Multifamily Real Estate Syndication: A 2023 Investment Guide

Are you interested in real estate investing but struggling with how to juggle a full-time career plus dealing with tenants? If so, then you may want to consider investing in a multifamily real estate syndication.

This type of investment involves pooling resources with other investors to acquire and manage apartment complexes or other types of multifamily properties. These also allow smaller investors (like you and me) access to large scale projects that are beyond our reach financially.

Syndications also help us to provide diversification in our investment portfolio and potentially high returns due to economies of scale and professional management.

Syndications are structured with two parties – general partners (GPs) responsible for managing the investment’s various aspects like dealing with property management and providing expertise; and limited partners (LPs) who contribute the required capital.

Real estate syndications offer many advantages, such as:

passive income generation
potential appreciation
leveraging through debt financing

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What is a Multifamily Real Estate Syndication?

Real estate syndications

Investing in real estate can be lucrative but also time consuming. If you’re looking for a hands off approach, then consider multifamily real estate syndication as an option. With this investment model several people put their money together to purchase and manage multifamily assets. This creates a win-win situation where everyone benefits from any profits generated by the investment.

Group of Investors

Multifamily syndication investments are categorized into two main groups: limited partners and general partners.

Limited partners – contribute most of the funding for these investments while taking less responsibility for managing properties or facing liability risks. They benefit from passive income streams generated by cash flow or potential value increases over time. This is especially important for those of us (like myself) that rely 100% on one income stream.
General partners take charge of finding suitable properties, obtaining financing and monitoring investments more closely than their counterparts do. Compensation varies but usually includes fees (i.e. acquisition fee) alongside “profits splits” which reflect specific arrangements agreed upon with limited partner investors.

Benefits of Multifamily Syndication Investment

Investing in multifamily properties through syndication offers several advantages for both limited and general partners including:

Diversification: Instead of only the stock market as an option, investors are able to diversify their portfolio by adding real estate to their portfolio.
Economies of scale: This is mainly due to the larger property sizes resulting in potentially lower maintenance costs per unit.
Cash flow: Real estate assets have the potential to generate stable cash flow streams from rental income.
Appreciation: Typically, a property’s value increases, leading to capital gains for the investors.
Tax benefits: Syndications can provide fantastic tax benefits, such as depreciation deductions, that can offset income and enhance overall returns.

Role and Responsibilities of Partners

General Partners

General partners, also known as a deal sponsor, play the most crucial role in the real estate syndication process. They’re responsibilities include:

Finding viable multifamily investment opportunities that match specific criteria
Evaluating every prospective deal through underwriting and analysis
Negotiating favorable financing arrangements along with other terms pertaining to acquisition
Organizing equity investments from passive investors who do not want an active role
Conducting closings successfully while overseeing acquisition related activities
Managing assets throughout ownership phase; managing property too
Maintaining regular communication with passive investors

For their valuable expertise and duties, general partners receive compensation in two main ways: an asset management fee (based on a percentage of gross revenue) and profit shares (also known as promotes) based on return on investment.

Passive Investors

The primary contributors to multifamily real estate syndication financing are referred to as passive investors- individuals or entities who fund most of it themselves.

They’re responsible for:

Providing enough funds required whe acquiring pnroperty
Conducting due diligence on every step of the investment process- from general partner selection down to property management choices
Keeping track of the investment’s progress through updates provided by deal sponsors

In exchange for their efforts, passive investors receive a return based on investments made upon completion of buying/selling an asset. These are usually paid out as quarterly cash flow distributions plus the potential appreciation upon the deal exit.

Limited partners don’t get involved in the day-to-day property management of the property. Because of this, their liability is limited to the amount of their investment, which makes them less exposed to potential risks.

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Investment Requirements

Most of the syndication investments I’ve been involved in (506c) require that a person be an accredited investor.

Accredited Investor

An accredited investor is defined as someone:

with an annual income of at least $200,000 in each of the two most recent years or married couples making $300,000 joint income. There must be a reasonable expectation of the same income level in the current year; or
A person or married couple with a net worth of at least $1 million which does NOT include a primary residence.

