12 Ways You Can Earn Money As A Syndicator

 Attorney Kim Lisa Taylor divulges the "12 Ways You Can Earn Money as a Syndicator."

She discusses how syndication works and how it can benefit both seasoned and novice real estate entrepreneurs and their passive investors. She also covers the risks, rewards, and the process involved.

Episode at a glance: 

• What is Real Estate Syndication? 
• The Benefits of Real Estate Syndication 
• How Does Real Estate Syndication Work? 
• Types of Real Estate Syndication 
• Risks Involved in Real Estate Syndication 
• How to Invest in Real Estate Syndications 
• How is Cash Distributed in a Syndicate? 
• The 12 Ways a Syndicator Can Be Compensated 
• What are the Rewards of Syndication for Passive Investors? 

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Transcript

Kim Lisa Taylor:

Good morning everyone. Welcome to Syndication Attorneys’ free monthly podcast. We will be posting this on YouTube and on our podcast channel. Our YouTube channel is “Raise Capital Legally,” and our podcast is called “Raise Private Money Legally.” We encourage you to subscribe to both.

If you want to see our talking heads, then you can go to YouTube. If you just want to listen, then we're on 20 different podcast platforms. The whole purpose of this podcast is to talk about topics of interest to real estate syndicators and fund managers with the opportunity for live questions and answers before we sign off. 

I am attorney Kim Lisa Taylor. I would also like to introduce Krisha Young, our co-host. She's our business development associate at Syndication Attorneys, but she also wears many, many other hats. Krisha has a coaching background, she's written some inspirational books. She's just very talented, and she's a pretty valuable resource for the firm. So you're going to get to meet Krisha a little bit more today. We're having her participate a little more than she has done in the past.

Before we get started, please note that this event is both recorded and will eventually be put on YouTube and our podcast channels, and it can be used for future promotion ,posted on our website or in a broadcast available to the public. You can ask questions at the end of the broadcast by raising your hand if you want your voice to be heard, or you can type your question into the Q&A.

Information discussed during this free broadcast is of a general, educational nature and should not be construed as legal advice. Today our podcast topic is the 12 ways a syndicator can be compensated. So actually, the real title is “12 Ways You Can Earn Money as a Real Estate Syndicator.” And we have an article about this on our website. If you'd like to follow along on the article that's on the website, feel free, go to syndicationattorneys.com. In the “Articles” pop-up, just type in “12 ways” and you'll be able to find that article. And we're really just going to go through that and explain it so that if some of you like to hear things as well as to read them, I know that works better for me in a learning capacity. So Krisha, welcome to the show. Thanks for coming.

Krisha Young:

Yeah, thank you for having me. This is exciting. Are you ready for me to interview you?

Kim Lisa Taylor:

Yeah. So today, Krisha is going to take on the role of the interviewer. I've done some teaching topics on our podcast before, and I always feel like they're really boring if it's just me talking. So I asked Krisha if she would interview me today…

Krisha Young:

I love it.

Kim Lisa Taylor:

... and chat. So I think this was pretty fun. So yeah, go for it. Krisha.

Krisha Young:

Yeah, I love interviewing people. And Kim, you're such a massive wealth of information, written two books, and contributed so much with this podcast, and in the real estate community, in the syndication community. So I'm really excited to hear what you have to say about how we can make money as a real estate syndicator, which is what we want. 

So Kim, tell us, what is a real estate syndication, what does that mean?

Kim Lisa Taylor:

It's really just a means of putting together a group of passive investors organized by a management team. So we call that either a syndicator, or a sponsor, or the manager, or the GP. All those terms are used synonymously. The whole point is to pull money that you can use to acquire, operate, and improve, and eventually sell real estate, and the idea is that you're going to be generating some profits during cash flow from the operations that you can share with investors. And then also you're going to be increasing the value of the property through your improvements, so that later on when you go to sell it, there'll be some additional equity that can be shared between the investors, but also with the management team. So it's a win-win for investors and for the management team, and it's a way that everybody can collectively achieve their financial goals.

Krisha Young:

That's fantastic. So tell us about the benefits of real estate syndication.

Kim Lisa Taylor:

Let's maybe back up a little bit and talk maybe a little bit deeper into the real estate syndication aspect. So raising capital from investors, some of you may not have heard this before, you could be tuning in for the first time ever, and we always want to reach our entire audience. So raising capital from private investors is regulated by the Securities and Exchange Commission or state securities regulators, and sometimes both. And the whole point is that they want to know ... What you're engaging in when you're doing a syndicate is you're usually doing what's called a private offering. So the rules for these securities regulators, state or federal, say that in order to be able to sell securities — which in most cases is going to be selling interest in your company to passive investors — so if you want to sell interest in your company to passive investors, then you're selling securities. And that offering of those securities has to either be registered or exempt from registration.

Registration is a very long and convoluted process; it's expensive, it costs a lot of legal fees. That's taking your company public. So you're not going to do that when you have property under contract that you have to close in 90 days; you just don't have time, it'll take months and months and months. So the alternative to that is to find an exemption from registration that you can operate under. And there are multiple exemptions. 

