Podcast Appearances

Transcript: How to Avoid Fraud When Investing in Real Estate

Transcript from ‘Ritter on Real Estate’ podcast

With Host Kent Ritter Interviewing Kim Lisa Taylor, Esq.

Originally broadcast on June 17, 2020

 

Listen to the podcast here

 

Kent Ritter:

Hello, fellow investors. Welcome to Ritter on Real Estate, where we focus on how to passively invest like a pro. Today, we’ve got a very special guest. We have Kim Lisa Taylor. She’s a nationally recognized corporate securities attorney, speaker and the author of the number one Amazon bestselling book, How to Legally Raise Private Money. She’s the founder of Syndication Attorneys, PLLC and investormarketingmaterials.com, whose purpose is to provide quality legal advice, offering documents and professionally designed marketing materials for clients nationwide.

Kim has been the responsible attorney for hundreds of securities offerings, and she routinely teaches subjects related to legally raising private money in front of groups ranging from 50 to 1,000 plus attendees. Wow, I’m so excited to have you here today, Kim. That is an amazing resume, and I think such an important topic, just focusing on something that from a private investor standpoint I doubt we spend enough time really thinking about is you try to think at least the idea that people are well-intentioned and that people are going into these things with the best of intent. And that’s not always the case. So I’m so glad you’re here to talk to us today about how we avoid fraud and how do we find the right sponsors and what should we be looking out for. So, again, thank you for being here.

 

Kim Lisa Taylor:

Oh, you’re so welcome. And thank you so much for inviting me. This is just a hugely important topic. And I think right now, in the midst of the coronavirus, we have probably a higher potential for fraud than maybe ever before because there are people who are in desperate need and they’re thinking creatively about how to dumbest other people of their money, unfortunately. And then there’s also some other reasons that people might do this that aren’t as intentional, so we can talk a little bit more about that.

 

Kent Ritter:

Yeah, that’s an interesting take. Especially right now, you’re right. There’s distress out there. And that can cause people to act in unfortunate ways, so I think very timely topics. But before we get into how to identify this, before you get into a deal, can you tell us a little bit about why it’s so important?

 

Kim Lisa Taylor:

Well, if somebody is accumulating funds from private investors and then they engage in some kind of fraud that makes the investment not viable, what happens is if they get in trouble, okay, if somebody complains to regulator or somebody hires an attorney, tries to get their money back, or something like that, then all of a sudden this person they’re faced with these huge legal bills. And so what do they do? Well, they have control of your money, so they suspend all distributions, they start hoarding all the cash and using it to pay their own legal bills. So all of a sudden, your investment is being used to pay somebody else’s defense after they stole your money leading to further that. So it’s just a vicious cycle. You just have to be cautious because it’s going to impact your investment. Even if you do end up getting the money back, chances are you’re not going to get all of it back. You might get part of it back if you’re lucky, you might get none of it back. Either way, your investment is going to be lost.

 

Kent Ritter:

And what typically happens to the property that you’re invested in if somebody does get in trouble with the SEC, for example?

 

Kim Lisa Taylor:

I guess it just depends. They could be forced into bankruptcy, the property could go to a receiver. More likely, they’re going to stop paying the bills and then it’s going to go into foreclosure and the lender is going to foreclose and recover their losses, but there probably isn’t going to be enough money to pay anybody else back.

 

Kent Ritter:

Got you. And as an investor, what’s your recourse against the sponsor as an investor? Is there anything that you can really do at that point once you’ve already gotten into the deal?

 

Kim Lisa Taylor:

And the only things you really can do, certainly you can call the person and complain and tell him you want your money back, likely that’s not going to happen. Maybe if you catch it early enough, they might just get rid of you because you’re the squeaky wheel. But the people that don’t complain are going to go down with this ship. But you might have an opportunity. You can always only complain to your own state securities regulators. You can complain to the SEC too, if you want to. My experience with the SEC is that they typically don’t investigate things where somebody’s stolen like $15 million. They don’t necessarily get involved with the small stuff just because they’ve got bigger fish to fry and they have limited resources.

But your state securities agencies are very interested in the small stuff and they’ve got the time and the resources to pursue it. So your audience might not know that if you’ve invested in a syndication, say you live in Arizona, your Arizona securities agency… Every state has its own securities agency. So you can complain to your Arizona State Securities Agency because every offering, even if it’s a federal offering under federal law still has to comply with state filing requirements and still has to give jurisdiction to the state over that person in order to raise money within the states. So just a convoluted rule is that you have to at least notify the states and then they have jurisdiction over you if you commit fraud within their state.

So if you live in Arizona, your correct person to complain to would be the Arizona Securities Agency. Attorneys can’t help you do that, by the way. Attorneys are not allowed to help people to try to threaten criminal prosecution to gain an advantage in civil litigation, most people don’t realize that. So you’re always free as a citizen to go on your own and complain to your regulatory agencies, but that’s not something that an attorney can necessarily help you do. But the flip side of that is you could hire an attorney and civilly sue that person and sue them for violations of securities laws. So there are ways to do it, but of course, that one’s going to be the more expensive way to do it because you’re going to have to put the legal bills in order to get any kind of recovery. And who knows if you’re actually going to get recovery.

 

Kent Ritter:

Yeah, no, that’s great information. I didn’t realize a lot of that, especially about the state. So it sounds like really once you’re in it, you’re stuck. There’s not a great way out of it. Either way, most likely you’re going to lose your money, or you’re going to spend a lot of money trying to go after the person to try to recover some money from person that realistically probably doesn’t have a lot of money because now there’s a reason that they’re doing all this. So I think the important thing is, it sounds like let’s make sure we don’t end up in this situation in the first place.

 

Kim Lisa Taylor:

That’s right.

 

Kent Ritter:

So let’s talk about how we avoid ending up in that bad situation.

 

Kim Lisa Taylor:

Well, so you need to realize first what the types of ways are that people can commit fraud in a syndication. And I think there’s really three different ways. There’s people that are illegally raising private money. So they’re not following securities laws when they’re doing the raise, which is putting the entire investment at risk because any violation of securities laws could cause the whole thing to completely derail if any investor ever complaints and the regulators come around and start unraveling the deal.

There’s embezzlement, so partner fraud, where you’ve got maybe three or four people within the management team, and one of them is stealing money, and the other three aren’t really paying attention, or they’re not preventing it, or maybe that person has control of the money and they can’t do anything about it. So I think that’s probably one of the more common ones. And then there’s Ponzi schemes, where people have already had an offering in place, they’ve either lost the money or used the money maybe for an improper purpose like their lifestyle or that kind of thing. And now, in order to make the earlier investors whole, they have to bring in money from new investors. So those I think are the three common types. And certainly, there’s other creative types out there I’m sure.

 

Kent Ritter:

Well, yeah. I think that’s a lot to unpack. There’s a lot of things to watch out for. So why don’t you take us through the three types and how do we identify for each of those? Are there early warning signs, red flags, things that we can be watching out for as we enter investments?

 

Kim Lisa Taylor:

Yeah. So I think let’s start with the illegally raising private money and how can you spot that. So the first thing is you have to have an understanding of the securities laws that are allowing this person to even raise money from you if you’re the passive investor. So the quick one-on-one primer of the securities laws that might be applicable to what you’re doing is if someone is selling securities, so that means they’re either selling the promissory notes or they’re selling something called investment contracts. Investment contracts would include investing in a company, where you’re buying a portion of the ownership interest in that company. And it doesn’t matter what kind of company it is. It could be a limited partnership, could be an LLC, something like that, but you’re giving somebody your money in exchange for ownership interest in that thing, then that’s an investment contract.

As anytime you are passively investing and relying on someone else to generate a profit for you, that’s really the classic definition of an investment contract. So first, okay, if you’re investing in securities, one of those things, then that person in order to be able to offer that to you either has to register the offering in advance. And that means going public like Google did, like Facebook did and getting preapproved by regulatory agencies before they even offer those investment opportunities. And for real estate, that’s not going to happen because you don’t have time to go public, it’s too expensive, it takes too long. You can’t do it on an individual deal basis, which is how most people are raising money. So you have to qualify for an exemption from registration.

So the exemptions that are most common are Regulation D Rule 506, the Regulation D Rule 506, and then there’s intrastate exemptions, if somebody was raising money all within one state and all of the assets were in that state and they were in one state. So you can do a Texas intrastate offering if everything was in Texas. But the most common are the Reg D Rule 506. And there’s two options under that. There’s Rule 506(b), B like boy, that allows the investor or the syndicator to raise an unlimited amount of money from an unlimited number of accredited investors and up to 35 non-accredited investors, but they can’t do it through any means of general advertising or solicitation. So that point there about no advertising is key because if you are investing with someone and who claims they have a Reg D Rule 506(b) exemption and you learned about this deal through some kind of an email blast and you don’t know this person, they’ve already violated the law.

 

Kent Ritter:

Not fair.

