Discussing Due Diligence for Passive Investors: How to Interpret Our Checklist, Part 2

Are you one of the many busy professionals working in offices day in and day out? Do you wonder how some people grow their wealth fast, retire early and play on work days? Well, you're in luck because Ginny Bolling hosts this show Pivots of Prosperity where she interviews people that can do just that play on work days. Many guests have become financially free. She also interviews people that are on their journey and people that are in support roles like attorneys, contractors, brain brokers and others. Commercial real estate is the common element. She is on a mission to be sure. Busy professionals know they can own substantial commercial properties too, like apartments, self storage facilities and others and not have to do the work managing them. Passive investing is the key. Syndications are the typical method. Tax write offs are some of the biggest rewards. Ginny and partners find the deals, build a strong team and business plan, then offer the investment opportunities to passive investors. New episodes are released every Tuesday at 12, so watch for new releases. If you want to get involved, let us know. You need to get pre qualified to hear about most deals. See the show notes for contact information.

Hello. Hello. This will be part two of the due diligence checklist review. I'm Jenny Bowling and I am the founder and CEO of Pivotal Real Estate Investments where we look to help our investors build wealth and income through commercial real estate. It also improves communities. That's a big deal to me. I also like to improve property. I like to leave things better than I found them. That's the old girl Scout way, right? And I'm still very much oriented that way. So I have been going over this checklist. You can't see it too well. It's on my website, on the Pivotal Real Estate Investments website. And I just am talking through some of these because sometimes it's not so easy to know exactly what is meant by some of the questions. And so this is a checklist for passive investors to go through to find out if they really maybe feel good about an investment. It helps them to know what questions to ask. That way you actually might not see skip something. It's, it's a good, it's always good to use checklists. So I believe I left off at splits page eight. And so this, this checklist is 13 pages. So yeah, that was, that was the middle pretty much. And so on that when you look at the, the in case you didn't hear part one, the way this is set up on the margin, you can see what part of you can't see it on this camera. The review process we're in so there was for instance a part about financing, there was a part about the submarket and the sponsors. So this is about the profit split, very important part. So what normally happens now we're talking syndications. Now joint venture partnership is very similar as well. The way that you're usually looking at this, hopefully you heard part one. But if you're not familiar with syndications, just as a quickie overview, you usually have a property or it could be a business that is owned by an LLC. And typically there's two LLCs. This is funny, that own that one and one is the general partnership team and one is the limited partners. And so what happens is the private money that goes into a deal, the equity, the private equity is the part that is not financed. And so that is the largest part. Well, the financed is the largest part of a deal. Usually it's usually 65 to 80, even potentially 80% of a deal, maybe more depending on the deal. But limited partners own the next most part of the deal. So that capital that is raised is primarily through the limited partners. The general partners put money in as well, but the limited partners make the bulk of that private equity piece. And that's what makes it possible for other people to enjoy some of the benefits of owning these properties and getting the tax write offs. So that split between the general partnership and the limited partnership is what I'm talking about here. So I'm going to read the question. It's under key factors, split type. What type of split is on the deal? I should say probably, but straight, all profits are shared between the limited partner and the general partner, such as 80, 20 split, that's, that can be 70, 30, that can be all kinds of different splits. Okay? In a waterfall, all profits are shared between the limited partner, general partner to a certain level of percentage and then split again at a certain percentage. And I'm going to go into that on this next one here. It gets a little confusing, but bear with me on the split, that sudden split type. And then on the split here it says what is the split? 80, 20, 75, 25, 70, 30. And then the sample under it says 8020 means 80% for investors and 20% for the general partner. Now bear with me, there's one more part that's right here. It's right here. Preferred return. Does the deal offer a preferred return? Now this is what you want to be talking through to yourself as you're looking at deals. Preferred return pays investors first before the GP is paid. For instance, 7% preferred return, 7,525 split means investors will get paid 7% of the return first before the remaining is split, 75% to investors and 25% to the GP. So a preferred return means that the limited partners are going to be paid first before there's any split. That's the bottom line that you need to remember there. Now, sometimes there is a hurdle, so to speak. It could be that, for instance, you will get that preferred return up until a certain point, and then once you have also gotten back a certain amount of capital too, it may be that that split will change. So