Most of our clients and most syndicators across the country are using something called Regulation D Rule 506, and there's two different parts of Reg D Rule 506 that you can use. One is called Reg D Rule 506(b) — that one will allow you to raise money from an unlimited number of accredited investors, and up to 35 non-accredited but sophisticated investors, but they have to be people that you know. You can't generally advertise or solicit people on the internet, or through any public broadcast or anything like that for an offering under 506(b), that allows you to bring in non-accredited investors.

So there's a process where you have to develop substantive relationships with people, understand whether they are accredited, if they're not accredited, how are they sophisticated? And you have to know all that and you have to have a suitability conversation with them to determine if what you're offering is appropriate for them before you even tell them about your deals. So that's a little bit of a cumbersome process, but that offering exemption has been in place since the mid 1980s, and it's alive and well; almost all of our clients do it. In fact, the SEC just recently released their statistics, and they said that 90% or 95% are still doing Reg D Rule 506(b).

You may think, "Oh, I'm just doing a small offering. I'm only raising $1 million or $2 million." But the SEC statistics show that the mean raise for a Rule 506 offering is $2 million with 14 investors. So that's squarely in the realm of what a lot of our clients are doing. Some are raising more, some are raising less. We do have clients that syndicate anything $400,000 or above. If they're raising less than that, then we'll try to find maybe some different alternatives for them. But there's times when even that makes sense to do the smaller syndicates just to gain ta track record and experience as a syndicator that you can use to build on. So that's a long, convoluted answer, but for somebody who's new to syndication, it's really critical that you understand these things.

And as Krisha said, I've written a couple books, this is one of them. You can get them on Amazon. Those will help you understand those concepts, there's chapters in there about the exemptions and what those mean and what the rules are for those exemptions. There's another exemption called Reg D Rule 506(c). That one allows you to freely advertise, but then you're restricted to accredited investors. Accredited investors are those who have $1 million net worth, or $200,000-a-year income if they're single, $300,000 if they're a cohabitating couple. There is some discussion. In fact, the SEC is currently soliciting public comments on potentially expanding that definition, or maybe raising the definition of accredited investors. So we want to keep a close eye on that and what's happening. We don't usually get too excited about it until it happens just because there's many, many proposals that have been floated in the past that never went anywhere. So we're just waiting to see what actually happens in this new administration, which has been very active.

So the SEC is alive and well, and they're passing a lot of different legislation related to these private offerings. And one of the reasons is because the amount of money raised in private offerings has far surpassed what's being raised in the public markets. That shift happened around 2012, and we started seeing increases in the amount of money raised by these private offerings. The SEC actually has a division called the Office of Small Business Capital Formation. And they have a lot of helpful information about how to raise capital from private investors, and they really want to foster that. So if you learn these rules, you can use them as tools— not impediments, but tools — to raise all the money that you need for any real estate deal you ever want to do. But it is important that you learn the rules, because if you do it wrong, you could be barred from ever doing it again. So you don't want to get into that situation, or worst-case scenario, you could get in some kind of criminal trouble or sued by investors. So we don't want that to happen, and that's why we have so many educational resources.

But yeah, so just thinking about the role of what does the syndicator do, they have to go out and find a property that makes sense for investors. And usually that requires going out and getting some training in a specific asset class, whether it's from a mentor, or a real estate guru or coach, or teaming with other people that have done it before. You usually have to get some training in order to learn what to buy, what not to buy, what works for investors and what doesn't. We do have potential clients that come to us and say, "Oh, we want to syndicate this," but it may not be suitable for syndication because it doesn't have a good enough return, or it's the wrong kind of property or something that's just not going to be desirable.

So you have to learn what is syndicatable and what's not, and you're usually going to learn that from a real estate trainer, and we can give you some guidance on that, but that's not our forte. Our forte is, once you've figured out what you're going to buy and what's the right thing to buy, then to help you structure your deal corporate-wise. We'll set up the companies that you need, we'll write the agreements between you and your investors, and then we will help guide you on following these securities laws and making sure that you're doing everything confidently and correctly so you don't have to fret that you're going to get in trouble.

Krisha Young:

Sorry, Kim, I just want to just say something here. I love that we have the Pre-Syndication Retainer Program here too, because in conversations that I have with people is they might not be quite there yet in terms of the property. They might know what they want to invest in, like multifamily or whatever, but they don't have a property under contract yet, they're still trying to figure out like, "What is a 506(b)? What's a 506(c)? Should I do this? Should I do that? How do I find investors?" There's a lot of questions that I get on conversations with potential clients that come in. And I'm always encouraging people to come into the pre-syndication stage because that's their opportunity to not just learn from that real estate market about what you just said, but also learn from us, and learn from you, and learn from our team about the law, and how to engage these investors, and what you should and shouldn't say, and how to structure these things, without getting into the weeds and the specificity of the actual deal itself … but learning more about this in a forum that is dedicated and devoted to the legal side of things from an expert in the real estate market of the legal side of things, if that makes sense.

Kim Lisa Taylor:

It does. Yeah, and you're absolutely right, that's one of the things we enjoy the most, is helping people that have never done it before really gain a deep understanding so that they can go out and confidently achieve their goals while helping their investors achieve their financial goals. And that's how we feel like we have the biggest impact in the world, which is pretty cool. We like that one. So all right. Well, cool.

Krisha Young:

Great. So are you ready for your next question now?

Kim Lisa Taylor:

I am.

