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Navigating Your First Real Estate Syndication Investment as a Limited Partner

For multi-family and other types of investments in the commercial real estate space, the structure of the deal is completely different than most investments on the single family residential side. A real estate limited partnership is a popular method used to invest into larger projects. Multiple investors are able to combine their resources to complete a deal they may not be able to afford or manage on their own. Investing in a limited partnership is a great way to enjoy the benefits of real estate investing without the headaches of the day-to-day operations.

Real estate limited partnerships are structured based on the partnership agreement. This agreement can be quite different from one deal to the next. However, these agreements share the same basic format, which gives them their limited partnership status.

There are 2 key roles within the partnership:

1. The General Partner (GP), also known as the manager or deal sponsor - This is what my company is in these deals, our role is to run the operation side of the investment. We do all of the underwriting, due diligence, source the debt, source the equity, and run the project from A-Z. We are the active investors in the deal making the day to day decisions and managing the deal from a high level, ensuring that the limited partners (LP's) are taken care of.

2. The Limited Partner (LP's/equity Partners) provide the equity needed to close on the transaction and in return receive very favorable ROIs. Most deals are a straight equity split, you will see terms like 70/30, 80/20, 90/10, all of those being the percentage split between the limited partners and the the General Partners. Limited partners receive the most amount of equity on the deal, and the smaller 10-30% portions are allocated to the GP to compensate us for our time and effort running the deals.

As far as distributions go, there are a couple different things you will see, some will offer a preferred return, for example, a deal we just did in Texas offered a preferred return of 6% annually. That means, before any additional distributions are made, the LPs receive a 6% return on their investment, followed by whatever the equity split is, so for example, if you invested $100,000 into a deal with a 6 pref and 80/20 split, you would receive $6,000 annually as a "Pref" or Preferred return and any additional cash flow would be split 80/20.

The next thing you will see are waterfall hurdles, these are additional incentives built into the deal to motivate the GPs further to maximize the return. Often you will see an 80/20 split up to 17% IRR (Internal Rate of Return), then 50/50 after that. Meaning that you will enjoy the 80/20 split for the first 17% IRR then after that (17.1% and above) it is split 50/50. This is a confusing model, but a lot of syndicators use this. For our self storage deal, we decided not to confuse anyone and structured it as follows: 70/30 equity split, once you double your money, that drops to 50/50 for the remaining life of the deal. This is beneficial because it does not have a pref return, meaning, if the property does not achieve the "6% Pref" because it's in lease up or some major repair was needed, the GPs are not penalized and the LPs are not overpromised and under delivered.

So to make it easy, I am just going to pull a random example, this deal is a straight 80/20 deal, that is going to refinance year 3 and sell year 7. Here is what it would look like:

Notice that the Limited Partner is making 8.64% COC (Cash on Cash) year 1, 8.83% COC year 2, and 9.4% year 3. With improvements made to the property and increased rent rates, the property is now worth more than what we paid for it. At this point in year 3, we refinance the deal and with new debt at the new value based on the increased revenue. The new loan pays off the old loan, and the limited partners are receiving 100% of their initial investment back under the "Return of Member Capital" line. Most of the time this is a 60-80% return of capital, but this example just happened to worked out to 100% return of capital. From that point forward, the Limited Partners will receive distributions based on the equity split, all while having no capital in the deal.

This is why we LOVE multi family and commercial real estate, there is a chance to own an asset forever, while collecting massive tax benefits, all with infinite returns after 3-5 years. So for you to be involved you would be a limited partner in the deal, receive monthly or quarterly distributions, as well as the tax benefits of being an equity partner in the deal. With our old structure, we took investors on in debt positions, these investors received a 1099 at the end of the year and were responsible for the tax implications of the short term capital gains. With this structure, our investors receive a K1 at the end of the year, and they also get the tax benefits of being OWNERS of the deal, and not just lenders. After the property is refinanced, and the equity is returned, the Limited Partners also keep their position in the deal earning income passively until the investment property is sold.

You may be wondering, how is the GP going to be compensated for all their hard work if they are only receiving 10-30% of the cashflow. General partners often earn money through fees charged to the partnership. Common fees that a general partner receives are:

  • Acquisition fee: 1% to 5%.

  • Asset management fee: 1% to 3% annually.

  • Refinance fee: 1% to 3% of the loan amount.

  • Loan guarantee fee: 0.5% to 3.5% of the original loan amount.

  • Construction management fee: 5% to 10% of the renovation budget.

  • Disposition fee: 1% to 2% of the sale price.

Not all general partners charge all of these fees, and the actual amount of the fee can vary depending on a number of factors. Usually, the more work and risk involved for the general partner, the higher the fees will be.

If you are interested in investing in our current or future deals, or have any questions about the information provided above, please schedule a call with us here:

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