Frequently Asked Questions

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How Can You Set Yourself Up for Success In Syndication?

The best way to set yourself up for success in syndication is to have a ready source of potential investors so that when you have a deal, you have investors to call.

You do this by developing a marketing program that includes live networking to meet and create a list of potential investors, following up after the event to get to know them, and then periodically keeping in touch with them to let them know what you are doing. The follow-up can be in person, on the phone, or via an email drip system.

You can establish credibility by having a company, a business card, a compelling company name and title, a professionally designed corporate brochure and website.

Once you decide to be a syndicator, you are no longer just a real estate investor; you are also in the marketing business.

Where Do You Meet Syndicators Who Do 506(b) Offerings that Allow Sophisticated Investors in Their Deals?

The best place to meet them is at educational events that attract a lot of people and network with the people there who are doing deals — such as REMentor events (I do teaching for them, I must confess). The other people in the room may be Sophisticated simply by virtue of having been trained by the people who are hosting the event. People on crowdfunding platforms can only accept Accredited Investors, so that’s probably not the best place to look if you are wanting to meet sponsors who can accept non-accredited investors. Crowdfunding events are really geared toward sponsors and services related to crowdfunded (Rule 506(c) or Regulation A+ offerings), so they are likely not the best place to meet 506(b) sponsors either. Or you can ask Securities Attorneys for referrals to their clients who are doing such deals. Most of my clients do Regulation D, Rule 506(b) Offerings until they run out of Sophisticated Investors. By then, they have typically generated a sufficient track record that they can successfully crowdfund an advertised offering under Regulation D, Rule 506(c).

Is There a General Format or Template for Soliciting Investors?

The following is a blueprint for soliciting investors for a Rule 506(b) offering, but it will increase your fund-raising effectiveness if you use it for all securities offerings.

  1. Document the Relationship.The SEC says you need to have a pre-existing relationship with an investor prior to making an offer (not a sale).
  2. The relationship is three-part and depends more on qualitythan timing. Think of this like dating; it’s more about the quality of the contact, and not how many times you have seen or talked to someone that determines whether that individual is a long-term prospect. 
    • a) Pre-Qualification.The relationship begins after you have met someone and know the person well enough to determine whether he or she is accredited or sophisticated, as required for a Rule 506(b) offering. You can use the pre-qualification questionnaire that the person fills out, your notes from an interview with him or her [you fill out the pre-qual questionnaire], the individual’s financials, or other information that makes him or her obviously qualified (e.g., the potential investor is the president of Ford Motor Company, runs an investment club, has owned self-storage or other investment real estate [aside from a personal home] etc.).
    • b) Determine Suitability.The initial meeting must be followed by contact (preferably a phone call or face-to-face meeting) from you to determine the person’s suitability to invest in the type of things you may have to offer in the future (this is not a place to pitch what you have available today). This conversation should be 70% about the potential investor and 30% about your company and what it does in general (see example dialogue below). It is possible to combine steps a and b.
    • c) Passage of Time.Finally, there must also be a passage of time between when you first met and when you make the investment offeduring which the relationship ripens. It would be ridiculous to meet someone in a bar, have a follow-up phone call three days later, wait 30 days and ask that person to get married, right? Something else has to happen in between to further the relationship. So put that person’s contact information in your investor database after the suitability call, send out a newsletter or “welcome email,” get the investor on a drip system so he or she gets information about the self-storage industry (as an example), invite him or her to a webinar or self-storage educational event, or wait a week or two and invite the person to the password-protected area of your website, etc. The idea is to do something to nurture the relationship that furthers the other person’s knowledge about who you are and why he or she might want to invest with you, before you start making offers.
  3. Make Offers.Your Investment Summary is an investment offer. Only after some passage of time during which the relationship ripens can you make offers (1 to 3 weeks or more would be ideal with several documented contacts). CAVEAT: DO NOT SEND OFFERS VIA EMAIL BLASTS, EVEN IF YOU HAVE ESTABLISHED RELATIONSHIPS WITH ALL RECIPIENTS. THE SEC CONSIDERS EMAIL BLASTS TO BE GENERAL SOLICITATION.
  4. Technically, for a Rule 506(b) Offering, you should not make offers to people you met after your offering was contemplated or active. Your offering is active when you have documents in hand and are actively raising money. This rule can be relaxed if you take time to go through the steps in Number 2 above and document every contact for every investor. Ideally, you should develop a written policy on how you will do this that everyone raising money in your group follows. Additionally, you should consider a Customer Relations Management (CRM) software system such as Insightly (cheapest), Constant Contact, Salesforce, Filemaker Pro, etc., to keep track of investor contact information and contacts with your company.