 

Kim Lisa Taylor:

Okay, and that’s very, very common way that people violate the law. The other side of that is Regulation D Rule 506(c), C like cat. Okay, the 506(c) exemption allows them to raise an unlimited amount of money from an unlimited number of verified accredited investors. So usually I have to go through some verification process or provide some evidence that you actually are accredited, and that has to have been done within 90 days of making the investment. But if they’re offering the securities under Regulation D Rule 506(c), then they are allowed to freely advertise. So what would be your cues as to whether someone was doing this legally or not, if they’re doing a 506(b) offering and you got the information about the offering through an ad and you don’t have a preexisting substantive relationship with the person who’s offering those securities to you, then that’s your first red flag that they’re probably doing it illegally.

If it’s a 506(c) and they’re saying it’s open to accredited investors, and they could even do that with a 0506(b), they could restrict it to accredited investors only. Well, I’ve actually had an instance where somebody approached me and said, “Hey, I invested in this deal with this guy and I want to get my money back. They haven’t made the investment. They’ve had my money for like six months.” And he said, “Well, it was an all accredited offering, but I’m not accredited. I only have about $900,000 worth of net worth.” And so I was able to look at the documents and wrote a letter to that person and said, “Hey, this person wasn’t even accredited. You should never have even allowed them in your deal in the first place and they want their money back.” So they were able to get their money back luckily. And they were one of the few in that deal that did get their money back.

So you’ve got to look at to make sure that you meet the qualifications for that investment, because if you don’t and they’re letting you in, then they’re already violating securities laws and now you’re at risk and the whole thing starts to unravel down the road. You also have to understand from a security standpoint, what is the appropriate documentation you should be looking for? So if you’re investing in a Rule 506(b) offering, then you need to look for a private placement memorandum. So that’s the disclosure document required by the SEC that explains the risks of the investment and also explains how things are set up, who are the people that are in charge, how much money they’re raising, where they’re getting it from and what the money is going to be used for. All those things are required to be in a private placement memorandum.

And the SEC has very specific rules on what those private placement memorandums look like. If you’re a non-accredited investor and you’re being allowed in a deal, and the sec would even dictate what’s on the cover page, what’s on page two, what follows the cover page, what other information has to be contained within that document. So look for a private placement memorandum, get familiar with what that entails and make sure that yours is sufficient. And make sure that it describes which exemption these people are relying on. So they should be naming in that private placement memorandum, whether they’re doing a 506(b), 506(c), or some other exemption. And then you want to look up the rules for that exemption. You can do that at the SEC’s website and figure out whether or not you meet those requirements.

And if you don’t meet it, don’t try to invest, even if they say it’s okay, because it’s not. And if they’re allowing you, they’re allowing other people, they’re violating law, just stay clear. And then you can also look up if it is a Reg D Rule 506(b) or a 506(c) offering, there’s a form that gets filed with the SEC called the form D. And you can look up that company and the person that’s offering those securities with the SEC on what’s called their EDGAR database, E-D-G-A-R database. So if you look up SEC EDGAR database, you’ll find the right link to it. And you can go there and you can punch in their name and see if you can find them. And they should be individually listed because the SEC always wants to know who the individuals are behind the rays. They’re going to be asking questions about that.

So here’s another red flag is if somebody is introducing you to someone who has a deal and they say, “Well, I know a guy who’s raising money,” then ask the person that’s introducing you if they’re being compensated for bringing you to that deal, because the only people that can earn commissions on referring investors to a deal have to have the appropriate securities licenses. If they don’t, then they cannot earn a commission. So if somebody says to you, “Oh, well, I get a commission of 3% on whatever money you invest in the deal,” then you need to know that. And they also it’s mandatory that they disclose that to you, that either they disclose it to you or that the syndicator discloses that to you. So you want to know about that and make sure that you understand whether or not that’s legal. And if you’re not sure, then you may want to check with someone like me to ask them if what’s being done is legal before you make that decision.

 

Kent Ritter:

Got you. That is great. That’s so much good information. So it sounds like you’ve got to be aware of the type of deal. Well, I guess, one, the type of security offering that they’re doing and making sure that you understand the rules of each, which I think you actually explained and then the documentation related to each of those offerings. So it sounds like the documentation from a 506(b) is different than what would be expected in a 506(c), is that right?

 

Kim Lisa Taylor:

The description of the business is going to be largely the same. But the investor qualification section, which is called the suitability section, that’s usually going to be section one of the private placement memorandum, that’s going to be different depending on which exemption they selected.

 

Kent Ritter:

Okay. And how as an investor do we get verified that we are accredited? How do you make sure you’re following the rules?

 

Kim Lisa Taylor:

If you’re investing in a Reg D Rule 506(b) offering, then you don’t have to go through a verification process. The documents that the syndicator provides to you, they should have the explanation of what is accredited in there. And you get to read that and decide whether or not you meet those qualifications and you can self-certify. So just to verify, it’s just to go through what those qualifications are. So an accredited investor is somebody who has over $1 million of net worth, excluding any equity in their private primary residence. So just other investments that you own, other rental properties, income properties that you own, that’s all part of your net worth, but you just can’t include any equity in your personal residence. So that’s one qualification.

The other alternative is an income qualification, which is if you’re a single person and you make over $200,000 a year, or if you’re a married person, you make over $300,000 a year as a married couple, and that has to have been for the last two years with an expectation that we’re continuing to the current year. So think of it as a one, two, three year, either $1 million net worth, or $200,000 income and single, $300,000 and married.

 

Kent Ritter:

Got you. And then on a 506(c) where they have to validate that you’re accredited, how does that process usually work?

 

Kim Lisa Taylor:

So the syndicator may have the capabilities of doing that in-house by reviewing your income statements, or your net worth, or they may send you to a third party that has to usually come from somebody who has a license and it’s CPA and attorney registered investment advisor, could be your own person. And you can use your own CPA to verify. And then the rule for the syndicator is they have to have reasonable assurance that you’re accredited before they allow you to invest with them. So you’re going to provide a letter from somebody that you’ve either paid to do it, or somebody that already knows your qualifications and can review them for you.

 

Kent Ritter:

Got you. Okay, thanks. So that’s the first step, making sure you’re avoiding people that are raising illegally. And then you talked about the next type of fraud could be partner-related fraud.

 

Kim Lisa Taylor:

That’s right. Yeah. So this is a scary time for partner fraud, otherwise known as embezzlement. So there’s something called the triangle of fraud, and you can look it up on the internet and read about it more yourself. But it always consists of these three things. First, there has to be opportunity and access to the funds. Second, there has to be some unshareable need, something you can’t go to your partners and say, “Oh my gosh, I’m going to lose my house if I don’t make my mortgage payment, could I borrow 2,000 bucks?” Something like that. So they’ll have some unshareable need. And it could be a valid need, it could be their own greed, or their own vanity, it could be, “Gosh, I really need this BMW. I should be living a different lifestyle than I am, unfortunately. I deserve a yacht,” something like that.

And I don’t mean to make light of this, but it does happen. So opportunity, unshareable need, and then the third part is justification. So what happens, the opportunity, they’ve got to have access to the bank account, maybe access to the investor funds. So when we’re dealing with syndicator and just… We bandied that word about maybe if just in case somebody doesn’t know what that means. That’s just somebody who puts a group of investors together for a common purpose. So this syndicator has access to all of these investor funds. Maybe there’s some delays in getting the property acquired and so they’ve accumulated funds.

I actually was involved in a case once where there was a syndicator who had raised $1 million to buy a property. And then there were some title defects on the property, they were trying to cure the property defects. And in the meantime, this person started deciding that all the things they thought they were going to be able to buy after the property closed, once they get their acquisition fees, they needed them now. So they went out and they bought a brand new BMW, they bought a new house, they did all these things. And pretty soon, there’s only half the money left in the bank.

And when some of the other members of the management team came to us and said, “We need help. We don’t have access to the funds, but we know this is happening. We’re really concerned. The investors are calling us, what can we do?” And we were able to rest the money, to get it away from that person before they exhausted all of it. But unfortunately, half of it was already gone. Property was never acquired. Those investors got their money back, the amount that remained, so about half their money back. Unfortunately, this person was a confidence man. We’ve all heard the term con man and the con men are very charming and persuasive. And they were able to persuade some of those people to put their money into the next deal where they would be made whole. I have no idea what happened with that. But once bitten, twice shy might be the rule here.

So they had access. They had this unshareable need while you can’t tell anybody while I really needed BMW because they’re not going to agree with that. And so they just started helping themselves to the money. And what was interesting is when they justified it… So they created this justification and so they would write checks to themselves out of the bank account. And in the memo line on the check, it would say, “Repurchase of shares.” So they were selling their shares, which were nonexistent because the company had never began operation. They were selling them back to the company and taking the money. So unfortunately, that didn’t turn out as well as it could have, but it certainly didn’t turn out as badly as it could have either.

So that’s your unshareable need. Now the justification, so unshareable need right now in the midst of the coronavirus, “I don’t have any income, I need to pay my bills, I need to keep this business afloat, I need to keep my other business afloat, I need help my kids, there’s all kinds of unshareable needs that people could be experiencing right now. So this is the time if there ever was one to really pay close attention to what’s going on in your syndication bank accounts and to ask if you’re an investor in one of those syndications to ask for an accounting and ask for it regularly, whether or not you’re going to be able to get it is another question, but certainly time to be questioning that. And if you are a member of a management team within a syndicate, pay very close attention to your bank accounts and to the other members right now, just to make sure that nobody is illegally taking some money out of the bank account that they shouldn’t be.

