You are a high performer. You are doing great, but you want to be prepared for the future. You’ve probably decided you should make some investments, at least beyond what you are doing in your retirement your employer offers. That’s smart. Maybe you already have run across some syndications. If not, here is a guide for how they work.
Syndications are just one of many ways to do your investment, so make sure you evaluate multiple options before taking the plunge. Syndications are a nice way to passively invest money with moderate risk but the potential for higher returns. They will have greater risk than your stocks (usually). They might do much better than your stocks, though. Because of this, you need to have plenty of money set aside, so that if you lose, you don’t lose everything. Syndications are dependent on their sponsor, or principal, the person who finds the deal, sets it up, offers it to investors, manages it, looks for a buyer, then pays everyone back. They typically have total control over the property and as an investor, you are trusting your money with them.
Perhaps you still feel the syndication is right for you. Let’s first look at the ways that I use to rule out a sponsor. This post is only going to help you look at the sponsor, not the individual deal. Here is my list. If you say ‘yes’ to any one of these things, then politely decline and look for the next sponsor.
Things that Rule Out a Sponsor
- The sponsor doesn’t take time to learn about you. Each investor has their own personal financial situation. Some deals are right for one investor, but not for another.
- The sponsor accepts non-accredited investors. It seems nice to be able to accept everyone into a deal, but these deals do carry higher-than-usual risk. Non-accredited investors typically don’t have the same resources as accredited investors. They can’t bounce back as easily after a loss. Accepting non-accredited investors is a way to get more investor money quickly and tells me that the sponsor is desperate to raise money. Even if they are using it to get their family and friends in, I have to ask why they are exposing them to that level of risk.
- The sponsor doesn’t show you a list of previous deals they have done. Either this is their first one (run away) or they don’t know how to keep records.
- The sponsor’s previous deals weren’t very good. This one directly follows the last one. Sponsors love to brag about how well they did for their investors in the past. Now’s the time to listen.
- The sponsor doesn’t have any bad deals in their past. Do enough of these deals and one is going to be bad. It’s just random chance. These should be minimized. The sponsor should be able to tell you how they protected their investors. They should be able to turn a terrible experience into something at least tolerable.
- The sponsor won’t tell you about their bad deals. Similar to the one above. Keeping a secret from a potential investor now means they will likely do it in the future.
- The sponsor won’t commit to answering your questions. A good sponsor will answer your questions before you invest. An excellent sponsor will answer questions while the deal is going on and you’ve already signed the agreement. They should be approachable and responsive to questions.
- The sponsor won’t open the books. This one happens later in the process. They legally shouldn’t open the books unless you are an investor in the deal, so you won’t be able to see their other current deals. Once you’ve signed up and the deal is running, they should have no problem showing you where the money is going.
- The sponsor charges excessive fees. OK, sponsoring is a difficult job. It’s expensive for the sponsor to risk a bunch of money up front for attorney fees, closing costs, and inspections, to name a few. The sponsor does need to be paid for all this work. That’s usually with an acquisition fee. During the deal, they should charge an asset management fee. Some will charge a fee to guarantee a loan, a fee to refinance, and a fee once the property is sold (disposition fee). These are reasonable to charge, but each one takes money out of investors’ hands. Ask your potential sponsor what fees they charge.
- The sponsor charges too little, or the split is too small. Why would this possibly be bad? Well, a sponsor is running a business, and any business needs to return a profit to continue. Too low fees is a sign that the sponsor is desperate to get a deal done and will likely be cutting corners elsewhere.
Remember: If any of these are positive, then don’t do a deal with the sponsor. But, if they are all negative, it doesn’t mean you definitely should work with them. These are only ways to rule them out. You rule them in by evaluating their deal and can go forward if it is a good one. If this is your first time, invest the minimum, then work up from there.