Financial Aspects of Syndications

Preferred Return

Most syndication deals use debt for leverage. Typically, before any limited partners receive a return on their investment, debt is repaid first with interest before interest on the principal is paid out.

The cash flow distributions that are returned to passive investors (you and me) before the general partners get paid is the preferred return.

When the limited partners have priority when distributions are made, this is an example of a preferred return.

As a result, they receive 100% of the profits until a preferred return hurdle is reached.

As you can imagine, having a structure like this incentivizes the sponsors to perform the best they can otherwise they don’t get paid. A sensible general partner typically won’t undertake a project if they don’t believe they can significantly outperform the preferred return.

Non-Recourse Loan

When it comes to financing commercial real estate syndications, non-recourse loans are often used as an option for borrowing parties. The main advantage of this type of loan is that it limits the potential impact on personal financial situations if things don’t go according to plan with a particular project.

In case the borrower defaults, the lender can only seize the collateral to recover the debt, rather than going after the borrower’s personal assets.

Non-recourse loans offer several benefits to passive investors in syndications:

Personal asset protection: This gives peace of mind knowing that what’s at stake isn’t any more than what was originally intended.
Better loan terms: These loans have longer repayment timespans, lower interest rates, and higher loan-to-value (LTV) ratios versus recourse loans.
Reduced risk: With risk being more evenly distributed between all involved parties, this creates a more secure investment opportunity for everyone involved.

Cash-on-Cash Returns

Evaluating the performance of commercial real estate investments is critical for investors interested in syndications with multiple families. Cash-on-cash return (CoC) measures yearly pretax cash flow generated by investments based on equity invested.

It’s particularly important when comparing various opportunities within multifamily property.

Here’s how you can calculate it:

Cash-on-Cash Return = (Annual Pre-Tax Cash Flow / Equity Invested) x 100

Let’s say an investor puts up $100k in equity and receives $12k every year pre tax cash flow; heres what that looks like:

Cash-on-Cash Return = ($12,000 / $100,000) x 100 = 12%

A high CoC percentage typically indicates that there’s potential from investing in it further down the line. Investors looking for passive investing may find themselves drawn to preferred returns and non-recourse loans along with cash on cash returns in apartment syndications.

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Investment Process and Structures

Limited Liability Company

Multifamily real estate syndications often utilize a Limited Liability Company (LLC) as an investment structure due to its protective qualities towards personal assets. This type of arrangement is frequently employed for rental properties or other forms of investment endeavors.

The process involves pooling investor capital together within an LLC entity that then purchases and oversees management operations related to a particular property. Each member within this collective entity receives passive income based on how much they initially invested in its acquisition.

Private Placement Memorandum

Knowing what is contained in a Private Placement Memorandum (PPM) is crucial when engaging in multifamily investing. The PPM contains essential information that informs prospective investors about different factors surrounding the venture such as:

location details pertaining to the property
anticipated ROI figures
management fees charged for services rendered
possible downsides/risks involved

It also spells out specifics regarding structures including options for either LLCs or Joint Ventures (JVs) plus conditions of investment like minimum purchase amounts and exit strategy alternatives.

Advantages of Multifamily Syndications

Economies of Scale

When it comes to real estate, one clear advantage is the cost savings from economies of scale that come with pooling resources together through multifamily syndication. Property management expenses can be shared leading to low per unit costs while generating a stable and profitable revenue stream for passive investors thanks to high occupancy rates.

Safe and Steady Returns

In addition, multifamily syndications offer safe and consistent returns for long term wealth creation. This asset class has proven its worth time after time due to strong fundamentals and excellent performance history.

Passive investors receive regular income through monthly or quarterly distributions depending on project performance along with preferred returns that prioritize their return on investment (ROI) ahead of deal sponsors’ profits for higher profitability opportunities.

Diversification

Multifamily real estate investing offers notable advantages to investors such as diversification by allocating their capital across multiple properties with different locations and deal sizes thereby reducing the overall portfolio risk.

These investments also provide access to private opportunities not available through public markets which leads to further expand their portfolios which contributes to greater diversification.