Krisha Young:

I think it was, what are the benefits of real estate syndication?

Kim Lisa Taylor:

The first thing, we get a lot of clients or potential clients that come to us and say, "Hey, we want to buy things for all cash." If you're buying single-family properties like fix-and-flips, that might work, but if you're buying anything that you're going to long-term hold, usually you're going to need some kind of leverage in the form of a bank loan, or maybe even a hard-money loan or a private loan, somebody who's going to loan you some money at a lower rate than what your equity investors will want. So we're slicing up the capital stack into part of it coming from a lender. If it's an institutional lender, even at today's interest rates, they may only be charging you 6%, 7%, 8% annually on the money that they've loaned you. But your investors, if you're bringing in people who are going to buy a piece of your company, they're going to usually want a return somewhere in the mid-teens, so maybe 15% annualized.

And how that's going to happen is this combination of the cash that you give them from cash flow plus the cash that they get when you sell the property and split up the profits with the investors, and you add all that together and divide it out over the years that you've had that property, that's going to give you that annualized return. And so you really have to start by knowing what is the property that you're buying, what is the overall annual return on that piece, just the cash that you're bringing in from investors, what is the cash flow, cash return going to be on that amount of money over the period of time that you have the property? So you're going to have to do some projections on what your annual cash flow is going to be, what you think the sale might look like, what the cap rate might be at that time, how much equity you think you'll have after you pay off the loan and the cost of the sale. And then looking at that overall return, you'll be able to figure out, "How much of that do I have to give to investors?"

So that's where your financial leverage comes in, is by having a bank loan or a lower-interest loan for a portion of the property, 65% to 75% of the purchase price. Then you're only raising a smaller amount of money from the investors, but it allows you to have a higher return for those equity investors. So that's leverage. You're going to have access to larger, more profitable commercial investment-grade deals than you might have if you were just trying to do all-cash and you could only do it on smaller properties.

Second, you're going to get diversification. So investors can spread the risk across multiple properties. You don't want somebody to invest all the money they have in one deal with you. What you want them to do is invest in multiple deals. There are some structures where maybe you'll even offer multiple properties in one syndicate, or maybe be able to split them up into different properties. So there's lots of strategies you can use there, but it does allow the investors to diversify, and also to diversify from their traditional investments, because that is your competition for investor dollars. 

Where's the rest of their money being invested? Well, it's either sitting in an account somewhere and it's not getting a return at all, or it's invested in something, in the stock market, which as we know has some major fluctuations sometimes. So sometimes people aren't comfortable having all their money invested there. And so they do want alternatives, but they just don't know what they are or who to do it with. So your job becomes educating them and explaining to them how this works.

Third, there's tax benefits. So tax benefits, the depreciation on real property can be passed along to investors. Losses can be used to offset their gains on other investments. And then properly structured, the passive investors actually enjoy something that active investors don’t. The passive investors will get taxed at ordinary income rates on the income generated from cash flow, but they can be taxed at capital gains rates on the income that they receive from a sale. So there can be some significant tax savings there that you're able to pass on to investors. And there's actually ways that we can structure it so the management team gets to participate in some of those capital gains tax rates on the sale versus paying ordinary income for everything.

So that's one of the strategies that we use with our clients, is to help them understand that they're going to be participating in multiple ways in the deal. One way they're going to earn fees, they're going to pay ordinary income tax rates, plus self-employment tax on those fees, because that's their income for actively managing the asset on behalf of the investors. And then they're also going to make a nominal investment to be able to keep a portion of the profit share for themselves that can be later taxed at capital gains rates on sale. So there's different strategies on structuring that can help with taxes, both for the syndicators and for the passive investors. And then the other thing is that the passive investors, a lot of them, they're thinking the same way a lot of our clients are. Our clients are looking into their future and saying, "I'm not going to have the income that I want in my retirement from my current job,” or “I don't like my current job and I'd like to transition out and do something different." And so that's when they start exploring real estate investing. And your passive investors have the same thoughts, but maybe they don't want to give up their job, they just have some income they've set aside or income they'd like to pull from their traditional investments and diversify into real estate.

So they're looking for people like our clients that have taken the time to get educated, to find a mentor or coach and learn how to do this correctly. And now you're educating them on how they can participate as a passive investor, and they're really just relying on your general expertise. So you become, as a syndicator, the asset manager on behalf of the investors, which is distinguished from a property manager. Actually, for most commercial properties, you would hire a property manager that would manage the day-to-day aspects at the property. They're the ones that deal with the tenants and the maintenance and repairs and all of those things, while your job is to oversee them, make sure that the property manager has everything they need to do their job, and they're handling things properly, and then you're going to be reporting to your investors and making your profit distributions to them.

Krisha Young:

Yeah, it's essentially like you're a new kind of business owner in this realm, in a way. It's not necessarily just some side gig, you are really becoming a syndicator or an asset manager, and this is something to be passionate about and to grow and have a legacy in, is how I see this. And a lot of people, again, that I talk to, they're really excited about this way of being able to create wealth for themselves, and to even give back to the community, and in what they end up investing in. We discussed this on our Mastermind yesterday actually, and just having this other avenue to be able to contribute to the betterment of everything in a way that's really unique in the marketplace. But still, it's a business, though, at the end of the day, because you're still setting up your LLCs or whatever, and you have people on your team, and you're growing that, and then you have this property, and you're doing whatever you're doing with the property, and you're earning money from it, and then you're turning that money, and then you're maybe doing another one and then another one. It's quite unique and interesting, but you still have to market and you still have to run it like a business. It's a very unique way of doing business, I think.

