You have probably heard of REITs and wondered what’s the difference between that and a syndication. They seem pretty similar on the surface, Real Estate Investment Trusts (REITs) and Real Estate Syndications both offer passive opportunities for exposure to the real estate market, but are quite different in their structure, benefits and the way they operate.
In this blog, we’ll explore some differences between REITs and Real Estate Syndications, and help you understand which option might be best for you.
What is a REIT?
A Real Estate Investment Trust (REIT) is a company that owns, operates, or finances income-generating real estate properties. REITs are traded on stock exchanges and provide investors with the opportunity to invest in a diversified portfolio of real estate assets. REITs pay out most of their earnings to shareholders in the form of dividends.
One of the primary benefits of investing in a REIT is that it offers liquidity. Investors can buy and sell shares in a publicly traded REIT on the stock exchange, providing flexibility and ease of exit. Additionally, since a REIT is a company that purchases multiple properties, buying shares gives some form of diversification. Finally, REITs may offer higher yields than traditional stocks and bonds.
However, there are also some downsides to investing in REITs. The cashflow (or dividends) investors receive are considered ordinary income and thus taxed at your highest tax bracket. Investors don’t receive traditional benefits of real estate such as depreciation.
Additionally, REITs are under pressure to deploy investor capital quickly. This can lead to ultimately overpaying for properties, instead of waiting for the best deals… at their investors’ expense.
Shares of a REIT may be subject to market volatility, as the value of the shares can fluctuate based on the performance of the overall real estate market. Finally, some REITs may have high fees, which can eat into the returns of investors.
What is a Real Estate Syndication?
A Real Estate Syndication is an investment structure where a group of investors pool their money to purchase a large real estate property (such as an apartment building) that individual investors wouldn’t have been able to purchase on their own. The investment is managed by a sponsor (aka syndicator, operator or general partner) who is responsible for acquiring, renovating, and managing the property.
Real Estate Syndications are typically structured as limited partnerships and are considered passive investments. In return for their capital, investors receive a share of the property’s income and appreciation but have none of the management responsibilities. Syndications are private offerings and are not traded on stock exchanges. Investors must seek out active operators who offer syndicated opportunities.
One of the primary benefits of real estate syndication is that investors have more control over the investment. Investors can choose which properties and markets to invest in and the type of strategy that fits with their investment goals. Additionally, syndication deals can offer higher returns than traditional real estate investments, as the sponsor is able to take their time analyzing multiple properties to find the best deal possible with a value add component.
However, real estate syndication also comes with risks. Investors are typically required to have a large amount of capital to invest and the investment is illiquid, meaning they should not expect to be able to sell their stake in the property if they need to liquidate their investment. Very rarely can an exception be made. Additionally, if the sponsor does not underwrite conservatively, investors may be responsible for unexpected expenses or losses if the property does not perform as well as expected. A capital call is when the limited partners are called on to provide additional capital to the investment. But this is a worst-case scenario for sponsors and they try to avoid capital calls at all costs.
Now let’s break down the differences between REITs and Real Estate Syndications,
1. Liquidity: REITs are publicly traded and therefore offer a higher level of liquidity compared to Real Estate Syndications. This means that you can buy and sell REITs on the stock market at any time, whereas limited partnerships in Real Estate Syndications have limited liquidity.
2. Diversification: REITs offer a higher level of diversification compared to Real Estate Syndications as they typically own multiple properties. This reduces the risk associated with a single property and provides a more balanced portfolio.
3. Passive vs Active Investment: Both REITs and Real Estate Syndications are passive investments (unless you are the sponsor in a syndication). You do not have any involvement in the day-to-day management of the properties and have no voting or decision making capacity.
4. Return Potential: Real Estate Syndications have the potential to generate higher returns compared to REITs. This is because they offer a share of the property’s income, appreciation and tax benefits, whereas REITs pay dividends based on their earnings and typically have higher overhead expenses.
5. Accessibility: REITs are more accessible to the general public compared to Real Estate Syndications. This is because REITs are publicly traded and can be bought and sold by anyone with a brokerage account, whereas Real Estate Syndications are private, require larger capital investment and typically investors need to know a sponsor.
In conclusion, both REITs and Real Estate Syndications have their pros and cons and the choice between the two will depend on your investment goals, risk tolerance, and investment experience.
In either case, it is important to do your due diligence and research the investment and the sponsors thoroughly before making a decision. Consulting with a financial advisor or real estate investment representative can also help you make an informed decision.