The justification is always, “Oh, I’m doing it. I’m just selling back my shares, or I worked really hard and I spent all this time on this and I haven’t been compensated at all. So I really deserve it, or gee, I’m the one that put this whole entire deal together and I’ve worked harder than anybody else. So I really deserve it now.” So there’s a lot of that. And usually, it doesn’t even start with the justification. It usually starts with, “I’m just going to borrow the money. If I just use part of the money now, and then when this happens, I’ll be able to pay it back and then this never happens, or this gets kicked too far down the road, and then they have to justify why they don’t need to pay it back anyway.” So that’s the triangle of fraud.

So you’ve just got to really watch your partners, your bank accounts closely, always set up a syndicate so that at least two people are watching the bank accounts. And for any withdrawals or checks of a certain dollar amount, there should be a requirement for approval from two people and it should be written approval. But just keep that in mind. Watch for things like ATM withdrawals. Now, somebody will just very frequently start going to the ATM and withdrawing $300 to $500 at a time and then not justifying that, not providing the proper documentation of what that was for. Watch for people taking advances on their pay, people who are just saying, “Oh, well, I’m just going to take an advance on my paycheck for this and this and this,” and then they never reconcile it. So the pay [inaudible 00:28:05]. So just be careful of those things. Watch for people who are paying their own personal credit cards with company cards.

 

Kent Ritter:

So this one seems a little bit more difficult as a limited partner, as an investor to figure out right. Seems like you have to be asking some really good questions. So you said ask for an accounting, for example. But specifically, what should we as investors be asking the sponsors or expecting the deal sponsors to provide back to make sure this isn’t happening?

 

Kim Lisa Taylor:

Well, before you invest, might be a good time to ask, “What kind of documentation are you going to be providing to investors on a regular basis?” So somebody who is very responsible or if it’s a public company, they’re going to be required to provide you with some quarterly statements that have very specific information now. So ideally, you’d love to invest with somebody who’s going to provide you with quarterly reconciliation of the bank accounts and all of the income and expense statements for the property for the prior quarter, so that you can look at those and make sure that the checks that have gone out and the withdrawals that have been made coincide with the expenses incurred by the property during that period of time. And anything that’s being paid to the management, you want to just check and make sure that that’s done in accordance with what the offering documents said. So back to the private placement memorandum or the operating agreement if a broad interest in a company it’s going to say what the manager is entitled to take.

They’re entitled to certain fees at certain times and a share of profits maybe after you’ve received your share, or maybe it’s just a straight split, but they shouldn’t be taking their shares of profits at times that are not specified in those offering documents. So those are the things you really got to pay attention to. Knowing in advance that they’re going to provide that stuff is going to give you some comfort and then if they don’t provide it, then all of a sudden you’re going to know that, “Well, they said they were going to do one thing, they did something else. That’s always a red flag.”

 

Kent Ritter:

Mm-hmm (affirmative). Yeah, I think those are great tips. So the third thing you described what was the Ponzi scheme, which is made famous again with Bernie Madoff and all that happened back then, which has been 10 years ago now. So talk to us a little bit about what that is. Let’s remind folks what a Ponzi scheme is and how do we watch out for that?

 

Kim Lisa Taylor:

So a Ponzi scheme is really just where somebody has already used the investor funds for whether it’s legal or an illegal purpose, but they’ve used the investor funds and now they have to keep the business going. And they’ve got investors that are saying, “Hey, where’s our returns that you promised,” and so they don’t have the money anymore. So they have to go out and raise money from new people and pay the previous people. And so it just becomes a downward spiral where they’re never going to be able to get out of it. The money’s gone, it’s not coming back, it was never a viable investment to begin with, or something went wrong with it that they didn’t share with investors, and we’re not able to fix, or didn’t take the steps necessary to fix it, and the whole thing starts to go down.

One place where this might happen in, say, a real estate syndicate is it’s very common for people to be able to raise enough money to close on the property, but not all the money they need to do all the things they want to do to the property. But they can raise enough to close on the property and acquire it and then they don’t ever raise the rest of the money. So it’s just a mistake for syndicators to take their foot off the gas after the property is acquired and that often happens. So if you haven’t raised enough money or the person you’ve invested with hasn’t raised enough money to do all the improvements and everything else, they need to meet their projections, then you’ll just have the same property that the last person sold to you.

So it’s still going to be under performing, you’re not going to be able to get those additional units rented, you’re not going to be able to raise the rent, all the things that they said they were going to do are not going to happen because they didn’t raise enough money in the first place. And so it’s not a Ponzi scheme for them to continue raising money as long as they’re offering documents that they can, where it becomes a Ponzi scheme is if maybe they underestimated the amount that they needed to raise and they’re not being honest with their investors about what’s really needed, and so they go out and start getting hard money loans or personal loans or something like that in order to make up any kind of a shortfall. And so they’re not following the documents. So as long as they’re following what the documents allow them to do, then that’s not a red flag. But it’s when they start deviating from what the documents allow them to do in order to make up those shortfalls that the other investors need to be concerned.

 

Kent Ritter:

Got you. So what you are describing, Kim, is or what investors can look out for is the capital expenses budget. Making sure that when you’re evaluating a deal and the sponsors talking about the improvements that they’re going to make and how they’re going to raise rent, you have to make sure that there’s capital allocated to do that. So you want to see an itemized cap X budget that lays out specifically what they’re going to do, both externally and then internally, how much they’re going to put into each unit to realize that additional revenue. Because as Kim said, if that’s not there, then you’re just going to have the same property that the person had before. You’ve got to have the budget to do that.

So I think that is a key mistakes. I think asking for that budget, making sure it’s itemized so that there’s a clear relationship between what’s going to be done and the improvements is really important. That’s one way to look out for it. So that’s going into the deal. What if you’re in the deal and you just have a sense that things for whatever reason that they don’t feel right, how can you identify once you’re already in the Ponzi scheme?

 

Kim Lisa Taylor:

Well, you’re going to start hearing from other investors and your calls perhaps to the syndicator are going to go unanswered. That’s a common thing is that somebody gets into financial trouble, what do they do? They tend to stick their head in the sand and just try not to answer anybody’s calls or disappear. We actually write it to the operating agreements that we have that a manager can be disassociated for not answering phone calls, or going for some period of time without responding to anybody, unless you knew they were going on vacation somewhere, but all of a sudden they just become unresponsive that the members then can get together and can try to get rid of that manager.

So how can you tell if somebody is engaging in a Ponzi scheme? Usually, a very classic Ponzi scheme is they’re trying to fix this investment, buy a new investment. So this was the situation with that guy that I was saying had taken half the money and tried to get the investors to reinvest the money with him in a new deal where he was going to make them whole. That would have been more along the lines of the Ponzi scheme. So how can you tell if somebody engages in Ponzi scheme in certain… Always do a Google search on the names of the people that are involved in management. So usually, when we’re creating a real estate syndicate, we’re going to create a management LLC that’s going to have multiple members. So you want to know who those members are, and you want to search their names. You want to know who’s in control of the deal. And the lender’s doing that, you should be doing that too.

So search for their name on the SEC’s… or on just Google. Also, search to see if they filed their form D with the SEC. The timing of the filing is usually they have to do the filing within 15 days of when your funds become irrevocably, contractually committed. So depending on what their documents say, that could happen as when you send in the documents, or it could happen when they close on the property. But that’s going to be that trigger for when they have to do that form D filing. For our clients, we file those form D’s as soon as we give them their final offering docs so that anybody investor could look them up at any time and see that they’re legitimately filed with the SEC. Read the documents carefully and make sure you understand what you’re getting into. If you don’t understand the waterfall and the fees that they’re getting, if the structure is too complex, shy away, don’t invest in what you don’t understand. It should be simple and straightforward enough that you can understand it without having to hire a lawyer to interpret it for you.

Ask questions of the people that are promoting the deal and listen carefully to their answers and make sure that the answers make sense to you and that they’re consistent with what you’ve read in the document. If you’re investing in a syndicate, you’re going to get somewhere between 120 and 140 pages of legal documents. Understand what those documents are and what they mean that will help you be able to assimilate all that information that you can hire someone like us to look at the documents and just to make sure that they comply with securities laws, make sure you understand what it says and what it means. But honestly, you should be able to do that yourself.

We make sure that we always write our documents in plain English so that our investors and our clients who are the syndicators always know and can easily follow and understand those documents. If you get a set of documents that you have to have an attorney interpret for you, then maybe this isn’t the right kind of investment for you. Ask the members of the management team if they have a problem with you doing background checks on them. They may or may not like that, they may or may not want to do it, but you can always ask them and just listen to their reaction and decide whether you’re comfortable with it.