Kim Lisa Taylor:

Well, it is, and there's really two facets. One is finding, analyzing deals, conducting due diligence on these deals, and getting the loans, and putting the whole organization structure and offering together. That is one job by itself. The second job is finding and cultivating relationships with investors. And so you're always marketing for investors and trying to expand your network, increase the relationships that you have with people, pre-vetting people. And even if you're not doing 506(b) offerings, you're doing 506(c) offerings where you're able to advertise on the internet or in social-media settings, you still want to interview those investors and find out whether this is someone you want to be in business with, because you're going to be in business with them for the next five to seven years, and you really should do business with people that you like. We've all heard horror stories, or maybe experienced some horror stories, about partnerships that have failed. And then the percentage of partnerships that fail is very high.

So part of that is just making sure that you're only dealing with the right people to begin with. And that does take some time. You have to cultivate relationships with investors and make sure that everybody has the same agenda, they have the same goals, and that they're not going to be competing with each other and trying to fight with each other over which way things should go. And that's one of the reasons that our clients like syndication so much as opposed to, some of them will start with joint ventures. So the way people start in a lot of situations, is they'll start with single-family, they'll get hard-money loans for a while or maybe develop relationships with some private lenders, and then they figure out that that's really hard work and it's a full-time job. And then they'll graduate up and say, "Hey, maybe I should scale into something bigger." And they'll either explore multifamily, or maybe learn some other asset classes like self-storage, mobile-home parks, hotels, office. Any type of real estate can be viable.

So they'll learn that, and then they start doing joint ventures. So on some smaller deals, maybe they'll bring somebody in as a joint venture partner. Well, the distinction between syndication and joint ventures is, in a joint venture, every member has to be actively involved in generating their own profits, which means that you might have a group of people that don't know anything about real estate, and you've taken the time to learn it, and they're directing you on how to do it. And so that gets frustrating. It also doesn't really work once you get above five people. That's been my experience. Once you have more than five people in a joint venture, it's just very hard to get people to show up, it's very hard to get them to agree on anything, and often the projects just languish. So then people who've done some joint ventures will start to realize, "There has to be a better way to do this. I need more money if I want to scale." And that's when they start learning about syndication and understanding the benefits of having passive investors. And it's not just the benefits for the management team, it's also the benefits for those investors that don't have to be actively involved and have other things they want to be involved with, like family and other jobs and things like that.

Krisha Young:

Yeah, yeah. That's awesome. So let's move on to the next question. So how does real estate syndication work?

Kim Lisa Taylor:

So there's really just a few steps, but of course I say that as if it's easy. Each one has a lot of moving parts to it, but really it's learning what to buy, what not to buy. So finding suitable deals— and that is a chore and a challenge, and right now it can be especially difficult. I think we're going to start seeing some loosening up of that in the next year or two, at least that's some of the predictions that I've heard. Then once you find a suitable property, then the syndicator will... And when I say syndicator, I'm talking about, usually it could be a joint venture that is the syndication management team. And again, that's usually one to five people. Again, I don't recommend more than five, but we usually have two to four people in the management of a syndicate, but then they'll be responsible for conducting due diligence on that property and making sure that what the seller said is true, looking at the financials, going and visiting property, conducting property inspections, maybe checking crime reports in the area. There's a whole list of things that are part of the due diligence, where the syndicator is making their buying decision to go forward with the deal, and the passive investors are relying on that syndication team to conduct that due diligence and provide them with that information so they can make their decision to invest.

Then there's structuring the deal. So you have to figure out, "How are we going to structure this deal? Is it a small deal where we're just going to borrow money from somebody? Or are we going to need to sell off interest in the company?" If you're going to be getting a bank loan, you're not going to be able to use private lenders, because ever since Dodd-Frank came about, the institutional lenders won't allow you to have subordinate debt. So you are then forced to create an LLC with maybe a class of passive investors and a management team, which is how most syndicates are structured.

And then there's capital raising. So you have to go out and you have to raise the capital. And that involves figuring out which exemption you're going to use, whether you can advertise or not, or tapping into your pre-vetted group of investors. If you don't have a pre-vetted group of investors, then you may have to advertise, but it's going to be challenging to advertise until you have a track record. So when I say track record, I mean having done three, four, or five of these deals already. So it really is imperative that you learn how to develop relationships with your own investors that you can bring to the deal. And what happens when people don't do that right, is they start making risky compromises. They will bring in capital raisers, which could technically be illegal depending on how you're compensating them, but you're also giving up part of the deal, and you're giving up control maybe to other people.

So if you have developed your own list of passive investors that you've pre-vetted, then you don't ever have to make those compromises. Or we have a lot of clients that go the other way, that, "Well, I can't find any deals, so I'm going to go capital-raise for other people." And that's even riskier, because at that point, you are handing over your reputation to somebody else that you don't know, and you're relying on them to competently run and operate that deal that you may only have a little tiny piece of management, or it's not your deal, you're not in control, and if that deal fails, it's your reputation that's going to get harmed, your reputation damaged. So you've got to be super careful about the whole co-GP scenario. I know it's alive and well and it works. If you have to do it, you really should only be doing it for your first two or three deals while you are cultivating your own list of passive investors.

