A Student of the Real Estate Game


Top 10 Steps When Reviewing A Passive Real Estate Investment Opportunity

Sep 9, 2015 | Passive Investing

Prior to the JOBS Act, accredited investors had to have personal relationships with real estate operators in order to access direct real estate investments. Now, through real estate crowdfunding portals, anyone can invest passively into institutional quality real estate deals. While the access to deals is great, I’m concerned many platforms are doing a poor job of screening deals/operators. It’s up to investors to do their own diligence prior to investing into a syndication.

Real estate investors need to be aware of the risks of investing in private real estate deals. I’ve create a real estate crowdfunding investor checklist and compiled a list of 10 questions to ask sponsors prior to investing in a deal.

In this post Jeremy Roll, who’s been a full-time passive income investor for the past 13 years and invested into more than 50 separate opportunities, shares his top 10 steps when reviewing a passive real estate investment opportunity.

Enter Jeremy:

Disclaimer: Jeremy is not a Financial Advisor. Everything he is sharing below is from his perspective as a passive investor with over 13 years of experience.

Passive investments can be a great way to diversify your investment portfolio and those that provide cash flow, in particular, can truly be life-changing. For example, I was able to leave the corporate world in 2007 thanks to cash flow from passive opportunities after I moved all of my savings from unpredictable stocks and bonds into more predictable low-risk passive cash flow opportunities. But, while passive investments can be great, some are definitely more attractive than others and some are outright bad opportunities that present high risks for investors. From aggressive projections to less-than-conservative assumptions, there are many opportunities out there that investors should avoid, which is why it’s absolutely critical that any passive investor be able to properly evaluate the merits and risks associated with an opportunity so that they can make a well-informed investment decision. And if you’re a relatively new investor reading this then I would strongly caution you not to participate in any passive opportunity until you’re 100% confident you can evaluate all of the merits and risks associated with it.

With that in mind, here are the Top 10 steps (in my experience) when reviewing a passive real estate opportunity / syndication:

1. Determine whether the type of opportunity you’re reviewing (development, value-add, stabilized) is the right fit for you. The first thing to consider when reviewing a passive opportunity is whether it’s the right profile for you. For example, while I strongly prefer lower-risk stabilized opportunities, you might prefer a high-risk but higher-return opportunity like a development opportunity. If the opportunity isn’t the right profile for you then you will probably want to move on to the next one.

2. Assess the experience level of the Manager(s). If the opportunity is the right profile for you then the next step is to evaluate the experience level of the Manager(s) to ensure that they are experienced enough for you. While there are clearly many exceptions to this rule (ie. someone you know well and trust, a particularly attractive opportunity, etc), generally more experienced Managers have a higher probability of success than beginners so this is something important to consider. Bonus tip: While there are many exceptions to this rule, the wealthier the Managers the more likely it is that they will be able to help (financially) if something doesn’t go as planned, which essentially means that wealthier Managers have a higher probability of success if more capital is needed than originally planned.

3. Search for a preferred return. Most experienced passive investors will tell you that they won’t consider a passive opportunity unless it includes a preferred return for investors. A preferred return essentially ensures that investors will receive the first portion of any available profits available for distribution before the Manager(s) get their split and therefore helps investors to recoup their original investment as a priority. Preferred returns can vary depending on the experience level of the Manager(s) but the most common preferred return is 8%. Anything above that is considered particularly favorable for investors and anything below that is a potential yellow flag for investors (at least for cash flowing opportunities). Use extreme caution when considering an opportunity that does not have a preferred return for investors unless the profit splits are immensely favorable for investors (see the next point for more on profit splits).

4. Review the profit splits. Profits splits are arguably one of the biggest factors that will determine your return on investment (ROI) and are therefore a very important item to review when considering a passive opportunity. Profits splits vary depending on the experience of the Manager(s) and how much work they have to do throughout the projected lifespan of the opportunity. For example, Managers typically have much more work to do for a ground-up development compared to a stabilized existing property so they would normally command a larger profit split for the former. The maximum profit split you should consider is 50/50 and it’s unlikely you will find a better profit split than 80/20 (in favor of investors). Be sure that the opportunity falls within this range and is a fair split when taking everything into account compared to other opportunities. Bonus Tip: Some opportunities have more than one “level” of splits, as is the case when someone pools investors together and then invests the proceeds in an opportunity they aren’t directly managing (aka “joint venture”), so be sure to consider your split net of both levels (each level will likely have its own split) to ensure that it falls within the range (both levels of splits aren’t always disclosed so you might need to ask for them). If the investor’s net profit split falls below 50% then that would raise a red flag that you’ll need to seriously consider.

5. Look for conservative assumptions in the projections (aka Pro Forma). One of the best ways to quickly understand whether you’re dealing with conservative or aggressive Manager(s) is to review the assumptions that they used in the Pro Forma, as the assumptions will allow you to get a much better feel for the likelihood that the opportunity will perform as projected. Remember, your goal is to find a conservative Manager who is using conservative assumptions so they can under-promise and over-perform to build long-term relationships with you and other investors (not the other way around!). If the assumptions are aggressive then you might want to pass on the opportunity.