 

Kent Ritter:

Mm-hmm (affirmative). Yeah, asking… One thing, I’m a huge proponent of I always try to tell people is ask a lot of questions up front and make sure that you’re getting answers that you’re satisfied with. You should never be made to feel stupid, or you don’t know what you’re talking about, or because you’re asking questions. And if people are trying to avoid those, there’s probably something behind that. And it just goes to show the type of manager they’re going to be as you get into the deal and how communication is probably going to be throughout the deal as well. So I think don’t be afraid to ask those questions up front. There are no stupid questions when it comes to investing your own money. And so I think that’s fantastic advice.

And hopefully, the documents are in plain English. I’ve seen plenty that are not, I guess they didn’t hire you. So what I would say is it’s definitely worth the money to have an attorney review them on the front end. You may spend a few hundred dollars to have that happen, but it’s going to be well worth it avoiding a bad deal. So invest that on the front end if you don’t feel comfortable, it would be my advice.

 

Kim Lisa Taylor:

That’s right.

 

Kent Ritter:

Yeah, Kim, this has been so much great information. I hope that today we’re going to help some people avoid some bad deals. I hope that we get people thinking that they need to be conscious of this. And I think as you said, in times of financial distress, you have to be even more vigilant. So I really appreciate you coming on. Before I let you leave, I’d love to get your thoughts, I’ve got a section I do at the end of the show called Keys to Success, just some short answers that I’d love to hear your responses to. The first one is what’s one question that every passive investor should ask the deal sponsor? So if you only had one, what would that be?

 

Kim Lisa Taylor:

What have you done before that’s like this? And their answer either needs to be, “Well, I’ve done this many of these.” So if you’re investing in multifamily, you want to invest with somebody who’s already invested in multifamily. If the person that you’re talking to hasn’t invested in multifamily, it’s okay, they may have teamed with somebody else who has that experience. So just understand the members of the management team and what experience they have doing what you are planning on investing with them. And find out if they have advisors and coaches and just get a feel for their knowledge and whether or not they’re competent to do it.

 

Kent Ritter:

Great. And what are you most proud of in your career?

 

Kim Lisa Taylor:

I’m very proud of the fact that we… One of the things our firm does is help people who have never raised money before learn how to do it successfully and correctly so that they can go on and create a career, helping their investors and also making a decent living for themselves. So I like the fact that we’re able to not just help our clients, but we’re indirectly helping all of their investors and we’re trying to teach people how to do it correctly and right so that they don’t get into these situations of fraud and they’re very transparent with their investors and their investors and they all understand what they’re getting into.

 

Kent Ritter:

And what books should everyone read?

 

Kim Lisa Taylor:

Oh, they should read my book.

 

Kent Ritter:

That’s easy, right?

 

Kim Lisa Taylor:

Well, there actually is a section in there on passive investors and what to look for in a syndicator, or what to look for before you invest in a real estate syndicate. And the reason I wrote the book, it’s 164 pages, it’s not that long of a read. I’ve written in plain English. So it’s just lays out the whole process. So if you’re thinking about investing in real estate syndication, if you need to understand all the things that we’ve talked about today and how they’re structured, then you’ll have the right questions to ask, and you’ll be able to know whether the people you’re investing in are setting it up the right way and what to look for and what things to ask them for.

One of the most important things to ask people is who drafted their offering documents. If they drafted them themselves, you might be a little suspect of that. And the industry standard is to hire a competent securities attorney to draft those for you. We have securities liability insurance, your syndicator who’s drafting their documents themselves does not. And just because they think, “All I have to do is take this boiler plate and fill in some blanks,” it’s not necessarily true, there’s quite a bit that goes into putting these documents together and making sure that the right tax provisions are in the documents. We’ve rescued people that have had the wrong tax revisions before that would have been harmful to their investors, just making sure that the things are set up correctly.

 

Kent Ritter:

Yeah. I think that would be a huge red flag for me if somebody said that they did it themselves.

 

Kim Lisa Taylor:

Yeah. And it should be because they’re saving money at your expense. And in a syndicate, the legal fees are an upfront cost for the syndicator, but they’re part of the setup costs of that company, which are expenses that can be reimbursed from the raise. So the syndicators should be raising enough money to acquire the property, so for the down payment, the closing costs, any pre-closing expenses they incur, including all legal fees, hiring property inspectors, things like that. So they should be able to get reimbursed for all of those expenses. So you want them to hire competent counsel and you should be happy to pay for those fees as part of the cost of doing the business because then you know that it’s done right and that they sought appropriate counsel. They’re probably not breaking the law the way they’re raising the money because we’ve counseled them about that, the documents are going to be written in a way that’s customary in the industry.

 

Kent Ritter:

Yeah. It seems like hiring a competent securities attorney and validate that what they’ve done is a way to validate that, that at least on that first one of raising illegally, that they’re not doing that because they have that person that’s guiding them to do the process correctly. Is that right?

 

Kim Lisa Taylor:

That’s right. Yeah. And if you’re interested in what’s on our website, we have a lot of, lot of educational material for free that’s available on our website at syndicationattorneys.com. We have an entire library full of articles and frequently asked questions, previously recorded teleseminars. We do free monthly teleseminars every single month and we post them all on the website on all different topics related to syndication. So it’s just a really great way to get educated.

 

Kent Ritter:

Yeah. That’s a great resource. I’ll make sure that we get that in the show notes for folks. And then what’s your number one key to success?

 

Kim Lisa Taylor:

Consistency, is just being out there all the time, being in front of people, letting people know what you do. And I guess from the perspective of a syndicator, or somebody who’s raising money, it’s just important for you to be engaging in the promotion of your business as we do for our law firm. If you’re somebody who is looking to invest in deals, you need to network and you need to network at events where experienced real estate investors go. So that would be any of the real estate trainers that are out there that hold these nationwide networking events. I know they’re all on pause right now. But when they do resume, that’s a great place to go and to meet people face-to-face and learn about what they do.

You can go to your local real estate investment association meetings and to local real estate meetups and meet people that are doing this. So it’s best if you can get to know the people you invest in more than just a single meeting and make sure that they understand your investing goals, as well as you understand who they are and their background and just really get familiar with them. You’re going to be in a relationship for the next three to seven years and you want it to be a successful relationship. So spend some time developing that relationship and making sure that you’re comfortable before you move it forward.

 

Kent Ritter:

Yeah, that’s fantastic advice. So you told us about the website, but what’s the name of the book?

 

Kim Lisa Taylor:

How to Legally Raise Private Money. And you can get a free copy of it at our website at syndicationattorneys.com. There’s a tab there that says get the book, or you can buy it on Amazon.

 

Kent Ritter:

Oh, fantastic. It sounds like it’s well worth it, well worth it. I think what we’ve proven today, once again, is that passive investing is anything but passive. If you want to do it the right way, it takes work, it takes commitment. I agree with you, you need to be out networking to find deal sponsors and get to know them before you invest. And you need to do your due diligence going into it, not just on the deal underwriting, but on the legal structure, how they’ve set it up and make sure that they’re following the right steps and the right processes to make sure that the deal doesn’t become a risk at some point. So we’ve got to be educating ourselves as passive investors and making sure that we’re putting the hard work in too. Thank you, Kim, so much for your time. Really appreciate all the value you brought here. It’s been just jam packed with info. So thank you so much again.

 

Kim Lisa Taylor:

Oh, thank you so much, Kent. It’s been a pleasure.

 

Kent Ritter:

Yeah. And everybody listening, I want you to take two minutes and go subscribe to the podcast right in the app right now, because if you do that in may and you send me an email at info@ritteronrealestate.com, you’re going to receive some powerful content. In support of the show, Joe Fairless, Gino Barbaro of Jake & Gino, Dan Handford of passiveinvesting.com, Hunter Thompson of Asym Capital, and John Kasman of Kasman Capital and actually Kim Lisa Taylor here has offered as well to provide some fantastic content to share with you. So they’re each providing a piece of content in support of the show. All you have to do to receive this package is go and subscribe to the podcast in may, and again, send an email to info@ritteronrealestate.com. So don’t miss out. With that, thank you, Kim, so much. And I hope to talk again soon. Bye.

 

Kim Lisa Taylor:

Okay, bye.

 

Kent Ritter:

Thanks for listening to another great episode of Ritter on Real Estate. Hit the “Subscribe” button to make sure you don’t miss out on the content that will make you a better investor. Also, visit kentritter.com for articles, videos, and tools curated just for passive investors. Until next time, this is Kent Ritter with Ritter on Real Estate. Now, go out and invest like a pro.

 

How to Avoid Fraud When Investing in Real Estate, with Kent Ritter

In this interview with Kent Ritter on his podcast, Ritter on Real Estate, guest Kim Lisa Taylor discusses how to identify fraudulent deals and bad sponsors before it’s too late. Among the points covered:

  • The reason people commit fraud
  • The three types of fraud:
    1. Illegally raising money (not following securities laws)
    2. Embezzlement – Partner Fraud
    3. Ponzi Schemes
  • Practical tips on what to look out for before and during your investment
  • What questions you should be asking your sponsors to validate their behavior
  • What to do if you find yourself in a position where you think fraud is happening in your deal

To listen to the podcast, click here

To read the transcript, click here

Syndication and Accredited Investors with Chris Mills

Skyline Views is a podcast for real estate investors, both passive and active, covering various markets around the U.S. as host Chris Mills interviews experts about their respective specialties and strategies.