And if you're not out there doing that, then you're going to be short-lived in this business and you're not going to become the one of our more successful syndicators that can go on and do their own raises and don't need to make those compromises. I mean, we have clients that started out buying $3 million to $5 million deals, and six years later they're buying $30 million to $50 million deals. We have other clients that have gone on and syndicated 26 multifamily properties, and a lot of other clients in between that have done many, many deals. 

Listen to our podcast, we interview our clients periodically, the ones that have been successful. So listen to the one with Bill Brancucci, Chris Pomerleau, Chris Cashman, look for any of the ones where we've interviewed a client about a specific investment strategy, and you'll hear their success stories. And most of them have taken the time to go out and develop relationships with their own investors, those are the ones that I've seen be able to raise $10 million in a week. And if you want to get there, you've got to listen to those guys and do what they did.

Krisha Young:

Yeah.

Kim Lisa Taylor:

So capital raising is huge. And then the other thing is learning to oversee the property manager and acting as the asset manager on behalf of your investors. So you're responsible for monitoring that deal and that property, and making sure that the improvements you planned in the beginning are getting done, they're getting done timely, within budget, you're able to make the rent increases that you projected, and all of those things that you put into your five-year projection saying, "This is what we're going to do to the property." You've got to make sure that that stuff gets done, and you have to report to your investors on how things are progressing and what's happening, good or bad, good or bad. … So there's a lot of moving parts in it, but it's all learnable. And just like you said, it's starting a new business. If you were going to go into the restaurant business, you'd have to learn all the different aspects of that or any other business. 

Krisha Young:

Yeah, yeah. We do have a few questions here, so we'll need to save some time to get to those, but let's talk about the types of real estate syndication.

Kim Lisa Taylor:

So we've got syndicates. Okay, we call that a specified offering. A syndicate is where you've got something under contract right now. You can figure out exactly how much money you need to raise for it, how much you're going to get from a bank. We call that the sources of funds. And then you're going to figure out how you're going to spend that money as you acquire that property. So you're going to give yourself some fees, we're going to talk about those in a minute. And syndication is the easiest possible way to raise money. Our statistics show that 85% of our syndication clients close their deals. The 15% that don't are usually because they discover something during their subsequent due diligence process that says that “this isn't a viable deal.” And then the alternative to that —  and I know there's people out there that are training people and saying, "Oh, don't do syndicates, because you have all this, 90 days, you've got to raise all the money and you've got to do this due diligence and all of that" — but that sense of urgency is what actually makes these deals work, is because everybody gets everything done, and the investors realize, "If I don't invest right now, I'm not going to have the opportunity." So they actually do it. 

The alternative to that is a real estate fund or a blind-pool fund. And the reason we call it a blind pool is because you haven't identified any specific project. You have a business plan that says, "These are the kind of projects we'd like to find." And we have a lot of clients that try to do funds. It's amazing how many of them actually don't set out to do what they wanted to do. And usually it's because they either didn't have the right experience, they didn't have the right team, or they didn't have a marketing plan for their fund, because a fund is the absolute hardest way to raise the money.

Investors don't like investing in a business plan. They want to invest in concrete things, so that they can see, they can realize, it's an actual property, see the purchase agreement, that kind of thing. So funds, we write them, we do them all the time, we have people that do all different kinds of things with funds, but it does require that you have a track record. So if you don't have the track record, you've got to bring somebody into your fund management team that does have a track record. And then I would even argue that you have to go one step further and you need a fund administrator that's going to help you keep track of investors, because they're going to be coming in at different times and you're going to have to prorate distributions and capital accounts and things like that, that can get very complicated.

And sometimes we have to have mechanisms in there to make sure that late-coming investors are being treated fairly, the newer investors don't feel cheated, like, "Hey, we built all the equity in the early properties that everybody else who comes in later gets to participate in." So they get a little more complicated. So new syndicators shouldn't be trying to fund, you should be syndicating properties and teaming with experienced syndicators in order to do that. 

Mortgage funds — we do a lot of mortgage funds. So mortgage funds are a way that you can raise money and then loan it out to other people. And again, you should be doing it only if you have experience in the mortgage industry, you understand how to vet borrowers, because you're going to be vetting borrowers and deciding whether they're worthy of your fund's investment. And then you've also got to build your own pool of investment dollars that you can loan out to people. And then you've got to be able to manage that and make sure that payments are being made, and enforce it. If somebody is not making payments, then you have to foreclose, all that.

And then there's the fund of funds. We do fund of funds for people, but it can be very complex. You don't only have to follow the Securities Act of 1933 and the Reg D exemption, there's some other rules that come into play, and you may even have to register as an investment advisor in order to be able to do a fund of funds, because you're not buying real estate anymore, you're investing in somebody else's deal. So you are advising your fund on how to buy securities. It changes the character of your fund, you're now classified as a private equity company or a private fund, and there are a whole lot of different rules that apply to you. So it's a little more complicated than you think. So that's the types.

