By Ketan Patel
Date June 23, 2021

What is a Multifamily Real Estate Syndication?

The term “syndication” makes the term “real estate syndication” seem more complicated than it really is. Think of it like buying an airline ticket. Anyone who has purchased an airline ticket has participated in syndication. Each ticket sold goes toward funding the flight. Some people might pay more or less than others for their tickets. Some people might buy more than one ticket. Yet collectively, the proceeds from the ticket sales are used to pay for the trip. 

Syndication real estate is no different. Investors pool their capital to, collectively, invest with a sponsor in a real estate syndication. 

Syndications are becoming more popular than ever. That’s because multifamily investing, once considered an alternative investment vehicle, is starting to enter the mainstream. Investors, large and small alike, are starting to see the benefit of investing in multifamily properties. Multifamily investing, for example, continues to prove resilient even in the wake of widespread economic uncertainties. Given the illiquid nature of multifamily property (i.e., it is not as easily purchased and sold as other commodities, like stocks and bonds), it is not as prone to market volatility. 

That said, even the most sophisticated investors are sometimes at a loss with how to start investing in multifamily properties. Some of the best, most lucrative deals are usually only accessible to the upper echelon, including institutional investors and large private equity investment firms. 

Given the high barriers to entry, many investors are now participating in syndication real estate. With this type of multifamily investing, a sponsor identifies a deal and then pools capital from multiple people to use as the equity investment in that deal. The sponsor then oversees the deal on behalf of the investors, who are otherwise passive limited partners.

In this article, we take a deeper look into how syndication real estate works, including the roles and responsibilities of each party and how profits are generally distributed. Read on to learn more about multifamily real estate syndication.

 

What is syndication real estate?

Syndication real estate is a way of pooling capital from various individuals to then, collectively, invest in a real estate asset. Syndications are a great option for those interested in passive real estate investing. 

As was the case with the airline ticket example above, real estate syndications function in a similar manner. 

Several individuals invest in the syndicate, and then the manager of the syndicate (known as the “sponsor”) will then leverage those funds to invest in a real estate deal.

Syndications can be as simple as two people investing together. Others can be much more complex, with dozens if not hundreds of people investing in a specific deal or real estate fund. 

 

Syndication Real Estate: The Preferred Form of Passive Real Estate Investing

In recent years, syndication real estate has become the most popular form of passive real estate investing. Real estate syndications allow investors to “set it and forget it,” leaving all day-to-day activities to the sponsor overseeing the deal. The sponsor, considered the active partner or general partner, owns all responsibilities associated with multifamily investing – ranging from acquisition to permitting, design, financing, construction, lease-up and eventually, refinancing or disposition of the property. 

Another reason investors are drawn to syndication real estate is that they may not have sufficient capital to invest in multifamily property on their own. They might only have $100,000 to invest, for example, which may not be enough to acquire, renovate and stabilize a property. This is a prime example for when the syndication’s partnership model works particularly well.

Syndications also open the doors to deals that individual investors could not access on their own. For example, a sponsor might create a $50 million fund for investing in multifamily properties. With leverage, this might equate to three deals collectively worth $200 million. An individual investor typically cannot access deals of this scale on their own. Investing in a syndication real estate is a way to access deals that are historically only available to institutions, pension funds, family offices and the like. With a smaller yet still substantial investment of say, $100,000, an individual can participate in the fund and reap the benefits that come with investing in multifamily properties of this scale. In short, pooling money through a multifamily real estate syndication allows people to invest in larger, often more lucrative deals. 

Investors are also drawn to syndications as a way of mitigating risk. Rather than making one large investment in a single deal, syndications create opportunities for investors to invest smaller denominations in multiple deals. This approach allows people to spread their risk across projects, product types, and geographical locations.

 

The People Involved in Real Estate Syndications

There are generally two key parties involved in syndication real estate: the syndicator (often referred to as the “sponsor” or “general partner”) and the investors. 