In this episode, Chris interviews Kim Lisa Taylor about real estate syndication, the two most popular types of Reg D offerings, and how the definition of an Accredited investor may be changing.

To listen to the podcast, click here.

Joint Ventures, Syndications & Raising Money, with Anette Talie

“Real Estate Deal Closers with Anette Talie” is a podcast that focuses on the deals, while interviewing real estate “closers” who share in detail the whole process from finding a deal to closing it as well as strategies and tips to help you do the same.

In this episode, Anette interviews Kim Lisa Taylor, who discusses:

  1. Joint Ventures
  2. Partners
  3. Raising Money
  4. Syndication
  5. Fix & Flips
  6. Securities Law
  7. Accredited Investors
  8. Regulation D
  9. Rules 506b & 506c
  10. Substantive Pre-Existing Relationships

To listen to the audio podcast, click here.

To watch the video version, click here.

 

Transcript: Securities Mistakes Syndicators are Making Today

Securities Mistakes Syndicators are Making Today

Edited transcript from ‘Passive Wealth Strategies for Busy Professionals’ podcast

With Host Taylor Loht interviewing Kim Lisa Taylor, Esq.

April 8, 2020

Listen to the podcast here.

Taylor Loht (host):

What’s going on guys? Thank you for tuning in. This is Passive Wealth Strategies for Busy Professionals. And today our guest is Kim Lisa Taylor from SyndicationAttorneys.com. Today we are discussing a lot of the legal issues that syndicators and syndication investors need to be aware of … the mistakes that they’re making today … and a lot of other very important information that you need to know if you’re going to be in the world of real estate syndication.

For those of you who do not know, I’m your host Taylor Loht. I am a real estate investor, a real estate syndicator, a busy professional and I love talking about investing and learning about investing alongside you with all of these great industry professionals that we bring on the show.

As a general comment, we talk about the state of the market in this episode. This episode was recorded before some of the recent drops in the stock market but I wanted to take the opportunity to make a comment on that. As investors, we need to not panic when the stock market is on its way down or there’s fear in the market. We need to remain level-headed and, like Warren Buffett says, the most important thing is to not lose money. So we need to be looking for good deals and not just panicking when we hear general economic news (that’s less than favorable).

We need to look to do good deals at all times and not just sit out of whatever the market is. We need to remain level-headed. So I wanted to take the opportunity to comment on that. The coronavirus fears, at least at the time that I’m recording this, are real — I understand that. But there are good investments out there and we need to remain level-headed and keep looking for those good deals.

So once again, our guest is Kim Lisa Taylor from SyndicationAttorneys.com. Here we go. Kim, thank you for joining us today.

Kim Lisa Taylor (guest):

Thank you for having me. I’m happy to be your guest today.

Taylor:

It’s great to talk with you. We first met at Ultimate Partnering. You had a table this past year and now we’re catching back up. And since then, you launched a book. What is the name of that book? 

Kim:

I did. It’s “How to Legally Raise Private Money.” Subtitle is “Definitive Guide to Syndication and Raising Money for Real Estate and Small Business.”

Taylor:          

Perfect topic for this podcast. And before we get into the topic of the book, can you tell us about your background so that we and the listeners and know why you’re uniquely qualified to teach us about this?

Kim:

Yeah, so I started practicing law in 2008, exclusively practicing since 2009. So 10 years prior to that, I was a real estate litigator and also an environmental law litigator. And even before that I was an environmental consultant. So just an interesting bit of trivia: I’m licensed as a professional geologist in California.

Taylor:

Cool.

Kim:

Yeah, but I looked into my future. When I was doing that, I was doing a lot of soil and groundwater samples standing behind drill rigs with those steel-toed boots and hard hat. So I looked into my future and said, “Yeah, I don’t think I want to keep doing this forever. And so what can I do different?” I decided to go to law school. Didn’t really know what I wanted to do, what kind of area of practice but having come from an environmental background that was kind of my first stop. I always liked real estate. I started doing some real estate litigation but then I learned that I don’t like litigation. I don’t like fighting. I don’t like going to court and fighting about things. Everybody’s always mad.

And I just thought I really would like to get into more of a transactional type practice. I met a mentor and started working with him. And what I really liked a lot about this area was helping people put deals together and figuring out how to split money with investors and how to structure deals. And at the same time the reason that I met my mentor was because my husband and I were actually learning how to buy multifamily. We went to a RE Mentor real estate training event — I think it was one of their Multifamily Millions events — and then decided, “Well gee, we should really learn how to do this.”

We got into the coaching program and we ended up buying and syndicating our own multifamily property with some friends. And so then I just started doing this area of the law and decided that I really liked it. I started working with a lot of syndicators and had a lot of clients who became returning clients and gaining ever-more success. So I just thought it was a really cool thing and decided to make it my practice.

Taylor:

Cool. You really took it full circle there with the RE Mentor folks and first you started attending and now you’re exhibiting so that’s very important.

Kim:

Yeah, yeah. Well that and I do some training for them, too, in their Private Money Bootcamps.

Taylor:

That’s awesome. That’s great when you can make that happen. So let’s get into the topic: “How to Legally Raise Private Money.” We’re mainly talking about syndications and what people can do. What are the biggest mistakes that people are making today that you’re seeing happen? 

Kim:

Well, when people are first starting out, unless you come from a background where you’ve been dealing with investors in the past — which certainly some people do have that background —  then it can be uncomfortable. So you start looking for the easy way out. We all want to sit in our basements in our pajamas and search the internet and find that perfect investor. But more often than not, that kind of strategy doesn’t work out. You might find some real folks who have a lot of money who say they would be interested, but there’s a whole lot of “ifs” and usually the final “if” comes down right before closing and they often disappear.

So don’t do that. You can raise a whole lot of money from people —  $50,000 or $100,000 at a time — if you take the time to get to know them and talk to them about their investment goals and what you’re doing and find some compatibility and stay in touch. And then when you have deals, you share your deals with them. That’s the best tried-and-true method of finding and keeping investors. 

Taylor:

OK, so I go to a lot of events like Ultimate Partnering and frequently I come home to find myself on a couple of people’s deal list pretty quickly after talking with them for 10 minutes at whatever the event might be and suddenly they consider us to have a substantive pre-existing relationship when they might not really know anything about me and we’ve never had any kind of interaction outside of meeting at this event. Granted, they didn’t hit me up about their investment opportunity at the event, but they didn’t follow up after that. Where do you think that falls? Does that put up any red flags for you?

Kim:

We’re trained to say, “It depends,” right? And so it does. It depends on two things. One, there are the securities exemptions that do allow people to freely advertise their deals. The only people who can invest in those deals are verified accredited investors but they can advertise them to anybody. So they wouldn’t necessarily have to know you and have had a conversation with you before they started advertising those deals to you. However, the flip side of that is: How likely are you to invest with them after a 10-minute conversation and no follow-up? 

Taylor:

Not very. 

Kim:

Yeah. But most people at those events are trying to meet people who they can put into deals that don’t allow advertising. So maybe we should just talk a little bit about what those exemptions are and the differences.

Taylor:

Yeah, absolutely. I’m really pulling that question. I probably should have specified as 506(b) syndications, which cannot be publicly advertised. 

Kim:

Right. So just to give your audience the 30-second primer on when they have to follow securities laws: Basically, if you’re raising money from passive investors, then you’re selling something called an investment contract that applies whenever you’re selling interest in a company. If you’re doing repeated sales of promissory notes to people in order to raise money, those also are securities. So in both those instances, most of the people at the events you’re talking about are going to be selling off interest in a company and raising cash that way. When you’re doing that, you have passive investors, you’re selling securities. When you’re selling securities, you have to follow securities laws.

That means you either have to register your offering by getting pre-approval from regulatory agencies before you can make offers to anybody, or you have to qualify for an exemption from registration. And every exemption has its own set of rules and restrictions. These are self-executing exemptions, meaning that you have to keep track and keep records on how you complied with the rules of the exemption that you’re going to claim.

I mentioned just a minute ago that there was an exemption that would allow you to freely advertise, but you can only sell to verified accredited investors; that’s the regulation D Rule 506(c) exemption.

The one that most people are doing, according to SEC statistics and also from our own client base is regulation D Rule 506(b). And certainly people who are starting out should be looking at the regulation D Rule 506(b). Why? Because that’s the one that allows you to invite your friends and family or people with whom you have substantive pre-existing relationships. You get to invite those people to invest with you.

Rule 506(b) says that you can raise an unlimited amount of money from an unlimited number of accredited investors and up to 35 non-accredited investors; all investors must be sophisticated. So you have to actually ask them about their past investing experience, and you’re not allowed to find them through any means of general advertising or solicitation.

So therein lies the problem with meeting someone for 10 minutes at an event and then having them start email-blasting you. The SEC has defined what that pre-existing substantive relationship means: Pre-existing means that it predates your offering. It predates the time at which your offering was current or contemplated. So certainly by the time you have your securities attorney drafting your offering documents you have a contemplated deal. On the timeline you have your offering documents in your hand, you have a current offering. So if you’re still meeting people when you have a current or contemplated offering you probably shouldn’t be putting them into that deal. You should be meeting them, getting to know them, putting them maybe in a future deal if they’re suitable.