Krisha Young:

Wow. Yeah. So basically in a nutshell, beginner: start with syndication. Once you've got a couple of those under your belt, then you can move into a fund if that is something that is of interest to you. And then the outliers would be the mortgage funds and the fund of funds.

Kim Lisa Taylor:

Yes.

Krisha Young:

Got it. What are the risks involved with real estate syndication? And I know that when we do Private Placement Memorandums for people, risk factors is a big part of that documentation, but there's risk factors involved in any kind of business. So what would be the things that anybody looking to syndicate would need to really pay attention to?

Kim Lisa Taylor:

Well, there's market risks; the market fluctuates, we're experiencing that right now. Interest rates go up. People who signed up for adjustable mortgages are now getting their mortgage rates adjusted, and now all of a sudden their cash flow is getting crunched, and they're maybe even in a negative scenario. And we're starting to hear that there's some of those deals that the lenders are redlining or red-flagging and saying, "Hey, wait a minute, we think this deal doesn't have the right debt service coverage ratio anymore now that we've adjusted the rate, and it may be at risk for foreclosure in the future." So some of those people with those types of deals are having to look at strategies for recapitalizing, or bringing in additional capital, not just from their current investors, but maybe even resyndicating and opening it up to some other investors maybe on different terms than what they had to offer their previous investors. Sometimes, depending on who's written the documents, they may have to get permission from their investors to do that. But anybody in that situation, I would encourage you to schedule a call with us because we can help you work through some of those scenarios and help you figure out what avenues might be available to you.

And the last thing you want to do is give it back to the bank. So you always want to try to salvage a deal and figure it out and save your current investors even if they're going to get a lower return than what you anticipated by bringing in other investors, or maybe just bringing in another investor short-term and then getting them out later, there's some strategies for doing that. 

There are tax risks, we talked about those earlier, if you don't structure your deals properly, you could end up paying higher tax rates than you need to for all of your earnings. 

I think probably the biggest one's liquidity; your investors have to understand that they're in the deal for as long as you own it, and unless there's some kind of a hardship in which they could be forced to sell their interests at a loss, maybe they have to go find somebody else, there are some secondary markets that would buy their interest, but maybe they're only going to pay 50 or 60 cents on the dollar for what that person originally invested. And then we do write provisions where people can get out at a hardship, but they can't force a sale, they can't force liquidation or anything like that, that would be detrimental to the syndication group as a whole.

Krisha Young:

Yeah. Wow. I mean, it's good to know the risks, you've got to go into these with your eyes wide open so that you are not blindsided and being like, "Well, I didn't know that that was going to happen," and whatever. And then you lose your money, you lose respect and all of that. So it's really good to have an awareness.

Kim Lisa Taylor:

What I would add is insurance, especially in Florida, insurance risks. We've got some clients that have properties in Florida. In fact, I have some properties in Florida, and the insurance rates have gone sky-high, a lot of insurers have left the market. And all of a sudden that can start to take away from your profitability and whether or not the project can even survive, because you either can't get insurance, or the insurance you can get is just going to be so expensive that it's very difficult to make the deal work anymore.

Krisha Young:

Yeah. Wow. So how to invest in real estate syndications?

Kim Lisa Taylor:

It's really just a matter of each investor needs to conduct their own due diligence. This is why you want to get to know them. They need to get to know you, you need to get to know them, you need to make sure that you want to be in business together for the next five to seven years. 

Most of our clients are holding properties five to seven years. Why? Because usually after about seven years, the property needs to be renovated again and a new infusion of capital. And it's hard to do that with your existing group of investors. It's easier to sell to the next group and let them come in and do it. And that helps everybody leverage their investment, get the returns that they've earned over the period of time they've owned it, and then go invest that in something else.

But yeah, make sure that you understand the investment strategy. Look for the fee structure that the management is offering, and the waterfall structure. And make sure that you understand how profits will be distributed and when they will be generated, what has to happen before you get your money back, and what has to happen before you get a return, how long they expect to own the property, and make sure that that meets within your investment horizons. But you can have an attorney review the documents to make sure that they comply with securities laws and that they actually depict what you were told you were investing in. And maybe talk to your CPA about whether this is appropriate for you, should you even be doing this at this point in your retirement planning, and just make sure that you understand. But go get your own training. We see a lot of passive investors at real estate training events where they're learning how to syndicate, so first of all, they can meet people that are doing it, and then they can also understand what they should be doing and how these deals are structured and how it works.

Krisha Young:

Very cool. So how is cash distributed in a syndicate?

Kim Lisa Taylor:

I think we've covered this a little bit. Usually you are going to be allocated a percentage interest in the company based on how much you've invested in relation to the total amount that was raised. And then there could be something called a preferred return, where the passive investors are going to get 100% of the cash from operations until they achieve a certain hurdle rate for the year before the syndication team takes their cut. There's usually going to be fees that the syndication management team will earn even prior to determining the profit share distributions. And also there's going to be a different waterfall structure on sale. And when we say waterfall, it just means that you're going to start with one pool of money and you're going to disburse it first to this group, and then you're going to go to the next group, just like a series of pools in a waterfall, and you're going to do something at each of those pools that is described in the distribution section of the operating agreement for that company. So you always want to look and understand that, but usually there's going to be profits shared between the management team and the passive investors, and also fees paid to the management team.

