Real estate investing is a great way to diversify your portfolio outside the stock market, so maybe you have a rental property, flipped a home, or are a house hacker. Yet, you want to move into something bigger, like a real estate syndication deal.
A common interest in real estate syndication allows investors to pool their money together to purchase a large piece of commercial real estate (perhaps an apartment complex or storage facility) generally out of reach for each individual. These real estate investment opportunities require more capital, perhaps millions of dollars from a community of passive investors. However, with that comes a greater cash flow opportunity for all involved, especially when costs are minimal.
Why Real Estate Syndications Require Legal Documentation
Real estate syndications are regulated by the Securities and Exchange Commission (SEC), which requires extensive legal documents and reports for each offering. As a sponsor, or general partner, you will need a syndication attorney to structure and proof all documentation to ensure compliance with the regulations set by the SEC.
General Partners (GPs) and sponsors are responsible for raising capital, properly managing the asset, and mitigating risks on behalf of the limited partners.
Limited Partners (LPs) are third-party investors who have agreed to invest their own capital into the deal passively but are not held liable beyond the value of their initial investment.
Every investment carries risk, but rather than purchasing a single-family home and carrying all of the risks on your own, real estate syndication risks involve several complicated levers such as:
- Sponsor team's experience
- Property management efficiency
- Proper and timely execution of tax paperwork for investors
- Making (sometimes extremely difficult) decisions in the best interest of investors throughout the hold period based on the state of the real estate market.
The agreement for the real estate syndication, which includes the Private Placement Memorandum (PPM), will mandate
- ☑️ Business plan
- ☑️ Dictate anticipated value add projects
- ☑️ Outline the expected distribution percentages for the rental, net operating income, and profits from the property's sale.
Each party's rights and roles are outlined. You'll find information about expected ROI, risks involved, voting rights, asset management fees, acquisition fees, responsibilities, compensation, and how decisions will be made.
Before anyone can provide or lawfully accept investment capital, a written purchase agreement must be drafted and signed, which is where a syndication attorney's services are valuable.
What Upfront Costs Do Sponsors Face While Establishing a Real Estate Syndication Opportunity?
To remain in compliance with the SEC, sponsors typically hire a syndication attorney to draft the legal documents properly. These attorneys' fees can range between $450 to $1000 per hour.
The time required to draft the PPM agreement for your particular real estate syndication offering depends on the asset class, deal structure, who you accept investment capital from, and whether you plan on value-add work or a refinance.
Regulation D offerings are the most common syndications (rule 506b or 506c). A reliable estimate for the total legal costs to have proper legal documentation drafted is between $7500 and $25,000, but these are for a basic structure. If the syndication is a Reg A+ offering, the baseline is $35,000 to $50,000, but costs can balloon up to $500,000!
This huge upfront cost just to get legal documents drafted effectively reduces the ROI for sponsors and general partners. Yet, SEC-compliant legal documentation must be drafted and signed by all parties involved before accepting any investment capital, which could also delay the acquisition of the real estate project.
How Might Sponsors Recoup Initial Costs Of A Syndication?
The sponsors and general partner team have a wide array of options to recover some upfront legal and property acquisition costs and structure their business plans in the best interest of passive investors. Those options can include various straight split or waterfall distribution structures with preferred return opportunities.
One way sponsors typically recover costs and earn an annual income in exchange for their time and energy overseeing the syndication is to charge fees.
Some extremely common fees charged by real estate syndicators include:
- Acquisition Fee - Real estate acquisition takes time, the right connections, lots of coordination, and extensive due diligence, all of which require energy and money to fund the journey. A 1-3% acquisition fee is the industry standard and pays the sponsor for their effort in organizing the deal.
- Refinance Fee - There's always the chance that within the next 5 years, investors will benefit from a refinance. A great deal of work is required of the sponsor to complete this fresh round of underwriting, appraisals, and documentation, and this fee compensates the sponsor for that extra hassle.
- Asset Management Fee - Generally ranges from 1-3% of monthly gross revenues to cover administrative costs like revenue and expense tracking and investor communication. While often confused with property management, asset management involves executing the plan, managing risks, and organizing distributions.
- Disposition Fee - Selling a property can take up a significant amount of time. The sponsor team takes charge of all the necessary tasks to finalize the sale, which may include charging a 1% disposition fee to cover the expenses involved.
Checklist Of Fees Charged By Real Estate Syndicators
Of course, a syndication business can charge other fees, like construction management and loan guarantor fees. But too many fees will negatively impact the expected returns and repel savvy passive investors.
It's most beneficial to all parties involved to control acquisition costs and legal fees on the front end of any deal so that you can keep fees to a minimum, resulting in higher potential passive income for real estate investors.
How to Reduce Upfront Costs
Rather than hiring a real estate syndication attorney to draft your legal documents, explore software that produces customized legal paperwork for your deal within 2 days for a fraction of the cost.
Too good to be true? Not at all.
SponsorDocs' founders are also real estate syndicate sponsors who experienced the frustration of steep legal fees first-hand and decided to solve this problem once and for all by collaborating with a leading securities law attorney to provide their business associates access to properly drafted, up-to-date legal documents.
It's time for your real estate syndication company to attract accredited investors, raise capital, and acquire properties without barriers or complications. Well-written, SEC-compliant legal documents are available to help your syndication business reduce upfront legal fees, resulting in less pressure and more returns for each passive investor.
To see how SponsorDocs can produce all the legal documents you need, reduce costs, and streamline your process as a real estate syndicator, Request a Demo.