Sharpening Your Passive Investor “Vocabulary”
Real Estate Syndication is a very profitable venture, and it’s needless to say that it has consistently outperformed the Stock Markets over the past two decades. More interesting is that passive investors can invest in multifamily syndication deals without any expertise, by simply getting and vetting a good Sponsor/Syndicator, passive investors can ‘go to sleep’ while their money brings them more money.
“Before you invest in something, invest the time to understand it.” – Robert T. Kiyosaki
However, the Golden Rule in investing is to invest in what you understand, which is why we have put together some basic and quintessential terms every one looking to become a passive investor must know. Suffice it to say that these words are de rigueur in Real Estate Syndication, and you should be familiar with them, a simple understanding, at least.
- General Partner (GP) – Simply refers to the syndicator or the sponsor of the deal who is responsible for the day-to-day management of the deal. The General Partner may be a person or an organization.
- Limited Partner (LP) – Simply refers to the passive investors, who provide the greater of the finance for the deal, with limited liability.
- Accredited Investor – A individual who earns $200,00 annually, or a couple who earns $300,000 annually (in the past two years) or individuals/couples with a net worth of $1 million, excluding primary residence.
- Operating Expenses – The cost of running and maintaining the property, which includes, but not limited to maintenance, repairs, advertisement, taxes, insurance fees, staff payroll, etc.
- Preferred Return – This is the expected minimum or threshold return that GPs offer the LPs before they (the GPs) can receive any form of payment.
- Net Operating Income (NOI) – This refers to the total revenue made from a property after deducting the operating expenses of the building. For NOI, capital expenditures and/or debt service is not deducted from the total revenue.
- Gross Potential Income – This is the proposed or potential income that is et to be made from a syndication deal, provided there are no vacancies annually (100% lease), at current rental rates, and all other incomes as outlined in the plan or proposal of the syndication deal.
- Cash Flow – The profit gained from the deal after removing all expenses in operating the deal. This is sort of a net profit, after deducting the operating expenses from the gross profit made on the deal. More specifically is the Effective Gross Income (EGI).
- EGI is the actual cash flow on a property. That is deducting the employee units, bad debt, model units, and vacant unit loss from the actual gross potential income on the property.
- Economic Occupancy Rate – This is the potential vs the reality of a deal. It is the ratio of the actual revenue on a property to the gross potential revenue of the property.
- Acquisition Fee – The fee paid upfront for the hard work put in by a GP in finding, assessing, and acquiring the investment deal.
- Asset Management Fee – This is the fee paid to a GP for day-to-day management and maintenance of the syndication deal.
- Exit Strategy – This is the business plan of a GP to sell off a property at a specific time, under certain conditions as determined in the plan.
- Waterfall Structure – This is a detailed agreement or structure that explains the distribution of profits annually or quarterly, a waterfall also explains how extra profits will be split after LPs have been paid the preferred or agreed returns.
Disclaimer: The views and opinions expressed in this blog are provided for informational purposes only, and should not be interpreted as an offer to buy or sell any investment or course of action.