Krisha Young:

Mm-hmm. So the next part of this article here is the 12 ways a syndicator can be compensated. There might be quite a few people who want to know that, "What's in it for me?"

Kim Lisa Taylor:

The meat of today's discussion is syndicators are typically going to earn somewhere between 20% to 50% of the profits that are generated after paying. So distributable cash is this term that just means that we're going to pay all of the expenses and the debt service, and we're going to think about how much money we need to keep in reserves. So this is a syndicator that's thinking this. And then after that, the syndicator will say, "Okay, this much of the cash that we have in the bank is distributable?" So then they're going to look at the waterfall structure and the operating agreement, and they're going to start following that. So the syndicators usually are retaining somewhere between 20% and 30% of a company. Some fix-and-flippers, if you're doing single-family stuff, it might be a 50/50 split just because there's a little higher profit margin in some cases, and also it's a lot, lot more work for the person who's putting together the investors for those single-family fix-and-flip models.

But generally in a commercial property, we see a lot of 25% and 30% splits. The bigger the deal, the smaller the split for the syndicator, it could be as low as 20%. We wouldn't recommend going less than that. Maybe some mortgage pools, they'll do 90/10 split because there's maybe not as much work for the mortgage fund originator or mortgage fund manager than it is in these other types of asset classes where you've got all this asset management and overseeing property managers that you have to do. But the other thing, so you could get excess cash flow from rental income, you can get excess cash received from a refinance loan. Usually that's used to pay back capital contributions of the investors just to bring them down.

If there is some kind of a preferred return, it's always based on their unreturned capital contribution. So if you owe someone 8% return for the year and they've invested $100,000, you owe them $8,000 every year. And then if you pay them back 50% of that on a refi, then from that point forward you only owe them 8% on the $50,000 that remains invested. So that can be a way to generate some additional money for splits, because once you pay that preferred return, usually there's something paid to management, and then there's some split scenario where the rest of the money is split between management and passive investors. So that's where the bulk of the money is made, that's where the wealth is generated, is with the profit split.

So from cash flow, from equity realized on sale of the property, and there'll be separate waterfalls for those phases of operation of the company. But typical syndication fees, acquisition fee is 1% to 3% of the purchase price usually. Asset management fees, 1% to 2% of gross collected revenue. Refinance fees, 1% to 2% of the refinance loan amount. And a disposition fee, 1% to 3% of the sale price, and then loan guarantor fees. So if you're bringing in somebody else outside the syndication management team or they're just coming in for the purpose of helping to guarantee a loan, then they might get 1% to 2% of the loan amount, or you might pay them some flat fee.

And then also if the syndication management team loans money to the deal at any point in the deal, then they can get interest on their money. Or if they defer any of these fees, then they can get interest on deferred fees. If you're a real estate broker, then you could get commissions on purchase or sale of a property, and you may even at some point create your own property management company, and you could earn whatever the ordinary property management fees are for that. You're always going to create that as a separate company just because it's got separate liabilities, and you want to get different liability insurance for that, and you don't want to mix that up with the company where you have your investors.

You also get reimbursed for all of your pre-closing expenses, but one thing that you have to realize is that the syndication management team is responsible for all the costs up to the point of acquiring the property. And then from that point, you get to use investor funds, and you will raise enough money for the down payment, to reimburse yourself for all the pre-closing expenses, to pay yourself the acquisition fee, to have some money in reserves, and for the capital improvements. A good rule of thumb of what I've seen is that 1/3 of the purchase price is often what syndicators end up raising from investors, and that usually is enough to cover all of the expenses, unless it's a very heavy renovation project. 

So I think we should probably just go right to the questions.

Krisha Young:

And I was just going to say that. Yeah, yeah, I was just going to say maybe we should move on to the questions now. I think we might need to do a part two of this one. You have so much knowledge, and you're such a wealth of information that we could talk about this all day long, but let's just get to a couple questions here with the remaining time that we've got. I haven't read them yet, so I'm just going to read them real-time here. So this one, this is from Bob Richie. It looks like he's got a couple questions in here. First one, "If you're a member of a group like JT's, Investor Net Worth, and know many from there and connected from LinkedIn, does that count?"

Kim Lisa Taylor:

What he's asking is about the substantive relationship. And until you've had an actual suitability conversation with every single person in that group, it does not. It doesn't count as a substantive relationship. There's an article on our website at syndicationattorneys.com, if you find the Articles, just type in the word “substantive” and you'll pull up the article, but it's one of the first ones that pops up, and it's called “How to Create a Substantive Relationship.” And it describes what the SEC believes is necessary. And number one, they believe there has to be a live conversation, and you have to have a record-keeping system to figure out when you learned whether that investor was accredited, if they weren't accredited, how are they sophisticated, does investing in the types of real estate that you are doing interest them, and are they really suitable? And one of the questions about suitability is, would you be able to recover if you lost this money? Because it is possible that something catastrophic could happen and we could lose the money. And you want to make sure that you're not taking somebody’s last or only investment dollars.

Krisha Young:

Yeah. And we have in our pre-syndication retainer as well, we have a blueprint packet that we give people to help them with this, so that they can understand this part of it, because it's really important, this is a big part of it.