But the substantive part of the relationship was defined by the SEC in 2016 and they said that it’s more about the quality of the relationship than the quantity of time that you’ve known somebody or the fact that you’ve just met them casually at an event and exchanged contact information. The quality of the relationship that they want to see is that you actually know enough about that investor to understand their financial situation and to have asked about some of their previous investing history and their investing goals to determine whether they’re suitable to be in your offering.

You have to be able to prove that by a record-keeping system showing that you not only met that person but you had further conversation with them about their suitability to be in your offering. And then after you’ve had that suitability conversation it would be appropriate for you to start making offers to them, preferably after a little bit of a passage of time. There is a process that you have to go through. If people want to know more about it, we have an article on our website at www.syndicationattorneys.com called “Determining Investor Suitability” that explains the SEC’s rationale and how they arrived at it and what kind of questions you might want to ask some investors and keep some records of those conversations.

Taylor:

What do they consider an acceptable record-keeping? I mean, a lot of people have maybe a CRM that they might be using or some people use Google sheets … that never worked for me. I couldn’t make it work, but are there any examples given of what can work as a record-keeping system?

Kim:

You can use whatever you want. I mean, people for years have used Excel spreadsheets before CRMs became so popular. But there’s a variety of CRMs out there. The good starter one that I used for a long time is Insightly. At that time when I was using it, it was free for two people. So it allows you to keep track of people, keep notes about conversations, keep track of when you send things to them and just to show all the steps you took in developing that relationship.

Taylor:

You touched on something during that last little segment that deals with a question that comes up on Bigger Pockets occasionally. I was on a thread about this very topic just before we got on the call. This is the example from the thread: Buying a $2 million property and I have a handful of investors who would invest $50,000 to $100,000 apiece. So probably I need maybe a total of $500 grand to close this deal. Just to put a number on that, I need to raise $500,000. At what point can I no longer do promissory notes to each of my investors and I don’t have to do a private placement memorandum? That is, where’s the line?

Kim:

I would argue that there is no point; that even doing those promissory notes to your investors is a securities offering. If you want to borrow some money from your parents to go put a down payment on a house, nobody cares, right? The regulators aren’t going to regulate that. But when you start going to your real estate investment association meetings and you’re talking to everybody there about loaning money to you for all these fix-and-flip houses that you’re buying and things like that, you’re selling securities and you really should be following the same securities laws and the same exemptions that you would if you were selling interest in a company.

The determining factor for when promissory notes are not going to work in a deal is if you’re going to be using an institutional loan to buy a property. If you’re buying a loan that’s going to be guaranteed by Fannie Mae, Freddie Mac or most commercial lenders, they’re going to have prohibitions in the loan agreement that says that you will not allow any subordinated debt. And they’re going to be asking you where all the money came from to buy the property and they’re going to want to see the list of investors and their percentage interest. They’re going to review the operating agreement to make sure that they have a bona fide percentage interest in your company.

They will allow that, but they will not allow you to show them a pile of promissory notes and say, “Well, I borrowed it from all these people.” Because now you got seven people standing in line behind them with potential liens against that property, and they won’t allow that. If you’re dealing with single-family residential properties those lenders aren’t as either savvy or picky about it, and so they don’t really seem to enforce it. But if you’re dealing with institutional loans, you’ll never be able to do it. 

Taylor:

Yeah, great. And those seven people are all in line behind the bank and each of the seven … one is behind the other, right? And if each have different lien positions…

Kim:

Well, yeah. Or you could technically issue notes of equal priority and then it becomes a race to the bank to see who gets there first if you stop paying. Or another choice would be to use a fractional note where you have those seven people all buy a piece of a note to equal the whole amount that you need and they each have their requisite percentage interest.

Taylor:

OK, yeah, I didn’t know that. I’m not a note expert.

So I’d like to go back to kind of the question from the top and focus on some of the mistakes that you see people making today in the syndication world. I’m sure that the topic of your book “How to Legally Raise Private Money” is a bit predicated upon the fact that there are obviously people doing it illegally. So what are some of the mistakes you see happening?

Kim:

We talked about the fact that you’re looking for the single investors who usually don’t come through, or if they do come through, then they change the terms on you right at the 11th hour and you don’t want to do the deal anymore. I’ve just seen that happen so many times over the years whenever someone comes to me and says, “I’ve got a single investor who’s going to take on the whole deal.” My advice is keep raising money, because the more money you raise, the less you need that person, and when you get around to the point where you’re saying “Are you going to invest or not?” it doesn’t really matter whether they do.

And don’t counsel somebody as an investor until their money’s in your company’s bank account. Once you have your securities offering documents in hand and you’ve set up your company’s bank account, you can legally start raising money. It’s first come, first served. And so you just tell those people, “As soon as you want to deposit your money then we’ll count you in as an investor” and tell them you’re raising money.

There’s clearly a lot of other mistakes. One of them is waiting too long to hire your securities attorney. We get a lot of people who are reluctant to hire an attorney and to begin to incur fees until they’re 100% certain that they’re going forward with the property. So they’ll wait until they’re completely done with their due diligence, but that leaves them with maybe too short of closing time. That’s another mistake that they make.

You want to make sure that you have enough time for your securities attorneys to draft your documents and so you usually want to do that during the due diligence process; the process can take several weeks.

I always say hire us when you have a property under contract. You’ve got to have a signed purchase and sale agreement and you or someone from your team has physically been to the site and driven through the neighborhood surrounding it and said, “Yeah, OK, we could buy this.” And you’ve reviewed the financials. So I say contact us when you’ve got the signed purchase and sale agreement. Pull the trigger and get us going as soon as you’ve done those three things because those are the three things that are most likely to kill the deal. Most other things that you might find during your inspection of the property and things like that or maybe your lease audits are going to be things that you can use to negotiate the price but not necessarily going to kill the deal.

So that it’s always a balance between getting us going and waiting too long. But waiting too long to start raising the money will kill your deal because your investors will feel rushed. I’ve recently known of people who have not been able to close on deals because they weren’t able to raise the money within the necessary time frame. 

Taylor:

Wow. 

Kim:

Yeah. And then the other big mistake is not taking time to get to know investors and to develop those relationships. You really have to do that. You’ve got to do the legwork. There are no shortcuts. The only shortcut is maybe bringing in some rock star that’s got experience raising money onto your team and delegating the duties amongst your management team. So some of the people are doing due diligence, some people are finding deals, some people are talking to investors. That might work to try to accelerate your money-raising process but there’s no substitute for developing healthy face-to-face investor relationships.

So I always say find investors locally but find your properties where they make sense. And it may not be in your local market. If you live in Southern California or New York City you may not be able to find a deal that’s going to make sense right now, but you got to just figure out where you can meet investors locally and start showing up at those places again and again, taking the time to have some conversations. Have that difficult suitability conversation early on and just tell people, “I’ve got to ask these questions before I can invite you into my deals.”

Taylor:

Nice. At least in those markets — Southern California, New York City, some of the higher-end markets — you should definitely be able to forge those relationships over time that you can get the money piece and then in other areas you should be looking for the properties. I don’t know how people are doing it in investing in those areas. It seems like it’s probably not super-profitable. 

Kim:

Well, you’ve got a lot of foreign money that comes in and they don’t care so much about the return; they want the investment, maybe to get a green card or get their kid a green card or they just want to get it out of their country.

Taylor:

Yeah, and we can get a much better return in other markets. So it absolutely makes sense.

Now, you’ve been practicing syndication law throughout this current market cycle that we’ve had, and things have changed over the last few years. I’m curious how things have changed from your perspective, not necessarily based on the SEC putting out opinions but at least from observing your clients in the changes that they’ve had to make to raise money at least in an execution sense. What are your thoughts there?

Kim:

I think there’s absolutely been some changes in the market. The people who jumped in and bought right after the last market correction have done really, really well. Some of our clients have doubled and tripled their money on certain properties. They’ve done extremely well. They bought when the prices took the downturn when they lost value. And so what happened during that time is that Fannie Mae and Freddie Mac never stopped lending money on multifamily. And so there might have been some other asset classes that slowed down a little bit more than the multifamily, but the multifamily kept going. And as long as people were able to get loans they were getting lower loan-to-value loans, so they were maybe getting 65%, 70% loans for a little while and then it started to creep up again to the 75% and 80% loans that you’re seeing again today.

But now there is starting to be a tightening up of the market again. So it’s harder right now for people to find good deals. I see more deals falling out and I see less deals happening than were happening in 2009, 2010, 2011. But as far as for our business, it was good because we had people who kept buying deals, people kept raising money. 

Taylor:

Interesting. OK, here’s another topic I wanted to touch on with you because I feel like this isn’t brought up too often and I’m not sure people really understand it: Conditioning the market for syndicators and what that really means for people who are out there generating content or kind of putting the word out there. There is, it seems to me, a pretty … I don’t want to say fine line, but there’s some spectrum in there between talking about your business in a compliance sense and then blowing your exemption by conditioning the market. So can you define that for us? And then help me understand that a little bit better.