Risks and Challenges in Syndications

Bridge Loans

Multifamily real estate syndication can be a tricky game where one wrong move could cost investors substantially. Among such risky territory is bridge loans – short term financing options with interest rates and fees much higher than other conventional mortgage types.

Investors who opt for this route must exercise caution since defaults can result in losses on their initial investment.

Vacancy Rate

A crucial aspect sponsors have with real estate syndications is managing the vacancy rate. High vacancy rates denote low rental demand which could be detrimental to an investments cash flow and overall returns on investment.

Limited partners should perform thorough research on the local rental market and comparable properties to help mitigate this risk.

Three factors to consider include:

Local economic conditions: Typically, a high demand for rental property are located in areas with a growing economy.
Demographic trends: The demand for housing is usually proportional to the population and job growth.
Property management: Effective management can contribute to more stable occupancy rates and positive tenant retention.

Market Volatility

The unpredictability that comes with any investment market, also applies with real estate investments. Fluctuations in rental rates or operating expenses that impact property values directly or indirectly can all pose risks.

To address market volatility, investors should not put all of their eggs in one basket. Instead, focusing on diversifying their portfolio with different asset classes and geographies works better.

It’s equally vital for investors to keep themselves updated on multifamily market fundamentals, aware of ongoing industry trends to enable informed decision-making.

How Do You Invest In a Multifamily Real Estate Syndication?

Here are the 8 steps for investing in syndications:

The general partner group will email the available “deal offering” to their investment group.
Review the offering memorandum (property description) and make an investment decision.
Inform the deal sponsor of the amount you want to invest.
Attend the sponsor’s investor webinar which allows you to get more information and ask questions.
The sponsor confirms your spot in the limited partnership and sends you the PPM.
Fund the deal via wire or check.
The sponsor confirms that your funds have been received.
You’ll receive a notification once the deal closes and what to expect next.

How To Find a Real Estate Syndication Sponsor You Can Trust

One of the most popular questions our Passive Investor Circle members ask me is, “Jeff, how can I find a real estate sponsor that I can trust with my money?”

Here’s 7 steps that you can take in order to evaluate a sponsor:

Potential questions to ask:

How many deals have you closed?
How many deals have you exited?

New investors may want to consider choosing a more experienced sponsor that has had several deals go “full cycle“ or have sold.

Background checks can usually be found on either a podcast interview or articles they’ve submitted online to real estate sites.

You can also go directly to their website to find out their:

investment philosophy
acquisition criteria
portfolio of previous projects

If everything checks and and you want to move forward, consider setting up a call to get to know them more on a personal level.

It’s important that a sponsor has experience with all four phases of an economic cycle which are:

recovery phase
expansion phase
hyper supply phase
recession phase

Your goal is to evaluate whether or not they faced challenges such as going through a recession phase.

This is also your chance to ask them about their previous failures, how they handled them, and what they’re doing to mitigate those risks moving forward.

The main thing we want to understand is exactly what happened and what they did about it to prevent future issues.

There’s no such thing as a real estate investment being risk-free as each deal carries some degree of risk.

As discussed in step #3, ask the sponsor about the potential risks in their offering and what they’re doing to mitigate them.

Most experienced sponsors are typically more forthcoming about risks and will discuss how they can impact the property.

Having clear, consistent communication with sponsors is imperative especially for the new investor.

The sponsor should communicate potential risks in the deal including: business plan, fees and underwriting assumptions.

After the deal closes, they should continue regular communication regarding the property metics and distribution schedule.

Tax advantages are one of the primary benefits of investing in real estate.

It’s imperative that the sponsor has a thorough understanding of these strategies such as:

performing a cost segregation study
using accelerated depreciation

If the sponsor truly “believes” in their deal, then they should have personal“skin in the game“ also know as their own money in the deal.

If they don’t believe in their deal enough to put up money, you shouldn’t either.

Want to learn more about how to create a multifamily syndication investment strategy? Check out this article to get started.

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Multifamily Real Estate Syndication: A 2023 Investment Guide