Kim Lisa Taylor:

Yeah, our blueprint for developing investor relationships can become your policy for, "This is how we develop relationships with investors," is we have this initial conversation, we meet somebody at an event. It's really like a dating relationship. You meet somebody, you exchange contact information, you have a follow-up call. During the follow-up call, you ask them questions to determine if there's common goals and interests, if it's suitable. And then you determine whether or not you want to continue on cultivating that relationship. And if you look at it that way, then you have to figure out, "Well, how am I going to stay in contact with that person so that if I get a deal three or six months from now, they still remember who I am?" So all of those are things that you need to think about as part of an investor marketing plan.

Krisha Young:

Right, exactly. There's a question here from John Hynes, but we've already answered this one, there's a couple more from Bob Richie as well, but he's asking, "Do I profit on setting up a syndication?" So we've already answered that question there. Kenneth is asking, "Do you have a Mastermind group to present deals to?" Do you want to talk a little bit about our Mastermind and what the goal of that is? It’s relationship building and networking and all of that, but do we present deals to each other?

Kim Lisa Taylor:

No, that's not the purpose of our Mastermind group. We have a Clients-Only Mastermind group. So once you become a client, you get invited to it. And the whole purpose of the Mastermind group is to help you get confident about raising capital, talking to investors, networking in a public setting, saying the right things, saying things to get people intrigued with what you're doing, hearing the experiences of the other people that are on the Mastermind call. We get anywhere from five to 20 people on our Masterminds, and we get a lot of people that come back again and again and again. And we talk about a lot of different topics at every Mastermind; everyone is unique. And we try to hold people a little bit accountable for making sure that you're continuing to progress forward and you're actually doing something, calling investors and looking for deals and analyzing deals and things like that, and plan ahead for what you're going to get done the next week.

So no, we don't use that as a forum for presenting deals, because again, you are probably going to be doing 506(b) offerings, which means you have to have a pre-existing relationship with all those people on that call. And our Mastermind group is all active syndicators and fund managers who are all in the process of setting up or learning to set up their own syndicates or funds and raising capital. So it wouldn't be appropriate for that purpose.

Krisha Young:

Yeah, okay. Thank you for articulating that so beautifully. Kathleen asks, "If I form a fund, how do I get others to raise funds for me? Do they have to be part of the PPM?"

Kim Lisa Taylor:

I'd suggest that you get my book; you can get a free copy of my book at syndicationattorneys.com, there is a “Free Book” tab. We will actually mail you a physical copy of it, and you're going to answer a question which says, "Have you raised capital before?" If you say no, you're going to get this book, which is a beginner's easy read, how-to guide, step-by-step how to syndicate. If you say you have raised capital before, then you're going to get the thicker book, which is more like an encyclopedia, but there's an entire chapter in here on how to legally compensate capital raisers or finders. It is not as easy as you think. You cannot pay people transaction-based compensation where you're paying them based on the amount of money they've raised. That's illegal unless they have securities licenses. And you can't really use a formula where you plug in the number that they raised, you really have to give people jobs and management, and you have to make sure they do them, and they get compensated for those jobs, and everybody in management has a job of raising money.

So again, paying capital raisers to raise money for you, you could find broker-dealers to raise money for you, but they're not going to do it unless your deal is raising $10 million or more. Usually they're going to probably charge you $100,000 in due diligence just to take a look at you and your deal before they even decide whether they're going to do it. And then they're going to take about 10% of the profits for themselves in addition to a portion of the money that they raise. And they're not going to do it for anybody that hasn't had substantial experience. We have very, very few people that have used broker-dealers of the hundreds and hundreds of clients that we've helped. So that's not a viable strategy, Kathleen. If you want to form a fund, you really have to create your own investor marketing planning, and you really should have already a pre-vetted list of investors and previous experience syndicating so that you have people that are ready to move into a fund with you.

Krisha Young:

Yeah, wonderful. So Kim, we're at 9:59 a.m. Pacific Time. So we've got one minute left. I think that we could possibly answer some of these questions maybe in an article, or point to where we already have some of these answered, either in your book. We have tons of resources, so we've got your books, two books that you've written. We do have a lot of podcasts where you are interviewing other people, and some where you're just on here on your own, a lot of articles. Plus, anybody can call in to speak with somebody on our team and ask some of these questions as well, and we'll do our best to answer them. But I think the best place to come in would be ... If you're not ready yet to drop that creation of the PPM and syndicate at that level, then that's why we have the pre-syndication retainer here, is so that these more in-the-weeds questions can be answered specific to the goals and the deal structures that you're looking to create for yourself. So I think that that's the best avenue, for somebody to come in and ask these questions, for sure.

Kim Lisa Taylor:

If you want to schedule an appointment, you can do that at our website. You can go to syndicationattorneys.com. And there's going to be a button there that says “Schedule a Consultation.” And you'll be able to pick, if you want to schedule a paid consultation with me, you can do that. If you want to talk to Krisha and some of our other business development team, then they're happy to talk to you and tell you the kinds of things that we have to offer. But I love that everybody showed up today. Thank you so much. I know it's the holidays, everyone's busy. We're super excited to have everyone. But Krisha, thank you so much. I think this was way better than me just droning on.

Krisha Young:

Yeah. Thank you everyone. Thank you, Kim.