8% preferred return with a 70/30 profit split thereafter.

 

1. How do I know if I can make a distribution?

Distributions come out of the cash flow remaining after paying all operating expenses and debt service. The cash flow can be located at the bottom of the profit-and-loss statement each month.

The amount of money distributed to the investor is based on the amount of money they invested and the preferred return. For example, if a limited partner invests $100,000 and you offer an 8% preferred return, they receive $8,000 per year in distributions. If you have 10 investors in total who invested $100,000 each, you will distribute $80,000 annually.

Of course, this assumes that the asset cash flows at least $80,000 annually. If the asset does not cash flow at least $80,000 annually (for example, if the asset cash flows $60,000 year 1), then you distribute $60,000 to investors and do not receive your split of the profits.

 

2. What happens if I cannot make a distribution?

Following the example, if the asset cash flows $60,000 in year 1 and $80,000 per year thereafter, then the $20,000 would accrue and be paid out at closing, assuming you included a catch-up provision in your operating agreement with investors.

 

3. How do I calculate the distributions?

The distribution is based on the preferred return offered to passive investors and their initial equity investment. The preferred return is an annual return, so since you are offering monthly distributions, you’ll need to divide the preferred return by 12. For example, and 8% preferred return on a $100,000 investment is $8,000 annually, or $666.67 per month.

 

4. When do I pay out extra distributions? 

Every 12 months of ownership, you should evaluate the profit-and-loss statement for the previous 12 months to determine if the property cash flowed more than the 8% preferred return. If the property cash flowed more than the 8% preferred return, a portion of the additional profits (70% or however you structured the profit split) can be distributed to your passive investors.

For example, if 10 investors invested $100,000 each at an 8% preferred return, and the property cash flowed $100,000 year one, the investors would receive an additional $1,400 each ($100,000 cash flow – $80,000 in preferred returns = $20,000. $20,000 * 70% profit split = $14,000. $14,000 / 10 investors = $1,400). This equals a 9.4% return year 1 ($8,000 preferred return + $1,400 profit split = $9,400 / $100,000 initial investment = 9.4%)

 

5. Who sends out the distributions?

Ideally, your property management company sends out the monthly distributions. Make sure you set expectations with your property management company before closing on a deal (i.e., will they send out the distributions? How frequently? Etc.)

 

6. When do I send out the first distribution?

We send the first distribution at the end of the third month of ownership. It covers the time we owned the property in month 1 and month 2. For example, if we closed on January 15th, the first distribution is sent by the end of March and covers January 15th to February 28th.

After that, each distribution is sent at the end of the following month – March’s distribution is sent by the end of April.

 

7. How do I send the distribution?

The two main ways to send distributions are via direct deposit and check in the mail.

You can either offer both options or pick one option. But make sure that your property management company is capable of setting up direct deposits/mailing checks each month.

 

8. When do I receive my distributions?

Assuming there is cash flow remaining after the preferred return, the GPs receive distributions at the same time and at the same frequency as the passive investors.

First, you will receive your asset management fee of 2% (or whatever percentage you charge).

Then, the remaining profits will be split between your investors and you 70/30 (or whatever profit split you offered). For example, if you have 10 investors who invested $100,000 at an 8% preferred return and the asset cash flowed $100,000 year 1, the GP would receive $6,000.

 

You also want to assume that your passive investors will want to know this information. You can either wait until they ask you and spend your weekends writing individual emails to investors. Or, you can proactively answer these questions. My company creates an Investor Guide for each of our deals and include it in our “we closed” email. This guide outlines everything our investors need to know about distributions, including what the distributions are, when they will receive them, how they will receive them, and how we re-evaluate the deal every 12-months to determine if we can send a larger distribution.

Once you’ve answered all of these questions yourself, make sure you are communicating the answers to your investors as well – with the most effective way being the creation of an investor guide and including a link to download the guide in your closing email to investors.

 

Are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

 

 

 

 

 

 

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What Are the Cap Rate Trends in Your Target Apartment Investment Market?

Each year, Integra Realty Resources (IRR) releases their ViewPoint report, which analyzes commercial real estate trends and forecasts performance for the coming year. One of the factors they track are the market cycles for the top MSAs (which you can find here). Another important factor they track are cap rates.

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.

IRR tracks the cap rate for urban and suburban Class A and Class B multifamily products both nationally and regionally, as well as the year-over-year change (measured as BPS, or basis points, where 1 BPS is equal to 0.01%).

Here is the most recent cap rate data for multifamily real estate from IRR’s 2019 ViewPoint report:

 

National

  Cap Rate YoY Change (BPS)
Urban Class A 5.30% +2
Urban Class B 6.11% -3
Suburban Class A 5.47% +2
Suburban Class B 6.32% 0

 

 

South Region

  Cap Rate YoY Change (BPS)
Urban Class A 5.39% -1
Urban Class B 6.23% -4
Suburban Class A 5.54% -8
Suburban Class B 6.48% -2

 

East Region

  Cap Rate YoY Change (BPS)
Urban Class A 5.33% +14
Urban Class B 6.28% 0
Suburban Class A 5.70% +27
Suburban Class B 6.60% +5

 

Central Region

  Cap Rate YoY Change (BPS)
Urban Class A 5.97% -2
Urban Class B 6.83% -2
Suburban Class A 6.01% -2
Suburban Class B 6.85% -2

 

West Region

  Cap Rate YoY Change (BPS)
Urban Class A 4.52% 0
Urban Class B 5.12% -4
Suburban Class A 4.71% 0
Suburban Class B 5.34% 0

 

Are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

 

 

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What Stage in The Market Cycle is Your Target Apartment Investment Market?

