Real Estate Syndicate Guide

The Basics of Real Estate Syndicates

One by-product of recent government regulation in Canada is that financing is more difficult for real estate investors to come by. However, as is often the case, problems beget solutions – and that is where syndicate financing comes to bear.

How does it work? If you can’t afford to buy a property all by yourself, then you can find a group of people interested in pooling cash, and then finding a third party to organize the deal. This is what is known as a real estate syndicate. Every investor (also known as a Limited Partner) has the opportunity to join an investment that they would not have been able to put together by himself.

You can’t just get four friends together and form your own syndicate, though. You have to have two distinct groups, the money partners (or the limited partners), and the managers (or the general partner). You can have hundreds of limited partners in that first group, each putting in as much as $25,000 so that the general partner, who has the real estate know-how, and the GP is the one who makes all of the decisions – which properties to purchase, how to manage them, and when to sell them. This, of course, is the key – finding a general partner who has actual expertise in the field.

How do you choose the right syndicate?

Just like with any important business decision, this requires due diligence and research. The Internet has many blogs, websites and forums that will tell you more than you want to know about real estate syndicates. Getting together with other real estate investors, both online and in local networking groups, is helpful too. So is finding ads for syndicates in the reputable real estate publications. You need some money partners, but you also need an expert.

Finding that expert is the hard part – it’s a lot easier to find three or four people with money to invest. It’s the time that goes into finding the right property, negotiating the purchase price and the terms, finding a deal on a mortgage, locating a property manager and then keeping an eye on the whole situation. These tasks are why you need a general partner – and why you need a solid one.

Once you find a general partner or an organization that seems promising, it’s time to do some research on that entity. What do other people say about them online? What is their track record? Can they join in the investment too? You should expect a general partner to be able to put in 5 or 10 percent for the eal himself. That way he benefits or suffers on the basis of his own decisions.

The syndicate contract itself is important as well. If your syndicator wants to ask for a small acquisition fee upfront (which would normally be less than two percent of the asset value), that is standard. However, a bunch of upfront fees is different – and you should definitely think twice before signing your contract.

Some other things to look for in a syndicate include a fee structure that rewards the syndicator when things go well – and he should make the majority of his money when the deal comes to fruition. In the case of a retail syndicate, an example would be a 70-30 split on the end, where the average investor is putting in between $50,000 and $200,000, and the syndicator takes that 30% at the back end.

The contract is the key

Contracts tend to vary, as investors come in with a variety of goals and priorities. Some investors may want to have an exit built in, such as the possible sale of units to third parties after the other investors have been given the right of refusal or at least a first offer. Because the limited partners do not take a part in managing the property, is it crucial to have punctual financial reporting and, when necessary, the limited partners should be able to manage the use of auditors.

While the syndicator makes the decision about selling, but the limited partners have the right to agree to a common exit strategy. Maybe it is a threshold such as a 30 percent increase in market value, or a time frame, such as five or ten years. There might also be a clause that allows one person to get out when he wants, but the others either have to buy him out according to a pre-set formula or appraisals of the current market, or the entire project has to sell.

And now, the fine print

If you’re a limited partner, you possess a direct ownership interest in the purchased assets, which gives you a pro rata flow through when it comes to income, capital gains, depreciation and losses, all with restrictions possible. The limited partners are only liable up to the amount of capital contribution, with the condition that they do not take part in managing the property.

What’s the ROI?

This depends on the type of syndicate. Land development frequently brings greater risk – and greater return as well. Properties to generate income (especially apartment buildings) are seen as less risky, so your return is more secure but will be smaller. In Toronto, you can expect something between six and 18 percent on your return if you invest in an apartment building.

What about the tax man?

Any time there’s money being made, you know that the CRA is going to show up and want some. Every investor should talk to his own tax advisor to get professional counsel. However, there are some rules that are generally true.

Income and net taxable capital gains are allocated to each investor in the same proportion as for the managers.

Distributions can take the following forms of income in which there have been T5013 partnership income statements issued, including:

  • Distributions representing a part of capital gains allocated to investors having to do with a gain on property sale
  • Distributions viewed as a dividend that come from a Canadian or U.S. subsidiary corporation
  • Distributions that are taxable according to current law using regular calculations
  • Distributions that are not taxable right now and will be treated on the return as a capital return

Each province sets its own rules

Some investment sectors have federal regulations, but syndicates right now are governed by different provincial laws. This is a key fact because each province has eligibility requirements for investors, and you want to make sure that you qualify in the province where you want to invest. Generally, the biggest requirement is that the general partner is a legitimate third party entity.

In BC and Ontario, an investor might need an exemption, such as the accredited investor clause. This requires the investor to have a minimum net worth of $1 million and a salary of at least $200,000. In Alberta, investors can be exempt if they have a net worth of at least $400,000, including their primary home, or a yearly income of at least $75,000 before taxes kick in. They also need enough resources on hand to sustain a big loss.

Hopefully this information will clear the air of some of your questions about the real estate syndicate.