Kim:  

I like to speak from more the practical terms. And so I think you do have to do some conditioning of your market to explain to people what kind of a market we’re in right now.

One of the ways that you can meet people for 506(b) offerings and get to know them well enough that you can invite them into your future deals is by holding generic educational events. I think it would be completely appropriate to hold a generic educational event that talks about how preferred returns have changed over time, where maybe a few years ago people were offering 9% to 10% preferred returns on certain deals and now it’s contracting a little bit. I’m seeing some people who are doing 5% or 6% in the early years and going up to 7% or 8% in later years of a deal.

So I think it is important to train your investors that the markets change. There were times when people were projecting overall annual returns in the 20% range and they were getting them on certain properties. Now we’re not in that market. We’re in the mid-teens but if you compare and contrast that to what you might earn on stock market investment, it’s still a good investment. So you just have to tell people those days aren’t here anymore although they may come back, but if you still want to do deals and you still want to get a good return it’s still a good time to invest. We just have to wait for the really great deals to come back again. They’re not out there right now. Not in the multifamily space. There are some other spaces I think are maybe performing a little bit better. And they’re maybe under-marketed. Maybe “under-saturated” is the right word to say.

In the multifamily space right now I think that there’s a lot of saturation in the market. There’s a lot of trainers teaching people how to buy multifamily and they’re flooding the market. And in some ways maybe just by having that many people out there looking, they’re driving the prices up in addition to the fact that prices are just generally going up because that’s the part of the market cycle we’re in right now. If there’s a correction, those who poise themselves now and do a few deals now and get some experience so that when there is a correction that they can hit the ground running will be well poised to take advantage of any corrections in the near future. 

Taylor:

Yeah, it’s hard to say. I mean, how much is our current state of the market due to kind of a … I don’t want to say irrational exuberance because I’m still an investor myself … but an exuberance about where the economy is versus just the fact that the economy as we talk right now is pretty good —  though it might change by the time this is published. People are still working, things are still headed up and the Fed is again, as we talk, they’ve recently cut rates a little bit. So there could be signs of some negative things on the horizon, but it doesn’t look like we’re at the door of the next 2008-style Great Recession. 

Kim:

Well, and I think a lot of that hinges on what happens in the next presidential election. And that one way or another it will change things. So I think everybody has to be prepared because we don’t know and we can’t predict.

Taylor:

Yeah, that’s definitely true. I don’t want to touch that with a 10-foot pole but…

Kim:

I know ,and I don’t want to get into philosophical discussion about that, either. But it’s just a reality of the world we’re in right now that it will have an impact one way or another.

Taylor:

Yeah, yeah. Absolutely. Are there any other important lessons that we should get to before we move on to the second part of the show? I mean it’s hard to get time with well-qualified attorneys. We’ve got you right now and I definitely want to just ask you, what’s on your mind? And what do you want to get out there for Volume Two of “How to Legally Raise Private Money”? 

Kim:

Yeah, Volume Two is how to develop relationships with investors. That is the least understood skill of all of the syndicators that I’ve met. I think that the trainers that are out there are doing a really great job of teaching people the mechanics of finding deals and doing and analyzing deals and getting them to the closing table, but the elusive part is how do I get those ambassadors so they’re ready when I need them? And the only way you do that is to dedicate yourself to meeting as many people as you can and developing relationships with those people. And if you’re not the kind of person that wants to do that, then you have to team with somebody who is. So creating a team of people that have the right skill sets and realizing that this is a bifurcated business.

One part of the business is finding and getting the deals and overseeing the deals. The other part of the business is finding and developing relationships and dealing with your investors. And once you master that and create the marketing systems that are necessary to sustain those relationships, those are the people that that really do well for the long term. But those that don’t take the time or create the databases and figure out a way to keep in contact with people through newsletters and drip systems and all of that stuff, those people are left behind because they get to a point where they don’t have enough investors. And then they start making kind of dumb decisions.

Some of the decisions that I hear a lot of people talking about, “Oh, well, I’ll just bring in these capital raisers.” But when you start bringing in people whose job is to raise money for you, then you start treading in some very dangerous waters from a security perspective. Because it’s illegal to pay finders who are outside of your company to raise money for you unless they have a securities license. And it endangers not just them because they’re technically acting as an unlicensed broker, but it also endangers the syndicator who pays them because they’re in danger of losing their exemption for paying unlicensed brokers. And in both cases the penalties can be dire. There can be huge fines, there can be litigation, there can be investor lawsuits, there can be forced rescission where you’re forced to give everybody’s money back, you could be banned from ever raising money again. So then whatever job you had before, you’ll have to dust it off and go back into it whether you like it or not because you still got to make a living and you can’t do this anymore.

So it’s not worth taking a chance; read the book. We actually created a spin-off division from our law firm that called InvestorMarketingMaterials.com that creates investor marketing materials so that these syndicators and people who are wanting to get in this business or people who’ve been in the business and just need to step up their game have professionally edited and designed marketing materials to hand to their investors when they meet them face-to-face so that they can compete with some of the bigger private equity funds and hedge funds and the other people who are out there with big marketing budgets. 

Taylor:

So have you seen or is there anything on the horizon with regard to the SEC taking action on this? I mean one example right now in my market of Richmond, Virginia, is a gentleman being taken to court by the SEC for allegedly committing fraud, which is very different from an unregistered broker-dealer type of situation. But the point of that statement is that the SEC is out there taking action and acting on investor complaints. I know you don’t have a crystal ball, but are they looking at this right now? What do you see? 

Kim:

Well, it’s interesting because it seems like every year the SEC determines kind of toward the beginning of the year what’s going to be their focus for the year. A few years ago it was insider trading, and so they pick what’s going to be their passion for the year and then they start to really dig into it. And I haven’t seen them pick this as their target yet. I don’t know that they will in the near future, but it’s always a possibility. But it’s not just the SEC that you have to worry about. The SEC usually goes after the big fish, the people that really steal a lot of money. Just watch “American Greed,” right? It seems like they only get to go after people that raise or that steal $50 million or more or some crazy number.

But who goes after the little guys are the state securities regulators. Every single state has its own securities agency, and they will go after people for small stuff. I’ve seen them send letters to people like, “Hey, you borrowed money from two people in our state; tell us what exemption you used to do that and show us all paperwork that shows you have the right to do that. We don’t have any record of you filing in our state.” So along with having the right securities offering documents you also have to do filing. So be careful if there’s any do-it-yourselfers out there or people who think, “I’ll just grab somebody else’s documents and change them for my deal.” That’s a minefield.

There are securities notice filings. They have very strict deadlines. You have to file notices with the SEC and then also in the states where your investors claim residency and you have 15 days from when their funds become irrevocably committed to do that. And if you don’t, then they can say, “Hey, well, you didn’t follow our rules which required you to file this notice with us within 15 days so therefore you don’t get the exemption in our state and now we’re going to do an enforcement action.”

Taylor:

Wow. What is considered to be funds being irrevocably committed? Is that closing on the property? 

Kim:

Well, it depends on what is said in the offering documents. This is from the SEC; they said it. If the offering documents are silent on the issue, then the SEC is going to take the most conservative approach and they’re going to say it is when you receive the funds. But not if it’s written in your documents that the funds aren’t considered irrevocably committed until you close on the property. Because up until that point if somebody said, “We need our money back; something’s happened,” then you’d give it back and you’d find another investor. And as long as that’s the case, those funds are not irrevocably committed until you close on the deal. But certainly the point at which you’ve used them and if somebody came to you and said, “I really need to get out. Can you help me?” And you had to say, “I’m sorry, the money’s invested in the deal,” it certainly has happened at that point. 

Taylor:

Wow. So that’s definitely good to know. Obviously it makes sense about when people would say, “Oh, I need to get my money back.” When you could say in the documentation your funds are committed the day we get them or the date a property is closed or something else like that. It makes sense obviously, if somebody says “I need my money back” then you have that on the paper and can say, “Sorry, no, this is what you agreed to; we can’t do it.” I didn’t know that on the securities regulation. And so that’s definitely good to know. This is why we hire securities attorneys. Actually, we don’t need to know all those things. 

Kim:

But we’re not sitting next to you in your office. So we don’t often know what happens. So we’re trying to beat it out of people to have them send us their list of investors after closing and saying “Look, we’ve got to get these things filed or you’re going to lose the exemption and all the money you paid us and all the things that you’ve done to comply with the laws is going to be for naught. And the Rule 506 exemption is considered a safe harbor; you don’t necessarily have to file the notice with the SEC to be able to claim the exemption but it just becomes a bigger burden because it’s like well, you didn’t do this; what else did you do?”

So now you’ve got an uphill battle. Whereas if you did it in the first place and you complied with the law, then you’d have an easier time convincing them that you complied as well as you could in all respects. And again, here’s what the states want: They want the notice but they also have fees associated with their filings. They want the fees. So their rules say, “Hey, we’ll allow the Rule 506 exemption in our state as long as you comply with all rules of the 506 exemption and you file a notice in our state whenever you sell securities to investors in our state and you do it within our timeframe.” And they’ve made it fairly easy to do it. Some states still require paper filings and the check be sent, but a few most of them have gone to an electronic system where it’s all in one place.