particularly it's used as an incentive a lot of times so that the general partnership team will more than exceed the expectations. And so then they would get more in the general partnership side of it is the idea. Okay, page nine. The hold term. How long is the hold term for the investment? Usually it's five to seven years, three to seven in some cases. But a lot of times we will look to refinance during that hold period to give some capital back. But you got to look at the plan and you have to remember that since we can't control the economy, there needs to be some flexibility. You don't want to get forced into a refi when the interest rates are too high. So minimum investment, usually the minimum is $50,000. However, there are operators who accept 25,000 as a minimum. And again, it just comes back to the team and what the investment is, what part of the cycle sometimes. So, next page. Cash on cash return. What does that mean? Now, a lot of this is also on the website under the real estate or Re101, under the Resources tab of the website and especially on some of these terms. But what percentage of cash on cash return is acceptable for you? Now, that's important for you to think about. If you put in for instance though, 100,000, will 5,000 a year or 7,000 a year of cash flow be acceptable to you? Because that's pretty much, well, 7, 6, 7, 8 9%. Cash on cash is pretty typical of these syndications for what's been going on over the last three, four years. Now, with the interest rate so high, it's been harder. So a lot of distributions actually have been on hold. And that's one reason you need to be ready to invest soon, because there's some good opportunity coming. So you need to learn all this so that you can be comfortable to pull the trigger when a good opportunity comes. The internal rate of return. How soon can I get my return based on time value of money? So if you could get paid sooner than later. If you. Even with the same return amount, the IRR internal rate of return is affected. The higher the number the better. Makes sense, right? It means you get your return faster or sooner than later. I think that that's probably pretty understood by most people. I think then the total return. What is the total return of my investment at the end of the holding period? So you take what your return is and divide by the investment and so your equity multiple. Assuming the deal were to be exited at some point, and usually at some point they are, you got to look at the ppm and what that hold period is and all. But it's the amount of money made or the equitable equity multiple. I'm sorry equity of your investment. For instance, $100,000 invested five year hold would get 6,000 a year as the pref. Right proceed proceeds is 71,000 to you. Let's say that would make it an equity multiple of 2.1. It means you put 100,000 in, you put, oh, you got 210,000 back in total return during the holding period, including the sale proceeds upon the sale of the property. So you've got the 30,000 plus the 71,000 and then you get your 100,000 back as well. So that is the 210 over 100,000 or 2.1 equity multiple. There's actually a typo in there or mathematical glitch, but it's only a sample. Hopefully you'll follow that distribution frequency. You want to know if it's monthly or quarterly. The initial and that's just mailbox money. It goes straight into your account, whatever designated account you want. Some people prefer to do it monthly and some teams do it quarterly. Again, it may depend actually on the property type and cash flow. The initial distribution, you want to know when that will be. Want to know when you can get that first money back. Right. So often it's two to three months, maybe longer because there's a transition period when you're taking over the property. Could be there's cash flow immediately on the ground. Up on the new construction you could go two years without a distribution. So you need to know what you're buying and what your time horizon is on distributions. Asset management fees. What will be the asset management fee? This is the ongoing fee for managing the asset and that's usually 1 to maybe 3% depending again on how. How labor intense it will be. If you've got affordable housing or you got a lot of vouchers, government type in or coordination that needs to go on it may be higher the acquisition fees. What will be the acquisition fee is what it says one time fee payment to the general partnership upon acquiring the asset. That's kind of like a due diligence fee in some ways. It's all that go. You know, it's a, it's a kind of compensation to pay for all the effort and time that's gone into acquiring an asset. There's hundreds of properties that we look at before we can find one that's going to be suited to bringing in investors. And so there isn't money paid for us for a lot of time. So that acquisition fee is to hold us for a while too. We have to have other income obviously too. But that does help quite a bit. And it could be 1 to 3%. I've seen 4% at times. Two actually seen a little more than that. But it's, it's comparable to a commission, I guess you could say any other fees might be property management fee over and above or project management fee over and above the asset management. Especially if there's a lot of rehab that needs to be done. You may have a general contractor that you are either acting as or working with. And so you just have to look at what that is. And if you're buying into a fund, it's a fund management fee, which is like the due diligence fee too because again, we go through a lot of scrutiny with these investment opportunities and a lot of them don't, they don't pan out. They don't meet all the criteria that any one of us might have. And