6. Assess the Manager’s business plan and overall strategy. Understanding and assessing the Manager’s business plan and overall strategy is absolutely critical, as you may or may not agree with the proposed plan for the property. For example, if you’re reviewing a ground-up development of an apartment complex that will be comprised entirely of 1 bedroom units and you believe the surrounding area is mostly comprised of families who need 2 or 3 bedroom units then you might want to pass on the opportunity. While most experienced Managers will propose a business plan and strategy that makes sense for the asset class associated with a specific opportunity, it’s always best to take the time to review the business plan and strategy to ensure that you agree with what the Manager is proposing. After all, it only makes sense to invest in an opportunity that you think makes sense!

7. Assess the location and surrounding area’s demographics. Location, location, location. We all know how important location is when investing in real estate so it’s imperative that you consider the location of the opportunity to ensure that you believe it will continue to thrive beyond the timeline for the opportunity you’re considering. Similarly, it’s important to properly review and consider the surrounding area’s demographics so you can understand whether the area has been growing – or declining – and whether its historical trend is expected to continue. If the location and/or demographics don’t look sustainable in the long-term then you will probably want to pass on the opportunity.

8. Get to know who you’re making a bet on – speak with the Manager(s)! Now that you have assessed the opportunity and gotten past the important steps above, we have arrived at what is arguably the most important step of all – get to know who you’re making a bet on. When you invest passively you’re essentially giving control to the Manager(s). That means that assessing who you’re making a bet on is probably the most important aspect of an opportunity to consider. With that in mind, be sure to ask as many questions as needed to get comfortable with the opportunity so you both understand everything about the opportunity (including all of the risks) and you end up 100% comfortable with the opportunity and the Manager(s) themselves. If possible, this should include meeting the Manager(s) in-person so you can use your gut instinct about the Manager(s) to help make your investment decision. Bonus Tip: Always trust your gut. Be sure to pass on any opportunity where your gut isn’t sure or tells you to move on.

9. Perform background checks on the Manager(s). This is a must and is probably one of the most commonly overlooked steps. During my 13+ year history of investing I have thankfully only met a few investors who had invested in a scam or Ponzi scheme. What was interesting about all of these unfortunate occurrences is that they all had 1 thing in common: none of those investors had performed background checks on the Manager(s). Background checks have saved me at least 5 times in the last 13+ years and I can’t recommend them more. I use TLO (a Transunion company) for my background checks but if you’re unable to use a service like this directly then you might want to hire a private investigator to perform background checks for you. Bonus Tip: Do not trust random online services that claim to perform background checks on individuals unless you’re absolutely sure they are both legitimate and comprehensive. Many of the online services often provide a very limited set of information about an individual and could miss important information that you would otherwise find via a comprehensive service or a private investigator.

10. Review all of the legal documents. While this might seem obvious, it’s worth mentioning that reading all of the legal documents thoroughly, especially the Operating Agreement (for an LLC) and the Private Placement Memorandum (PPM), is extremely important so you can learn the rules that will guide the company and the opportunity in general and so you can review all of the risks associated with the opportunity. This can be especially important regarding cash calls, reporting, timing of tax documents, and other very important items that are critical to understand and confirm before you invest.

I want to thank Jeremy for putting this together. Anyone considering a passive investment into a real estate syndication should follow these steps. I want to reiterate the importance of #8. It’s so easy to get to know someone over a 10 minute call and any good operator will make themselves available to chat with a potential investor.

Also, when investing through a reputable crowdfunding portal, they should have already performed a background check, however you should ask the question before you make an investment to ensure they did in fact run a background check on the operator.

Passive real estate deals can be a great investment as long as you do the proper diligence. Is there anything else that you’d add to this list?

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Jeremy RollJeremy has been an active real estate and business investor for over 13 years who left the corporate world in 2007 to become a full-time passive cash flow investor. He is currently an investor in more than 50 opportunities across more than $500 Million worth of real estate and business assets. As President of Roll Investment Group, Jeremy manages a group of over 900 investors in the US and Canada who seek passive/managed investments in real estate and businesses. Jeremy co-Founded public investor meetings under the name FIBI (For Investors By Investors) in 2007 with the goal of networking with, learning from, and helping other investors. FIBI is now the largest group of public investor meetings in Southern California, with over 15 monthly chapters and over 17,000 members. Jeremy is originally from Montreal, is a licensed California Real Estate Broker (for investing purposes only), has an MBA from The Wharton School, and is an Advisor for Realty Mogul, the largest online crowdfunding marketplace for real estate investors to invest in managed real estate opportunities. Jeremy has a diverse investor and fundraising network for real estate and business opportunities and has a large network of real estate and business contacts. He welcomes e-mails ([email protected]) to network with or help other investors and to discuss real estate or business investments of any size.


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