Investing in real estate is one of the most lucrative and savvy ways to earn a return on your money. However, there are also plenty of ways that you can go about getting started. For example, you can purchase your own property or invest with a group of other investors via a syndication or real estate investment trust (REIT). By investing with a group, you can gain all the advantages of owning property without the hassle of owning or operating it yourself.
With that in mind, let’s examine the differences between investing funds, syndications, and REITs.
What is a Syndication?
Real estate syndication is a popular investment tool for people who want to own property but don’t want to go all in on buying one alone. It is the main investment tool that we use here at Avatar Equity.
A real estate syndication is a group of individuals who pool their money together to purchase a property. These properties can include anything from multi-family housing, apartment complexes, mobile homes, land, self-storage units, and other real estate assets. With this style, you and other investors combine funds to jointly purchase a property through syndication.
There are two key players that make up a real estate syndication investment: the syndicator and the passive investor.
The syndicator is in charge of structuring and operating the entire syndication. Primary duties include:
- Underwriting the deal
- Completing thorough due diligence on the property
- Arranging the financing
- Negotiating with the seller
- Building a business plan
- Finding investors
- Raising capital for the transaction
- Working with the property management team
- Asset management
- Handling investor relations
The syndicator has a lot of responsibilities and is essentially the driving force behind the syndication. It is their role to execute the above duties and provide strong returns for passive investors.
The Passive Investor
The passive investor’s role is much more laid back. They commit capital to the syndication so that they can purchase the property. From there, the passive investors receive ownership shares and participate in the cash flow of the property usually in the form of monthly or quarterly income distributions from the property.
On top of that, passive investors receive the other benefits of owning real estate like appreciation and tax advantages. However, they do not need to worry about actually managing the property.
What is a REIT?
A real estate investment trust (REIT) is a company that invests directly in income-producing real estate. Shares of a REIT are traded on major stock exchanges, similar to publicly traded companies.
The 3 main types of REITs are:
- Equity REITs: This is the most common form. Equity REITs provide investors access to diverse portfolios of income-producing real estate.
- Mortgage REITs – Mortgage REITs provide financing for income-producing real estate by purchasing mortgages and mortgage-backed securities and earning income from the interest.
- Hybrid REITs – A combination of equity and mortgage REITs.
One of the biggest differences between a syndication and a REIT is that, with a REIT, you (along with other investors) buy shares in a fund that owns the income-producing property. Compare this to syndication, where you own the property directly.
What’s the difference?
While these two vehicles allow you to invest in real estate, there are quite a few differences between the two.
- Number of assets: Most REITs are massive investment companies that own dozens, if not hundreds, of different properties. When investing in a REIT, it’s unlikely that you would be totally familiar with all of their real estate holdings. Comparatively, syndications are usually much more intimate and only focus on a few deals at a time.
- Ownership: When you invest in a REIT, you are buying shares in a publicly traded company that owns real estate. You don’t technically own any of the assets themselves. However, when you invest in syndication, you are a direct investor in the property.
- Access: Investing in REITs is open to just about anyone with a brokerage account. You can buy shares for as low as $5-$10, depending on how expensive the shares of the REIT that you want to buy are. On the other hand, syndications are typically reserved for accredited investors, require a steep minimum deposit, and are more private. To invest in syndication, you typically need to commit at least $10,000. But, in some cases, you may need to commit as much as $250,000.
- Liquidity: When you buy shares of a REIT, you can sell them at any moment as long as the stock market is open. However, with syndication, you cannot easily sell your stake and usually have to wait until the investment period has ended to get your money back (which can be several years).
- Tax benefits: As stated, when you invest in a syndication you are technically a direct owner of a property. This means that you are eligible for the tax advantages that come with real estate ownership like depreciation and deductions. This is not an option if you own shares of a REIT.
- High cost of private REIT fees: When a private REIT issues a new offering, the SEC estimates that 15% of the offering price is made up of fees like sales commissions, organizational expenses, and broker-dealer management fees. In other words, you as the secondary investor, are not getting as much value for your dollar.
- Payouts aren’t always profits: REITs are legally required to pay out 90% of their earnings to investors. Therefore, REITs are structured to always pay steady dividends regardless of whether or not it’s in their investors’ best interests. Sometimes, REITs may even pay their investors with borrowed funds or investors’ capital. This practice blurs the lines between earning profit and just getting your own investment back.
The final difference between the two is the potential return of both vehicles. First, we just want to state that investment returns can vary wildly depending on the REIT or syndication that you invest in. However, over the last 40 years, REITs have returned just under 13% annually to investors.
On the other hand, since they are more private and exclusive, real estate syndications have the potential to generate returns higher than 20% annually. But, again, it depends on the strategy of the syndication, the management team, the execution, and a number of other factors.