For the most part, real estate syndications are passive after you’ve chosen a project to invest in. Notably, before committing to a project, you should conduct your own due diligence to determine if a project meets your investing goals and risk tolerance. After you invest in a project, your work is done except for reviewing updates provided by the syndicator. You can relax and enjoy the benefits and income from your passive investment.
Below, we will briefly discuss the major steps involved in vetting apartment syndications.
Due Diligence for Assessing a Real Estate Syndication
1. Review the Private Offering Memorandum
It is standard for a real estate syndication to be offered to investors through a confidential Private Offering Memorandum. While many investors do not take the time and read these, this is a big mistake. The Memorandums contain a lot of important details and information about the deal.
Most Offering Memorandums start with an introductory paragraph or executive summary, which provides a condensed version or summary about the investment. Next, there may be a FAQs section to help investors clarify certain aspects and features of the deal.
2. Evaluate the Loan Terms
This section is critical. You must inquire about the loan terms for the project. Specifically, what kind of loan did the sponsor get for the project? What is the interest rate? How long is the loan for? What is the down payment requirement, and so forth? The proformas must match up to the loan terms. This is why it’s important to read the fine print carefully to ensure that you fully understand the terms of the deal.
3. Carefully Review the Risk Section
Of all the sections in the Offering Memorandum, the “Risk” section may arguably be the most important for investors. This section is usually drafted by an experienced real estate or business attorney and warrants most of your time when you are reviewing the Offering Memorandum. In general, this section will give you a good understanding of the unique risks involved in your deal.
4. Vet the Sponsor Thoroughly
As it pertains to a real estate syndication, the sponsor is responsible for many aspects of the deal. For the most part, the sponsor will make or break the deal. Specifically, the sponsor is the one who locates the deal, negotiates with the seller, arranges financing, conducts due diligence on the property, oversees the management of the asset, communicates with investors, pays investors, and much more.
As such, it’s important to check the sponsor’s track record. Specifically, you want to inquire about what drove success in their past projects and if those same factors can be duplicated with the current project that you are considering. Overall, you don’t want to get distracted with ambitious returns and projections without having solid data to support those projections.
Experience is important. However, there is a reason every financial investment comes with the legal disclosure that past performance does not guarantee future results. There are just too many variables that can affect whether a project is successful or not.
5. Evaluate the Sponsor’s Team
In addition to the sponsor, you want to vet the rest of the team which includes the property management firm, the lender, and the board members and/or advisors, just to name a few. This is especially true if the sponsor you are considering doesn’t have a lot of experience and will be relying upon the team a lot more compared to a more experienced sponsor.
6. Do you Trust the Sponsor/ General Partners?
It should go without saying, but you want to trust the people who will be handling your money. One of the best ways to garner trust for your sponsor is to find out their reputation. You can talk to past investors and ask about their opinions, etc. A qualified and reputable sponsor should be able to provide you with their references upon request.
In addition to trust, you want to ensure that the sponsor respects you. Are they prioritizing your returns over their own? Are they taking the time to answer all your questions about the investment? Are they involved in competing funds with the same or similar strategy as the fund you are considering?
7. Are the Fees Reasonable?
Finally, while you shouldn’t rest your investment decisions solely on the fees and expenses associated with the deal, you should take note of management fees and expenses that are incredibly high or unreasonable. You should also be aware of the sponsor is shifting expenses to the investors from management. For example, is the sponsor charging overhead expenses to the syndication fund instead of their management fund?
Multifamily real estate syndications can be a rewarding investing strategy if you are able to put in a little bit of time and effort on the front end of the deal. If you are new to apartment syndications, it may be wise to reduce your risk by diversifying your investment over a few low entry investment opportunities.
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