I believe syndications are an amazing investment opportunity for a large number of people – including many people who don’t even know they exist. But there are some drawbacks that you need to be aware of as well and so they aren’t the right option for everyone. As with any investment you make, it is important to understand how a syndication fits within your investment strategy and why you are investing in a specific syndication.
Syndications are a passive investment. Once you decide to be part of syndication as an LP, your work is over. There is nothing else you need to do. You are not involved in any of the decision making process and don’t even need to read the newsletters or attend the webinars put on by your sponsor (although you should, just to keep up with things). You can stay focused on your day job, family, etc while your money does the work for you. This makes syndications the perfect investment for busy professionals such as tech workers. However, if you are the type of person who wants to stay in control and be actively involved in the decision making process, you should not be an LP as you will just be frustrated.
LPs are owners of the syndication. This means that you get all of the tax benefits of owning the underlying asset. For example, you get depreciation on the property, which may be used to offset your passive gains and when the property sells you may be eligible for it to be treated as capital gains instead of ordinary income (consult your CPA for how this affects you). Your share of the profits and losses will be documented on a tax form known as a K-1, instead of the 1099 forms that you get for interest or dividend income. To fully realize these benefits, you will need to work with your CPA since your taxes will become much more complicated (and you may need to file state taxes in areas where the syndication is doing business). If you aren’t ready for this complexity, or prefer to do your taxes yourself, you should consider sticking with simpler investments.
Syndications are a long-term strategy. I believe this is one of the strengths of syndications, but you need to be fully aware of what it means. These investments are NOT liquid. Once you join a syndication, your money is locked up – usually until the syndication exits which can be anywhere from 3 to 10 years in the future. Depending on the investment, you may get regular checks, but there is no open market to sell your shares on. I like this feature since I am investing for the cash flow and it takes time for new syndications to stabilize and start paying distributions. So every time I need to switch into a new syndication, my cash flow takes a temporary hit. As a result, I would just as soon hold the asset forever. I can’t emphasize this enough, however, you should only be investing in syndications with money you don’t need for at least the expected life of the syndication. Don’t put your emergency fund, car fund, or even college fund money (especially if you kid is already a teenager) into a syndication.
Syndications give you access to new asset classes. Real estate is not a single asset class. There are many types of real estate investments – raw land, agriculture, single family rentals, apartment buildings, storage units, mobile home parks, RV parks, strip malls, large shopping centers, warehouses and more. Typically, syndications buy commercial real estate, with prices well over $1M. Even with mortgages covering the majority of the purchase price, the cash required to invest in these properties is much more than the cost of joining a syndication. By becoming an LP in different syndications you get exposure to a variety of asset classes that you would otherwise not be able to participate in – or at best would have a single property instead of the diversity of partial ownership across a number of properties. This sets your portfolio up to better weather the ups and downs of market cycles. However, as each asset class has its own pros and cons, you need to make sure that the assets being purchased by a syndication are aligned with your personal investment strategy. For example, I am not currently interested in investing in multi-family properties, so I do not invest in syndications where multi-family is a primary asset class. The types of assets you want to invest in are entirely up to you, but make sure you know how a particular syndication fits into your long-term plan before signing up for it.
Syndications require a significant investment. You typically cannot put just $100 or even $1,000 into a syndication. The minimum investment is typically $50,000 and is often $100,000 (although I have seen them as low as $25,000 and as high as $1M). That is a lot of money going in to a single investment. This is typically one of the major hurdles that an investor needs to overcome in order to invest in a syndication. The perspective I take is that the investment is not much different than what I would need to invest in a simple rental property as an individual (down payment and initial repairs), yet I am able to get involved in much bigger deals than I would as an individual investing on my own and thus get exposure to an entirely different asset class.
Syndications often require you to be an accredited investor. I will talk about what this means in detail in a future article. However, the SEC has established rules that limit who can typically invest in these deals. This is theoretically because you are a more sophisticated investor and better understand the risks – or at least, can withstand a loss. In any case, participation in these investments is typically restricted. The good news is that if you work in a high paying professional position you will often meet this criteria and don’t have to worry about it.
Next week, I will talk about some of the documents that you will need to review as part of investigating a syndication.
If you have any questions about this post, please email them to me at terence@mbc-rei.com, I will reply to the questions that are straightforward and will turn the questions requiring more detailed answers into future blog posts.
For additional reading:
https://www.sec.gov/education/capitalraising/building-blocks/accredited-investor