Updated: Jan 9, 2021
Many passive investors would like to participate in real estate deals, as they know that good real estate investments can generate lucrative returns over time. There’s no question that investors believe that real estate investments will help build wealth. The only question is how does one become a successful passive investor?
I’ve put together this 5-step guide to show you the steps to take that can help you become successful as a passive investor. There are no guarantees, of course, but by following these steps you will have a good chance of having things working out just the way you would want them to.
Education is the foundation for just about every endeavor, and real estate investing is no exception. As a passive investor you’re not expected to come into real estate deals with extensive knowledge and experience - that’s why most passive investors are part of a syndication. The Sponsor brings that knowledge and experience to the table, while you bring money to invest.
But having a good understanding of real estate investing fundamentals can help you evaluate and analyze deals and have enough knowledge to do your due diligence when a deal is presented to you.
How do you educate yourself? Read books, listen to podcasts sponsored by successful Sponsors and investors and even enroll in a program designed for passive investors. There are also conferences where you can get essential information, meet syndicators and mingle with other passive investors to hear “market chatter” about different real estate investment opportunities that are happening in your area.
Decide on Your Investment Criteria
Every real estate investor has specific market criteria that they like to look for when considering real estate deals. Passive investors are no exception. So how do you define your investment criteria?
You start by determining the specific markets you like as potential investments, and why you like those particular markets. You also need to determine what returns you’re hoping to achieve, a 15% IRR, or a 6-8% CoC for example. You’ll also need to decide on whether you’re after preferred returns or not.
Personally, I believe that preferred returns are the way to go for passive investors, because all profits in a real estate project a first given to preferred investors. Preferred returns work for the sponsor of the deal as well, as he or she can show other investors that they have exceeded the percentage return that was originally promised.
There’s another criteria to select, and that’s whether or not you want to do “value-add” deals. This scenario is when you purchase a property that requires work and rehabilitation, or repositioning. And while it costs money upfront to do the work, you will receive higher returns on your investments once the work is completed.
Other options to value-add deals are core deals, which are stable properties that offer consistent cash flows and are less volatile than other types of real estate investments. Core deals require very low leverage (up to 30% loan). Core plus investments are similar to core deals in that they are turn key and don’t require renovation work, but are often bought with higher leverage than core deals.
Lastly, there’s opportunistic deals, which are high-risk high reward deals. Opportunistic deals require heavy value add, and often high vacancy.
Step 3: Find Syndicators
If you’ve never invested in a real estate deal and don’t personally know any syndicators, or sponsors, how do you find one? It’s a good question and one that requires a thoughtful answer. The reason is you don’t want to simply put down your money with just “anyone” - you want an experienced sponsor with a track record of success.
You can start by attending real estate conferences, meetups, listening to podcasts and reading articles that are published in various real estate publications. Word of mouth is an excellent way to find a sponsor. Talk to family and friends that have invested in real estate syndications and ask for a referral to their sponsor.
Another way to find one is BiggerPockets, which is a social network for real estate investors and enthusiasts. BiggerPockets is also an excellent education site, offering millions of pages of valuable content at no charge. Their site also has many different tools available to members to use that can help analyze real estate investments. You’ll also be able to network with like-minded individuals, and there are currently over 1,300,000 members.
After meeting some sponsors, it’s time to select one you’d like to work with. Reach out to them and see if you like them, whether or not your personalities are a match and whether you feel you can trust them. Check on their track record and talk to some of their investors.
Most importantly, determine if their business plan and level of risk match your own. If someone came to me and said they wanted to double their money in 3 years, I’d tell them that we are not a good fit. That type of risk level simply doesn’t match my own. But if they wanted to earn 7% on their investment over a 5 year period, then we have similar investment criteria, and probably similar appetite for risk.
After you’ve met a sponsor, they will begin sending you deals that they are either considering or actively working on. Now it’s time for you to put your education to work and analyze the deal. When you just starting, it doesn’t matter if you’re really interested in each deal; dive into the details of each one because the more deals you see, the more experience you’ll gain. In addition, you’ll know what type of deals you like, and which ones you don’t.
Do your due diligence and review the numbers. Make sure the return that’s offered matches up with the numbers you receives. Most sponsors will send you a PPM if you’re interested in the deal, which is a Private Placement Memorandum. It’s a legal document provided to all prospective investors and will give you the full disclosure based on the requirements of the federal securities law.
Just remember that this is not a business plan. Instead, it’s a document that simply outlines the entire investment, including a description of the property, what is required from investors and the fees and commission that the Sponsor will earn.
The PPM will also describe the equity split between the sponsor, who is the General Partner and the investors, or Limited Partners. There are basically two types of equity splits in the industry (usually 30%-70, where you receive the higher amount of equity.
Invest in the Deal
You’ve done your due diligence. You’ve reviewed the PPM and were comfortable with all it contained, including the property’s description, where it’s located and the numbers involved. You understand the fees the sponsor will earn, and the equity split that you’ll receive as an investor.
Now it’s time for the final step: Invest in the deal!
What does that require? There are only two things; you need to sign the PPM, and then wire money and fund the investment. Whether it’s your first deal or your 10th, you’ll still feel a surge of excitement when you sign the papers. If you’ve done your homework, you should be excited! You’re now a passive investor in a property that has the potential to earn you money.
Begin the process by educating yourself in a variety of ways, from meetups and conferences to listening to podcasts to attending a program designed for passive investors. Determine your investment criteria, and decide on what type of deals you’re comfortable with. Find syndicators and be sure that their business plan and level of risk matches yours. Analyze the deals you receive and find a comfort level that works for you. Finally review and sign the PPM and wire the money to the sponsor. You will start making money in your sleep. Now what can be more exciting than this?
About the author
Ellie is the founder of Blue Lake Capital, a real estate company specializes is multifamily investing throughout the United States. She is also the host of Unbelievable real Estate Stories, a podcast that brings the true stories behind the deals, from the most successful real estate investors around the globe. Ellie started her career as a commercial real estate lawyer, leading real estate transactions for one of Israel’s leading development companies. Later, as a property manager for Israel’s largest energy company, she oversaw properties worth over $100,000,000. Additionally, Ellie is an experienced entrepreneur who helped build and scale companies by improving their business operations. She holds a Masters in Law from Bar-Ilan University in Israel and an MBA from MIT Sloan School of Management.