Real estate syndication is a growing investment strategy that allows investors to pool funds and invest in real estate properties or projects in Texas. In this article, we will explore the basics of real estate syndication in Texas, including how it works, the benefits of investing in syndication real estate, the risks involved, and how to minimize those risks.
What is Real Estate Syndication?
Real estate syndication is an investment method that enables investors to purchase and manage commercial real estate properties or projects as a group (i.e., a “syndicate”). Investors buy interests in a legal entity, such as a limited liability company (LLC) or limited partnership (LP), that owns the property or project. The LLC or LP will be formed or registered in the state where the property is located. A syndicator, who is typically a professional investor in the real estate industry, manages the company and the project and shares profits with passive investors based on the terms of the LLC or LP agreement.
The syndicator’s initial job is to identify suitable Texas property to acquire, and then to conduct due diligence to make sure the property is a good investment. The syndicator is also responsible for coordinating and guaranteeing acquisition loans from institutional lenders.
The syndicator will hire a syndication attorney to set up the corporate structure for the investment opportunity and to help the syndicator comply with securities laws so they can raise additional private capital from passive investors for the down payment, capital improvements, operating capital and reserves, and certain asset management fees.
The syndicator will act as the asset manager on behalf of investors for the duration of the investment. The syndicator’s primary function during ownership of the property is to hire and oversee local property managers who run the day-to-day operations at the property; and to implement strategies that will enhance cash flow and the overall property value by improving the property, increasing rents, and decreasing expenses.
The property will typically be owned and operated by the syndicate for a stated timeframe typically 5-7 years. The syndicator will periodically report to investors about property performance and will periodically distribute profits rived from cash flow and eventual sale to investors.
How Does Real Estate Syndication Work in Texas?
Texas real estate syndicates are typically formed to acquire and own real estate in Texas. The syndicator and investors may or may not be based in Texas.
Real estate syndication that includes only Texas investors is subject to Texas securities laws. Real estate syndicates that include investors outside of Texas may additionally have to comply with federal securities laws and/or the securities laws of other states where the investors live. This generally means that syndicators must either register their offerings with the Texas State Securities Board (i.e., get pre-approval) or qualify for an exemption from registration (state or federal), and follow the rules of the exemption they have selected.
Syndicators must also provide investors with disclosure documents (called “securities offering documents”) that detail the risks and potential benefits of the investment. Other documents that comprise a securities offering include a subscription agreement that the investors fill out, and the LLC or LP agreement that details how the syndicate (i.e., the company that owns the property) will be operated. Once the syndicate is formed, investors contribute capital, and the syndicate purchases the property. The syndicator oversees management of the property or project. Investors receive periodic returns from rental income and eventual sale based on their ownership percentage and the terms of the LLC or LP agreement.
Benefits of Buying Interests in a Real Estate Syndication in Texas
There are several benefits to investing in a real estate syndication in Texas, including:
- Diversification: Real estate syndication allows investors to diversify their portfolios beyond traditional assets like stocks and bonds, which can help reduce overall investment risk.
- Professional Management: Syndicators are typically experienced and trained professionals in the real estate industry who can leverage their expertise to identify and manage profitable investment propertes on behalf of investors.
- Passive Income: Investing in a real estate syndicate provides investors with the opportunity to earn passive income from rental income or appreciation of the property.
- Tax Benefits: Syndicate investors enjoy certain tax benefits such as depreciation allocations, certain paper losses that may be used to offset other passive income, and capital gains tax rates on their gain when the project is sold.
- Lower Investment Minimums: Real estate syndication typically has lower minimum investment requirements than purchasing a property outright, making it accessible to a broader range of investors; each of whom may contribute as little as $25,000 to $50,000, versus the millions of dollars that might be required to purchase a commercial property on their own.
- Limited Liability: Investing passively in a legal entity such as an LLC or LP limits the investors’ liability (i.e., their risk of loss) to the amount of their investment.
Risks of Investment in Real Estate Syndicates
Despite the benefits, investing in real estate syndication carries risks, including:
- Lack of Control: Investors in real estate syndicates have limited control over the management of the property or project, or operation of the company that owns it, leaving the ultimate decision-making power in the hands of the syndicator.
- Illiquidity: Real estate syndication investments are generally not liquid, meaning investors may not be able to easily sell their interests or withdraw their capital until the property is sold.
- Market Fluctuations: Real estate markets can be unpredictable, and factors such as changes in interest rates or economic conditions can negatively impact the value of the property, or require that it be held longer than anticipated. Additionally, it is possible that additional capital could be required during ownership of a property that current investors may be required to provide.
- Fees and Expenses: Syndicators typically charge fees and earn a share of the profits for managing the project, which can reduce the returns passed on to investors.
Best Ways to Minimize Investment Risks in Real Estate Syndicates
To minimize investment risks in real estate syndicates, investors should consider the following:
- Research the Syndicator: Before investing in a syndication, investors should research the syndicator’s track record, experience, and reputation in the industry by asking questions, conducting an internet search, and maybe even a background check. We require our clients’ syndication teams to undergo a background check – you can ask for a copy if the syndication team is one of our clients.
- Review the Disclosure Documents: Investors should carefully review the syndication’s disclosure documents which describe the risks and benefits of the investment; who is involved in management, their role, and how they will be compensated; and the syndicator’s projected income and expenses associated with the project.
- Consider Diversification: Investors should consider diversifying their real estate syndication investments across multiple projects, asset classes, and syndicators, as some projects may perform better than others.
Real Estate Syndication Can Be A Great Investment
Real estate syndication is an attractive investment option for those looking to invest in real estate properties or projects in Texas. While there are risks involved, real estate syndication provides investors with the opportunity to diversify their portfolios, earn passive income, and invest in projects that may not be accessible to them otherwise.
By conducting thorough research, reviewing the disclosure documents, and diversifying their investments, investors can mitigate some of the risks associated with real estate syndication and potentially reap the benefits of this investment strategy.