Multifamily Syndication: An Overview
Multifamily syndication is an investment strategy in which a group of investors pools their money to build a new property or purchase an existing property. It is considered an alternative investment.
Multifamily syndications are a popular investment vehicle for many reasons. One reason is that they allow investors to pool their resources to purchase a property that they might not be able to afford on their own.
The properties are managed by a professional team. Investors share in the profits and losses generated by the property or properties.
In this article, we'll explain the pros and cons of this investment class and detail about how it works.
This form of multifamily real estate investing does not burden investors with the responsibility of being a landlord and all the hassles that go along with that role. The properties are then managed by a professional property management company.
Benefits to investing
The benefits of investing in multifamily syndication include:
1. Increased buying power - When you pool your resources with other investors, you have more buying power and can therefore purchase larger or more expensive properties than you could on your own.
2. Diversification - By investing in multifamily syndication, you can spread your risk across multiple properties and multiple geographic areas.
Who invests in this asset class?
Historically, the risk involved in real estate syndication has been relatively low compared to other investment strategies.
The time commitment for multifamily syndication is also relatively low, as the property management company will handle most of the day-to-day tasks.
Multifamily syndications are a great way for an investor to add to their investment portfolio and generate passive income.
Returns on investment
Multifamily syndication generates passive income for investors through rent payments and appreciation of the property value.
The equity multiple is the amount that your capital, or your equity, will be multiplied over the course of the projected hold time.
If you were to invest $100,000 and exit and the end of the hold time with $200,000, the equity multiple is 2x.
The internal rate of return (IRR) is a metric used in financial analysis to estimate the profitability of potential investments.
Simply stated, IRR is the percentage rate earned on each dollar invested for each period it is invested.
The annual rate of return (ARR) is the average annual profit divided by the initial investment. So, if you were to invest $100,000 in a property and the average annual profit is $10,000, the ARR is 10%.
ARR does not consider the time value of money or cash flows — it's a straight calculation.
In the following example, which uses a Google Sheets IRR formula, you can see that when cash flows increase enough over time, the ARR is greater than the IRR.
When cash flows decrease enough over time, the IRR is greater than the ARR. This is because the time value of money is higher in this scenario.
The group is typically led by a syndicator whose firm is responsible for finding and vetting investment opportunities, negotiating deals, and managing the property or properties.
The syndicator typically puts up a portion of the money needed to purchase the property and then raises the rest from investors.
Syndicators are the sponsors of a project.
Examples of real estate syndication companies
There are many real estate syndication companies in the US — large and small. Here are a few examples. The following are all based in the San Francisco Bay Area.
Growcapitus is headed up by Neal Bawa. Neal is a technologist who is known in the real estate community as the Mad Scientist of Multifamily.
The syndication has funded over $1 billion in projects. Investors have had exits with as much as a 61% IRR.
SDC Capital Ventures
SDC Capital Ventures, based in Silicon Valley is run by Charles Schaffer. Charles got his start in real estate by financing commercial solar projects, in which investor participation provides the benefit of investment tax credits to nonprofits, such as churches and education institutions.
Goodegg Investments is a real estate syndication based in San Francisco. Like Growcapitus, the company has acquired over a billion dollars in assets.
Some of Goodegg's projects have had IRRs in the low to mid 40s.
Sequoia, which is based in Walnut Creek CA, has been in business for over 35 years and has over 450 employees. The company currently manages over 59 apartment communities with more than 16,000 total apartments in the western United States.
How do syndicators decide where to invest?
Many syndicators take data-driven approaches to decide what market areas to invest in. States such as Arizona, Texas, and North Carolina have been popular areas.
Here are some of the long-term criteria that factor into what markets to invest in.
Minimum investment amounts & hold times
The minimum investment for multifamily syndication varies by syndicator and project.
We have seen minimum investments ranging from $50,000 for Class B apartment buildings to $500,000 for a Class A development.
Hold times vary, but 5 years is typical. A hold time can be as short as 3 years or as long as 10 years.
Value-Add vs. New Construction
Syndicators may pivot back and forth between new construction multifamily opportunities and value-add properties.
A value-add approach involves renovating apartment units and improving shared spaces to generate more cash flow from a property. Tenants pay more for better quality and an increased sense of community.
In the third quarter of 2022, new construction was hampered by supply chain disruptions, labor shortages, and high commodity prices. Many syndicators switched from new construction to value-add.
How do I find a good syndication to invest in?
The best way to find a good multifamily syndication to invest in is to do your homework and ask around. The first step is to research the different types of multifamily syndications that are available.
There are many different types of multifamily syndications, each with its own set of benefits and drawbacks. Once you have a good understanding of the different types of syndications, you can start to ask around.
Does the syndication have a system in place to ensure high occupancy rates of tenants? How can a property have occupancy rates of 99% instead of 90% or less.
Risks of investing
There are a number of risks associated with investing in a multifamily syndication, including:
1. The risk that the property may not perform as expected and the investment may not generate the return that was anticipated.
2. The risk that the property may not be well-maintained and may require significant capital expenditures in order to keep it up to par.
3. The risk of tenant turnover and the associated costs of re-leasing the units.
1031 Exchanges, as defined under section 1031 of the IRS Code, are strategies that let an investor defer paying capital gains taxes on an investment property.
Using a 1031 Exchange, an investor does not pay tax on an investment property when it is sold as long as another "like-kind" property is purchased with the gains.
Many people want to know if this investment class can be used for a 1031 exchange. The answer is yes if a "TIC" (Tenants in Common) is incorporated into the syndication structure.
How do I know if a syndication is a good investment?
There are a number of factors to consider when determining whether or not a multifamily syndication is a good investment. First, you need to consider the experience of the syndication sponsor.
A good sponsor should have a proven track record of successful multifamily investments. Second, you need to review the business plan for the syndication.
The business plan should outline the sponsor's investment strategy and expected return on investment.
What due diligence should I perform?
The first step in any multifamily syndication is to perform due diligence on the sponsor. This means looking into their experience, track record, and references. You should also review the offering documents and financials to get a better understanding of the investment.
Next, you'll want to perform your own due diligence on the property. This includes touring the property, reviewing the lease agreement, and understanding the local market.
What are the tax implications?
Multifamily syndications are typically structured as pass-through entities, meaning that the income and expenses from the property are passed through to the investors.
This can provide some tax advantages, as the investors can deduct their share of the expenses from their personal income taxes.