Each year, Integra Realty Resources releases their ViewPoint report, which tracks major trends and development in the commercial real estate industry.

One of the data points in this report that is relevant to you as a multifamily investor is their categorization of the major cities into their respective stage in the market cycle. That is, which markets are expanding, which are recovering, which are experiencing hypersupply, and which are in a recession.

Based on the most recent multifamily market data, 83% of the markets reviewed are in the expansion phase and only one is in recession. According to IRR, most markets are in the expansion phase because debt capital for new development has been very disciplined and builders have been focusing on highly demanded niche products like senior housing, student housing, workforce housing, etc. Also, employment and unemployment trends have been the best demand indicator for apartments over time, and the number of jobs have been steadily increasing.

Before showing you which stage in the market cycle your target market is in, let’s first define the four stages:

Market Cycle Expansion Hypersupply Recession Recovery
Vacancy Rates Decreasing Increasing Increasing Decreasing
New Construction Moderate/High Moderate/High Moderate/Low Low
Absorption High Low/Negative Low Moderate
Employment Growth Moderate/High Moderate/Low Low/Negative Low/Moderate
Rental Rate Growth Medium/High Medium/Low Low/Negative Negative/Low

These four categories are a part of a cycle, which goes like this: recovery to expansion to hypersupply to recession back to recovery:

IRR also broke each of these four categories into three sub-groups, which for the purpose of this blog post I will label as 1, 2, and 3. Using expansion as the example, markets in the 1 subgroup have the strongest expansion market factors (i.e., vacancy rate is decreasing the most, new construction is highest, absorption is highest, employment growth is highest, and rental rate growth is highest), whereas markets in the 3 subgroup still meet the expansion criteria but not as much as the 1 subgroup (i.e., vacancy decreasing at a slower rate, moderate new construction, high absorption, moderate employment growth, medium rental rate growth).

Since this is a cycle, markets in subgroup 1 are closer to the previous market stage and markets in subgroup 3 are closer to the next market stage. So in reality, the market cycle looks more like this:

That said, here are the market cycle categorizations for all of the major cities/markets:

 

Expansion

Expansion 1

  • Jackson, MS
  • Las Vegas, NV

Expansion 2

  • Austin, TX
  • Cleveland, OH
  • Dayton, OH
  • Greensboro, NC
  • Indianapolis, IN
  • Long Island, NY
  • Los Angeles, CA
  • Nashville, TN
  • New York, NY
  • Orange County, CA
  • Orlando, FL
  • Sacramento, CA
  • San Diego, CA
  • Sarasota, FL
  • Tulsa, OK
  • Washington, DC

Expansion 3

  • Birmingham, AL
  • Boise, ID
  • Broward-Palm Beach, FL
  • Charlotte, NC
  • Chicago, IL
  • Cincinnati, OH
  • Columbia, SC
  • Columbus, OH
  • Dallas, TX
  • Detroit, MI
  • Fort Worth, TX
  • Greenville, SC
  • Hartford, CT
  • Jacksonville, FL
  • Kansas City, MO
  • Louisville, KY
  • Memphis, TN
  • Minneapolis, MN
  • Naples, FL
  • New Jersey, Coastal
  • New Jersey, No.
  • Oakland, CA
  • Phoenix, AZ
  • Pittsburgh, PA
  • Portland, OR
  • Raleigh, NC
  • Richmond, VA
  • Salt Lake City, UT
  • San Francisco, CA
  • San Jose, CA
  • Seattle, WA
  • St. Louis, MO
  • Syracuse, NY
  • Wilmington, DE

 

Hypersupply

Hypersupply 1

  • Atlanta, GA
  • Baltimore, MD
  • Charleston, SC
  • Denver, CO
  • Miami, FL
  • San Antonio, TX

Hypersupply 2

  • Boston, MA
  • Providence, RI
  • Tampa, FL

Hypersupply 3

  • Philadelphia, PA

 

Recession

Recession 1

  • None

Recession 2

  • Little Rock, AR

Recession 3

  • None

 

Recovery

Recovery 1

  • Houston, TX

Recovery 2

  • None

Recovery 3

  • None

 

What Does This Mean For Me?

Each of these markets are categorized based the following factors: vacancy rates, new construction, absorption, employment growth, and rental rate growth trends. So, one thing to think about is if you can find a submarket or neighborhood within one of the hypersupply or recession markets that have expansion or recovery factors. In other words, just because the overall market isn’t in the expansion or recovery phase doesn’t mean that you should abandon that market nor that you won’t be able to find great investment opportunities. In fact, you’ll likely be able to find more deals and have less competition when not pursuing expansion markets.

Additionally, if your market is in the 1 or 3 subgroup, you’ll want to monitor those market factors to see if the market has moved to another stage. This would be a good thing if your market moved from hypersupply 1 to expansion 3, and it would be concerning if your market moved from expansion 3 to hypersupply 1.

Lastly, just because your market is in the expansion phase doesn’t mean that every deal is a good deal. You should still complete a full underwriting analysis based on your business plan and perform the proper due diligence on all prospective deals.

 

Are you an accredited investor who is interested in learning more about passively investing in apartment communities? Click here for the only comprehensive resource for passive apartment investors.

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