We just go and we check the box of what the states are and they tell us what the fees are and then we are able to just file the notices. But the other thing is realizing that you can’t raise money forever. Your offering usually has some stop deadlines, right? It’s usually going to be written in, and the SEC is going to require that if you’re going to keep raising money for more than one year that you have to do an amended filing and let them know, and it has to be filed before the anniversary of your offering. And that anniversary is going to start … usually it’s going to be the date on the front cover of your private placement memorandum. 

Taylor:

Just taking a note on that. That’s definitely good to know for some specific reasons that are in my head. So great. Alright, so I’ve got three questions we ask every guest on the show. Are you ready? 

Kim:

Yes. 

Taylor:

All right. First one, what is the best investment you ever made? 

Kim:

Certainly I think the RE Mentor training that I got paved the way for me to come into this area of the law. So I would say that that was a really good investment for me.

Taylor:

On the other side of that what is the worst investment you ever made? 

Kim:

I bought a rental house in Cleveland with the idea that my stepdaughter was going to manage it as a vacation rental. 

Taylor:

Do you still have it? Did that not pan out? 

Kim:

It’s actually in escrow right now and it’s supposed to close in December. The reason that we actually even bought the house was because we had a property in Ohio that we needed to refinance and no lenders would talk to us. It was in Columbus. And so we bought this property just kind of as a fluke. And then all of a sudden all these lenders are like, “Oh, you have a property in Ohio. Well, we’ll give you a loan.” So we were able to get our other property refinanced because we owned a different house. We had to buy a house to get our property refinanced. That’s the true story. 

Taylor:

Sometimes the hoops you have to jump through can be onerous or silly. 

Kim:

Who knew? Yeah, but it did cost me dearly over the years. I’ve shed blood, sweat and tears trust me. 

Taylor:

Well by the time this goes live you will have sold that property. So if you come back and listen to this congratulations you’re out of it. 

Kim:

We also sold the other property in Ohio too and that was pretty good to get rid of so yeah, that was an interesting lesson. We learned a lot of lessons about investing in Ohio but we happened to buy that property in 2008 so the timing was really bad. And we kept it for years and years and it did OK. At times it required some funds from us that we were always like, “Oh, I don’t want to do that again.” But we did and eventually we sold it and we made some money and we paid off our investors and they made some money. So everybody was happy. But yeah, my husband was the one who managed that for nine years and it was an ordeal. 

Taylor:

Wow. And you had investors in the deal too, so that makes the ride even rougher because if you’re having a hard time — I hate to put it this way but — if you’re losing your own money it’s one thing. If you’re losing somebody else’s money it’s way worse. 

Kim:

Yeah, well and these were really great friends. And they were wonderful and patient. So it all worked out and we learned some important lessons about that property as well. 

Taylor:

Well, that’s good. That leads to my favorite question, the last one: What is the most important lesson that you’ve learned in business and investing? 

Kim:

Perseverance. You really need to spend a lot of time learning and continuing to get out there to meet as many people as you can. Every time I meet somebody new I learn something new from them. Every time I read a new book I learn something new. And all of these things help just invigorate you, keep you interested and keep you moving forward and I think all of that’s very important. But I would say also having a coach. Having a coach in different aspects of your life. I have a law firm coach. It’s been very important.

Taylor:

Nice. I found that with the most successful people I know. One, they read a lot and two, they tend to have a lot of coaches. Not all of them, but most of them have a few coaches.

Well, thank you for joining us today and all the lessons. Where can people get in touch with you, learn more, pick up a copy of the book all that stuff? 

Kim:

Oh, gosh. Our website at SyndicationAttorneys.com has a library that is chock full of all kinds of articles, frequently asked questions, recorded teleseminars. We do a free monthly teleseminar. There’s a lot of information there. There’s also a way to get a free copy of the book. If you want a free digital copy of the book you can get that at SyndicationAttorneys.com. Click on the link for the online store and that’s going to take you to InvestorMarketingMaterials.com.

If you don’t have a deal right now this is when you should start working on your investor marketing materials and developing your investor relationships. And we even have a very low-cost program where you can become a client and we can start coaching you on developing those investor relationships through our Facebook Live group. So we’ve got a lot of opportunities. Most of it you can find through our website, SyndicationAttorneys.com, and you can make an appointment with us there, too. 

Taylor:

Cool, that’s a lot. There’s going to be a lot of links in the show notes. So a lot of great options there. Thanks again for all the lessons today and taking some time with us. It’s evening time that we’re recording this. So thanks for burning the midnight oil with me. 

Kim:

All right. Thank you Taylor. It was my pleasure. 

Taylor:

Happy to talk with you again. To everybody out there, thank you for tuning in. If you’re enjoying the show please leave us a rating and review on iTunes; it’s a very big help. If you know anyone that could use a little bit more passive wealth in their lives if they want to learn more about real estate syndication, please share the show with them and then bring them into the fold. Once again, thank you for tuning in. I hope you have a great rest of your day and a great week and we will talk to you on the next episode. Bye bye. 

Kim:

Bye.

Securities Mistakes Syndicators are Making Today with Taylor Loht

In this guest appearance on the Passive Wealth Strategies for Busy Professionals podcast, Kim Lisa Taylor shares her insight concerning the mistakes that most syndicators are making – or are prone to making — today and the steps they should be taking to raise private money legally. Among the points covered:

  • Establishing a substantive relationship with potential investors before pitching a deal
  • When you can, and cannot, advertise your deal
  • Determining investor suitability
  • The best way to do your own recordkeeping
  • Dealing with foreign investors
  • Effectively marketing your deals
  • And more.

To listen to the entire podcast, click here.

To read the podcast transcript, click here.

Raising Money, Social Media and the SEC with Vinney Chopra and his co-host Alicia Williams

In this guest appearance with Vinney Chopra and his co-host Alicia Williams on Vinney’s “Syndication Made Easy” podcast, Kim Lisa Taylor discusses “Raising Money, Social Media and the SEC.”

Kim and Vinney, a multifamily syndicator, author and motivational speaker, have worked together on 26 syndications as of December 2019. In this podcast, Kim gives the do’s and don’ts of compliance with Securities and Exchange Commission rules for syndicators, along with valuable information on many other topics, including:

  • How to market to different types of investors
  • The difference between Rules 501(b) and 501(c)
  • How to keep your business and investors protected
  • The top mistakes made by new syndicators
  • How to raise money for your syndications
  • Why transparency is key
  • Effectively marketing for investors on social media

To listen to the entire podcast, click here.

How to Legally Raise Private Money with MC Laubscher

In this episode of the podcast “Cashflow Ninja,” host MC Laubscher interviews Kim Lisa Taylor about “How to Legally Raise Private Money,” which also is the subject of Kim’s best-selling book on Amazon.

As Laubscher notes, this is an essential topic for anyone involved in syndication. Among the many points covered in their conversation:

  • How you can earn money as a syndicator.
  • How to split money with investors.
  • How to legally market your securities offering to prospective investors.
  • How and when to crowdfund an investment opportunity.
  • How to deal with foreign investors.
  • How to position your company to attract investors.
  • And more.

To listen to the entire podcast, click here.

For information on ordering Kim’s book, click here.

7 Rules for Real Estate Investing with Nick Raithel

Raising money for real estate deals, or just considering it? Either way, this episode of “7 Rules For Real Estate Investing,” hosted by Nick Raithel, is for you. Nick’s guest, Kim Lisa Taylor of Syndication Attorneys PLLC, gives an in-depth look at real estate syndications. Having done over 300 syndications, Kim can safely be called an expert. And she’ll help you to become more of an expert in this episode. Here are just a few of Kim’s insights:

On keeping investment summaries concise  — “Any time you get over 15 pages of text, you begin to repeat yourself and you’re going to lose the interest of your investors…It’s also being disrespectful of their time. Because they’re going to look at your investment summary for somewhere between 15 and 30 minutes, and if they don’t have the gist of it by then, they’re just going to put it down, try to get back to it later, and probably never will.”

On the perils of chasing whale investors —  “They will string you along, and tell you they’re coming onboard…but you need to take that with a grain of salt until they show you the money. Because they are notorious for disappearing right before the deal is ready to close, and saying, ‘Oh geez, something came up and I can’t do it after all’, leaving you holding the bag and all the money that you’ve spent to get the deal as far as you have is lost.”

On the importance of education — “If you’re just starting out, get educated first. You don’t want to make hundred-thousand-dollar mistakes with other people’s money. If you do, you’re not going to be long for this business. So spend time getting your education.”

Click here to listen to the podcast.

What It Takes To Become A Successful Syndicator with Bill Manassero

In a second appearance on the Old Dawg’s REI Network Podcast, Kim and host Bill Manassero explore some of the more important details involved in becoming a successful syndicator. From her experience both as a leading syndication securities attorney and as a real estate investor herself, Kim shares practical, easy-to-understand tips on how you can both learn and become successful as a real estate syndicator.

Click here to listen to the podcast.

You can access the complete transcript by clicking here.

For Show Notes from the Old Dawg himself, click here.