Here are some example questions/dialogue for your Suitability Conference (No. 2 above): About Them:

  • Have you invested in real estate before? 
  • Have you invested in a small group before? 
  • Do you know anything about the self-storage industry?
  • What is your investment experience? 
  • What kind of returns are you getting on your investments now? 
  • How long would you be comfortable having your funds invested? 
  • Have you ever had a bad experience with an investment? What went wrong?
  • Do you have a self-directed IRA? 
  • How much are you looking to invest? 
  • How soon would you be interested in making an investment? 
  • Etc…

About You:  “We are a small investment company that pools funds from private investors to buy real estate [INSERT TYPE]. We buy properties at a discount through our network of nationwide brokers and industry contacts and then turn them around with capital improvements and a professional (or affiliated) property management team. Once we get the properties stabilized, we refinance them to cash out our investors, usually within three to five years. We typically offer annualized returns of 12% to 15%, depending on the amount invested. Our minimum investment requirement is $25,000. Does this sound interesting to you?” If yes, then, “Great, with your permission I will put you in our investor database so we can let you know when we have an opportunity that meets your criteria.” (You get the gist – you probably need to memorize and practice something like this).  When you are ready to make the offer, you would send an individual email that would say something like: “Dear Investor, you may recall our conversation about investing in self-storage facilities. We currently have an opportunity for an investor in our private placement offering that meets your criteria. Please see the Investment Highlights below. If you would like more information, please click on the link to see the entire offering package.”  You could attach your Investment Summary, or provide a link to the entire offering package. Call the investor to follow up and talk to him or her about the opportunity. Live contact is always the most effective. Remember, people invest in you, not in your offering.

Can I Just Borrow Money From My Family And Friends Without Having To Comply With Securities Laws?

Be sure you consider the securities implications of obtaining money from family and friends for your syndication deals. Promissory notes are “securities” and so are selling interests in a company to passive investors. Those are called “investment contracts,” which are also securities. If you are selling securities, you must either “register” the securities with a regulatory agency (SEC or state securities regulators) or qualify for an exemption from registration. Each exemption has a specific set of rules. Unfortunately, there isn’t any such thing as a “less than five-person” rule or a “do-nothing” rule. Further, you can’t typically just use a Limited Partnership Agreement or LLC Agreement with passive investors, without further providing disclosures, securities notice filings, and making sure your investors have the appropriate financial qualifications before accepting their funds. For each exemption, the burden is on you to establish a record-keeping system to prove how you complied with the rules (just like claiming a tax deduction). To do that, you have to understand the rules of the exemption you are following. Depending on what state you live in, there may well be a state securities exemption that will allow you to issue promissory notes to investors in limited circumstances, but it behooves you to figure out the rules before you do it. Because if you do it wrong, there can be dire consequences if the deal fails or someone wants his or her money back early.

What is the Difference Between Rules 506(b) and 506(c)?

Often, in social forum discussions concerning offerings under Rules 506(b) and 506(c) you only find good partial explanations. Here are the complete rules: 506(b) allows you to raise an unlimited amount of money from an unlimited number of Accredited Investors and up to 35 Sophisticated Investors. Investors can self-certify by attesting that they meet the definitions. However, you cannot use any means of general advertising or solicitation to promote the offering. To prove this, you must be able to demonstrate that you have a substantive, pre-existing relationship with every investor before you make any of them an offer to invest. The pre-existing relationship has been further defined as knowing whether the investor is Sophisticated or Accredited before you make the offer. That means you must have already had a conversation about the investor’s finances and his or her business, finance, or investing experience to know if that person is Sophisticated or meets the qualifications as an Accredited Investor (for individuals: $1 million net worth or $200,000 income if single; $300,000 income if married). 506(c) allows you to raise an unlimited amount of money from an unlimited number of verified Accredited Investors. You can freely advertise your offering to everyone (including on a crowdfunding platform), but you must be reasonably assured that all investors are Accredited before accepting their funds. The SEC has suggested that someone with a license (CPA, Registered Investment Advisor, Attorney, Broker-Dealer, etc.) or you can review the investor’s financial records (within 90 days of the investment) to determine if that person is Accredited and provide you with a certification letter. The investor must provide further assurance that he or she is accredited, which is usually done through a Subscription Agreement where the individual certifies that he or she meets the definition of an Accredited Investor.

What Should be Included on a Business Card You Use for a Real Estate Investment Company?

If your company is an LLC, your cards need to say “LLC” after the company name, either in the logo or elsewhere on the card.  

Also, you should consider using a title that invites conversation, such as “Acquisition Manager” or “Acquisition Director” – or “Investment Manager” or “Investor Relations Director.”

Don’t use “Managing Partner” as your title. There are technically no partners in an LLC; there are only Managers, Members or Managing Members, none of which invites conversation.

Additionally, you should consider saying something on your card that describes what you do, such as “Commercial Property Acquisitions and Investments.”

What are the Rules Regarding 506(b) Solicitation and Mass Communication?

