One of my new adventures in 2021 is venturing into the world of passive real estate investments. These are private placement investments available to accredited investors. They can either be in the form of a small fund or a specific real estate property.
The investment thesis for me is straightforward: Can I achieve a decent return and/or recurring income while only taking a reasonable amount of risk? These deals typically involve not being able to get your money out until an event (refinance or sale of the property), so the financial theory is I can be paid a premium for taking the risk. These investments are with smaller companies so I have more access than I do in a public company, where I write investor relations and get ignored.
How did I get interested?
I’ve always been interested in these deals; I used to be a commercial banker and sat on the lending side. I couldn’t invest in most because of conflicts of interest and painful disclosure rules my company wanted to put me through. I saw many of these transactions produce outsized returns for clients, some of which was due to strong operators and others due to a 20+ year decline in interest rates.
What do the deals look like?
My first investment was in an office / industrial building with a group I’m familiar with. The building was vacated by a single tenant and the building was purchased far below replacement cost because it could take anywhere from six months to three years to fill it with new occupants. If the transaction works well, it should net 20% or so in an annualized return. If it takes longer to fill, those numbers slowly go down. Because this did not include current cash flow, I chose to make the investment through my self directed IRA*
The second investment I’m making is a 1-2 story office building with half medical tenants. It should produce 8% per year in annual cash flow with a total return slightly higher that’s returned whenever it sells. The goal of this is for the sponsor to hold it for more than 10 years.
In both of these cases, I’m willing to take some risk in the property type (office) because single story exterior entrance properties have significantly more demand than mid-rise or high rise buildings.
How many deals do I look at?
A lot. I signed up for multiple sponsors and have a few people that I do some outsourced evaluations for. The majority of transactions are apartment buildings, which I find are tougher deals to get comfortable with at these prices. Many sponsors have the business model of buying a large asset on fancy projections knowing they win either way; thanks to investment management fees, they’re paid first. This is definitely an asset class you need to learn about first before plunging into.
How long before I did my first deal?
Two years. That’s not saying everyone should wait two years, but I took a break from looking as the capital I had set aside I invested in the public markets between February of 2020 and November of 2020. There were a number of REITs that were selling at a 6%+ yield and REIT preferred shares trading at a discount to their redeemable value. I couldn’t pass up these opportunities and am now redeploying this money into the private market.
It turns out the two years allowed me to look at 30+ transactions before taking the plunge into investing.
What advice do I have to investors considering this?
Learn. The Hands Off Investor is a great book to start with.
Follow a couple of the real estate syndicators on Twitter that give out information all the time.
(@realestatetrent @moseskagan @fortworthchris )
Read deals and ask the sponsors to send you a copy of their updates about a prior deal. It’s never been easier to look at deals with the number of syndications around. You will get a sense of a sponsor’s professionalism based on how they compare to other presentations and how they provide updates to investors.
Tame your FOMO (fear of missing out). There will be another deal that gets exciting. Eventually do a small transaction and learn. This doesn’t have to be for everyone, but it can be a nice supplement to your normal portfolio, like this Millionaire Interviewee.
Check out the series put together by ESI Money and Physician On Fire.
If this seems right for you, eventually take the plunge. Don’t let analysis become an excuse for inaction.
Unfortunately on September 13th, 2021, the House Ways and Means committee introduced a rule banning accredited investments from being placed inside an IRA. I believe this is misguided, the goal of their legislation is to stop the infamous Peter Theil / Mitt Romney “mega IRAs”. This is already accomplished with other parts of this legislation, so adding the prohibition on private placements was odd given the minimal revenue it raises. Personally I could not have supported a vacant building renovation that’s a net positive for the economy without being able to use investment dollars with a long time horizon. I’m also giving up many of the nice tax benefits (depreciation) that come with real estate by owning it in the IRA. I’ve voiced my displeasure to representatives and hopefully this is removed.
Awesome, congrats on taking the leap. Launched a website in last few weeks geared toward people like us getting comfortable with the syndication investing process. Check it out at passiveadvantage.com.
Since you mentioned Hands Off Investor – have you invested with Praxis?
I’m in a few deals with them since a couple years – am looking forward to my first exit!
I haven’t invested with Praxis or any multifamily deals.
At these cap rates, I’m just not seeing an acceptable risk/return profile for me in that asset class.
The two deals I’ve done this year have been an office/warehouse property and an office/medical campus.