I appreciate especially I'm very conservative. So there's a lot of them that don't pass. It's. I don't use just this checklist. This checklist is for passive investors. As a guide we have something way, way more detailed. So under the strategies, does the sponsor have a business plan created? They better. It is reasonable given the current market situ. Is it reasonable such as Covid a rehab budget and any other conditions you just might need to make sure it makes sense to you. It may be that you're buying a core plus asset that's going to have very little that needs to be done. And if that's the case, you will know that there's not a lot of change that's going to happen. It's more of a yield play. You're counting on appreciation. And so hopefully you are in a hot market in a case like that. So you need to pay attention to what the strategy is. And that would be enumerated in the business plan. And you always want to look at the operating agreement and the private placement memorandum that was reviewed earlier. That is critical. You have to read it and sign that. You read it. You really need to understand it because it talks about a lot of the things that you need to understand. So, and then so on the, under the strategies, we stress test these. So there's a stress test question here. What type of stress tests have been used on the deal? You should ask that. So for instance, we could test at lower rates, higher vacancy, a higher loan interest rate, longer hold period, higher exit cap rates. There's a lot of different things that we do to try to make sure that the returns will still be good enough to proceed with the acquisition. What is the exit strategy? What conditions and how does the sponsor plan to exit the deal? They should have a couple options. You know, there's always holding, continuing to hold. Sometimes you could be doing a conversion, a hotel conversion on some of these projects and they could convert to condos where you're selling them. I mean, you want to know what's going on on these properties. Very different from a REIT in that sense. You get to decide if you want to participate in these. So in the investment type, what can you use to invest? Cash. Just regular cash is usually the easiest. But a lot of people use their IRA money. But you can't just use it if it's sitting at like your employers or it's been maybe rolled into a Fidelity or Schwab account because they don't have the wherewithal to have you invest in an outside real estate account. You have to actually take it out and put it with a custodial type company that professionally manages those funds and or maintains the accounts for those. They don't manage them. Some, some may, but I'm not aware of any. It's more of a depository, a repository and you decide what you're going to invest in. Some people use them to lend money to others, some people use them to invest in collectibles. You can do a lot of things with a self directed ira. It still is called an ira, but you are directing what's going on with it. So we'll do some more training on that. So liquidity, these are usually not liquid. There's, there's not a lot of options out there for that to occur. There's just the expectation that it's going to be a liquid for the holding period and you need to know that depreciation. Will cost segregation study be completed on the property Usually they are because there's accelerated depreciation you can pass on to the investors and that can be very helpful. So what are the important dates? You want to know the important dates? Usually there's a conference call or a webinar where we go over the asset and explain what's going on and what the business plan is is and so you'd want to attend that or get a recording of it. There's usually a deadline for commitment date and then there's the funding date. These can go fast, potentially especially as these better deals are coming up right now. I am in October, the end of October 2024. There's a lot of stress in the market. There's a lot of deals that are going back to lenders or being undergoing loan modifications and things. So there is more and more that is coming on the market over the next 12 to 24 months potentially. So don't miss the opportunities. If you have to move some money into a self directed IRA that can take a month or more, believe it or not, sadly, especially if you have to liquidate some investments. So just know that. So there will be a funding deadline. You can do a soft commitment and then while you're getting hold of your money then that amount, that spot, that amount of investment, it might be a hundred thousand, maybe you'd like to put 200,000 into an investment that will be held for you. If you do a soft commitment with most sponsors with me for sure. Assistance, if you need assistance or have questions, there are people myself of course, and then actually on these portals they're usually pretty good. I use Cash Flow Portal but I've been in syndication pro Juniper Square and there's a lot of AMA besters out there. There's, there's quite a few and so just speak up if you have questions because it's important that we help make sure that your money is going the right place. There's a lot of fraud out there. You do not want to take wiring instructions from somebody you don't know. Never trust it. If you get an email or a text message telling you that the account's changed and that you now have to wire your money someplace different. Get on the phone, make sure you're talking to the right people and verify, verify, verify. Don't just send your money because someone told you a place changed for where you should do it. So hopefully that helps. And always let me know if you have questions and I hope you'll invest with us soon. Thank you.