The sponsor can be an individual or company and is responsible for all day-to-day activities related to the multifamily investment opportunity. This includes crafting the business plan and then executing that strategy. The sponsor’s responsibilities include researching and evaluating various multifamily properties, property acquisition, planning and design, permitting, financing, overseeing construction, marketing and lease-up. The sponsor will usher the multifamily deal through to completion, which may be refinancing or selling the property, depending on the syndication’s exit strategy. 

With syndication real estate, sponsors will usually have an equity stake in the deal themselves. This is a way of ensuring that the sponsor and investors’ interests are aligned. The sponsor may also collect various development fees along the way, as well as a share of the profits that are not usually not paid out until the investors have earned a certain degree of return first. 

The other party to a real estate syndication, as we alluded to above, are the investors. The investors are considered “limited partners” (LP) and have a passive role in the syndication. After contributing their capital, the LP investors generally do not have any responsibilities related to the deal, and therefore, are given few opportunities to influence the decision-making related to the deal. Therefore it is critically important for investors to carefully vet sponsors before passively investing in a syndication to ensure they are comfortable with the sponsor’s business plan and confident that the sponsor will be able to execute that plan accordingly.  

 

How to Earn Money by Passive Real Estate Investing in Syndications

The distribution of syndication real estate profit can be structured many ways. This structure is often referred to as the deal’s “waterfall.” The term “waterfall” stems from the idea that cash flow from investing in multifamily properties will flow through to investors, pooling at different points, and after that pool is full, the profits then spill over to the next pool of investors in a tiered fashion.

In most equity waterfalls, a syndication’s profits are split unevenly amongst the partners. The sponsor, for example, may earn a disproportionately larger share of the profits if the project beats expectations. That extra slice of the pie is referred to as the “promote.” Promotes are used as a bonus to incentivize the sponsor to deliver results beyond those expected when investing in multifamily properties. 

Equity waterfalls can be very nuanced and as mentioned, can vary from deal to deal. 

That said, you can expect a waterfall structure to look something like this:

Tier I. Preferred Return: Typically, the first capital paid out of cash flow goes to the LPs in the form of a preferred return on their investment. When investing in multifamily properties, the preferred return is often in the 7-9% range. The rate is often called a “hurdle rate” since it is the hurdle the sponsor must overcome before earning any profits themselves.

Tier II. Return of Capital: Once the preferred returns have been paid to LPs, 100% of cash flow distributions are used to repay investors the capital that they originally contributed. 

Tier III. Catch-Up: A waterfall will sometimes have what is known as a “catch-up” provision, in which case all distributions from investing in multifamily properties go to the sponsor until they achieve a certain percentage of the profits themselves, usually aligned with the LPs preferred return.

Tier IV. Carried Interest: At this level, remaining profits from the syndication real estate are split between the sponsor and the LP investors based on a predetermined allocation. Returns do not have to be split evenly between the sponsor and LPs at this point. The sponsor may collect and oversized share of the multifamily investing profits relative to their equity investment in exchange for managing the deal. 

It is common for sponsors to collect other fees in addition to earning their share of the cash flow distributions or sales proceeds. For example, a sponsor might charge a 2% acquisition fee and/or a 1-2% asset management fee in exchange for finding, managing and investing in multifamily properties.

 

CONCLUSION

Passive real estate investing is certainly not without its risk, but as noted above, it is a strong alternative to active real estate investing as it allows investors to take a hands-off approach while the experts lead the projects on their behalf. Moreover, while the multifamily real estate market will always ebb and flow, its illiquid nature lends itself to being more stable than the stock or other equity markets. Those looking to diversify their portfolios and hedge against market volatility will find multifamily investing to be an excellent option.

And syndication real estate is a great way to get started.

The key to successfully investing in multifamily properties through syndication real estate is to find a trusted sponsor; a person or company that has robust experience and superior market-know how. Look for a team who has a proven track record with multifamily investing.

If you are interested in syndication real estate, contact us today. We would welcome the opportunity to walk you through our approach to investing in multifamily properties, and how you can reap the benefits by passively investing with us today.

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