An Insider's Look at Real Estate Syndications
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Every experienced syndicator should be able to clearly explain simply projected returns to passive investors. If you invested $100K, what are the expected cash distributions?
Below is an example of typical projected returns. There is always risk with any investment but below is a guide to illustrate how real estate syndications are structured — and how investors get paid.
The 3 most important things to note when measuring returns are: hold time, cash-on-cash, and profits at the sale.
1) Hold Time
Projected hold time, perhaps the easiest concept, is the number of years we would hold the asset before selling it. This is the amount of time that your capital would be invested in the deal. A typical projected hold time is 5 years.
Five years is beneficial for a few reasons. For one, it allows the syndicator to make improvements, allow appreciation, and exit before it’s time to remodel again.
Five years also provides a buffer between the estimated sale and the typical seven-to-ten-year commercial loan term. If the market softens at the 5-year mark, we can opt to hold the asset for a longer period of time, allowing the market to rebound. And if things go well, we can sell earlier.
2) Cash-on-Cash Returns
Next, consider cash-on-cash returns, otherwise known as passive income. Cash-on-cash returns are what remain after vacancy costs, mortgage, and expenses. It’s the pot of money that gets distributed to investors.
Let’s say the projected cash-on-cash return is 8%. If you invested $100,000, the projected cash flow would be $8,000 per year or $2,000 a quarter. That’s $40,000 over the five-year hold.
In comparison, the same dollars invested in a “high” interest savings account (earning 1%) over five years would only earn $5,000. That’s a difference of $35,000 over the span of 5 years.
And if you’re comparing against the stock market, don’t forget to calculate volatility, inflation, high taxes on capital gains, and zero cash flow along the way.
3) Profit Upon Sale
In this example, let’s assume a projected profit at sale of 60%. It’s important to understand 60% profit does NOT mean a 60% increase in value of the asset. This number refers to a 60% increase in investors’ equity. Because of leverage, this number should be very achievable for an experienced operator.
In five years’ time, the units have been updated, tenants are strong, and rent accurately reflects market rates. It’s our job as syndicators to increase the Net Operating Income of the asset and increase value for investors. In short, we’re responsible for increasing the value by the time we sell the property.
Real Life Money…
So what does this all look like in real life with real dollars? Let’s say everything in our example goes as planned.
In this example, you’d invest $100,000, hold for 5 years, collect $8,000 per year in cash flow (a total of $40,000 over 5 years), and earn $60,000 in profit at the sale.
This results in $200,000 at the end of 5 years – $100,000 of your initial investment and $100,000 in total returns.
That’s doubling your money in 5 years. Not bad for a stable, predictable, cash-flowing asset. It’s no wonder why so many investors say real estate syndications are the way to go!