A reader writes:

“I am a member of a group of several hundred people who are interested in investing in commercial real estate. Many of them are not Accredited so I want to do a Regulation D, Rule 506(b) Offering. Can I email my deal to the group or invite them to attend a webinar where we discuss the deal as a means of finding potential investors?”

If you want to use mass communications for your offerings, you need to do rule 506(c) Offerings that allow advertising and general solicitation, but then you will be restricted to only having verified, Accredited investors. The Rule 506(c) exemption was designed for internet communications. Rule 506(b) — the original Rule 506 — has been around since before the internet existed. The Rule 506(b) exemption is reserved for one-on-one, word-of-mouth offerings to people the issuer already knows and not for mass communication to people they don’t know.

Here are the rules for soliciting for a Regulation D, Rule 506(b) Offering, as I see them:

1) You must have a substantive, pre-existing relationship before you make offers.

2) The pre-existing relationship is defined as already knowing an investor’s financial qualifications before making an offer.

3) You can’t create new relationships and invite them to invest in a current or contemplated offering.

4) A Letter of Intent would not be current or contemplated, and a purchase agreement might still not be. But the offering is surely current or contemplated at the time you hire securities counsel to draft your offering documents and have completed substantive due diligence.

5)  You shouldn’t email-blast offering documents or details to groups of investors if you have a Rule 506(b) exemption. The SEC has stated that email blasts to several hundred people, even if you have a pre-existing relationship, is a general solicitation.

6) The safest (and most effective) way to solicit investors is to communicate individually with each potential investor, starting with a phone call to the prospect who meets the requirements of steps 1 and 2 above, followed by an email with the offering documents, and then a subsequent followup by phone to see if they have questions.

Can I Include in My Syndication an Investor Who Wants to do a 1031 Exchange?

No, an investor who wants to do a 1031 exchange cannot take partial ownership interests in a company that takes title to real estate (the typical syndicate structure). Such interests are considered partnership interests by the IRS and are specifically ineligible for 1031 exchange.

The 1031 investor would have to take direct title to his or her proportionate share of the real estate. Your syndicate could own the rest. Unfortunately for syndicators, profits get split amongst the TIC owners at the property level, so you can’t earn any distributions from the portion of the property owned by the other party, except perhaps an asset management fee. Additionally, you would have higher legal fees, as this structure would require all of the usual syndication documents plus a tenant-in-common agreement and an asset management agreement.

Unless the 1031 investor is bringing a substantial amount of money (e.g., 50%) that you don’t think you can raise from other passive investors, it’s not really worth it for you to coordinate the exchange, as you could be giving up a substantial portion of your earnings.

How Do I Structure a Small Multifamily Deal With Investors

From a securities legal standpoint, you could do a joint venture (JV) or member-managed LLC, where the investors are actively involved and stay in control of their own money, if you don’t want to have to comply with securities laws. The mistake most people make is that they call something a JV but then treat it like a passive investment. It’s not what you say, it’s what you do that will determine whether you have sold securities.

To ensure that everyone stays active, they need more than just a voting right. You can either give them a title and a job, or simply don’t take control of their money (i.e., you could ask them to contribute money when you need it and they write a check).

The downside is that if you want to do bigger deals that you will syndicate down the road, the JV structure will hold you back and it won’t necessarily count toward your syndication track record, which will become important for subsequent deals. If you plan to stay with small deals with just a few high-net-worth investors in each deal, it can work for you.

A loan from a private lender is fine unless you have an institutional loan in first position that won’t allow subordinate debt. But notes are securities, too. If you do an isolated transaction with an accredited investor, you may not need to do anything else, but if you are pooling funds from non-accredited investors, or your business starts to depend on repeated borrowing from private investors, you are in the business of selling notes as securities and you still need to comply with securities laws.

If your concern is regarding the costs of syndication, you can keep them low by only using a small number of accredited investors, as a PPM won’t be required (although it is still advised) if everyone is accredited.

Using private money for real estate is a business where it is easier to go big than it is to stay small, as the securities compliance requirements may be the same for a small or big deal. But in a bigger deal, the costs are not as disproportionate.

As always, it is best to talk to a securities attorney when dealing with private money so you understand all of the options available to you, and some may vary on a state-by-state basis.

How Can I Write a Personal Biography for my Investment Company that Inspires Confidence in my Investors?

This isn’t a resume, so do this in paragraph format (not bullets). It doesn’t have to be long, just two to three paragraphs at most.

Here are some other tips and guidelines:

  • Use a professional photo or headshot (it shouldn’t be more than two years old)
  • List your name and title for this company. The title should be compelling enough to invite conversation, so don’t use President or CEO (boring!!!)
  • Describe your role in the company you’re promoting (all the different hats you wear, etc.)
  • Describe related experience, training or education
  • Describe unrelated, professional experience and training. (Note: Leave the personal stuff for your singles ad!)