Investing Fundamentals

Rental property investing is an investment strategy for investors who want an additional source of monthly income along with a slow but steady appreciation in the value of their portfolio. When it comes to residential real estate, there are two main types of properties that one can invest in: single-family and multi-family.

As the name implies, single-family properties are residential buildings with only one available unit to rent, while multi-family properties, commonly known as apartment complexes, are buildings with more than one rentable space. While single-family investing poses fewer barriers to entry, there are a multitude of advantages when investing in large residential complexes. 

Here are three reasons to consider investing in multi-family real estate as opposed to single-unit rental properties.

  • Multi-family is more expensive but a lot easier to finance. It might seem that securing a single-family a loan would be a lot easier than raising money for a million-dollar asset but the reality is that a multi-family loan is more likely to get approved than a non-owner-occupied home. 
  • Multi-family real estate consistently generates strong cash flow every month. This remains the case even if a property has a handful of vacancies or tenants who are late with their rent. By contrast, if a single-family tenant moves out of a home or if the tenant is late with rent, the owner is stuck making the mortgage payment. 
  • Consequently, the likelihood of a foreclosure on an apartment building is not as high as a single-family rental. All of this equates to a less risky investment for a lending institution and can also result in a more competitive interest rate for the property owner. 
  • Growing a portfolio takes less time. Multi-family real estate is very suitable for property investors who wish to build a relatively large portfolio of rental units. Acquiring a 20 unit apartment building is a lot easier and much more time-efficient than purchasing 20 different single-family homes.
  • Multi-Family Investing Makes Better Financial Sense. Many investors who own single-family homes do not have the luxury of contracting an external manager because it is not financially feasible due to their small portfolio. The amount of money that multi-family properties produce each month allows their owners room to hire property management services without significantly cutting into their margins.
  • Tax benefits including depreciation and cost segregation,
  • Equity build-up through having someone else paying down the note and 
  • Significantly better cash-flow. Real estate is a tangible asset, and they aren’t making any more land. 

In total, real estate investing fits the five must have for any investment: need, entry, control, scale, and time.

Real Estate Private Equity (REPE) firms raise capital from outside investors, called Limited Partners (LP’s) and then use this capital to acquire, develop, operate, and improve properties which are eventually sold to realize a return on investment. These outside investors or LP’s might include pension funds, endowments, insurance firms, family offices, fund of funds and high-net-worth individuals. REPE firms usually focus on commercial real estate – offices, industrial, retail, multi-family, and specialized properties like hotels – rather than residential real estate.

In its simplest form, a syndication is a pooling of investor capital – the Limited Partners (LP) - to take advantage of economies of scale when purchasing a large commercial asset. Syndications are an effective way for investors to combine resources with an experienced sponsor – the General Partner (GP) - to purchase properties that are much bigger than they could afford or manage on their own. 

Private equity real estate is typically capitalized via a Joint Venture (JV) between a General Partner (GP) and a Limited Partner (LP). The two parties can be defined as follows: 

  • The LP Investor is typically an individual or group that would like to invest directly in real estate but lacks the expertise or infrastructure to do so. The LP investor is the "money partner" and in many structures contributes 90% of the required equity in a project. 
  • The GP Investor is a Developer/Sponsor that has the required expertise and infrastructure to invest directly in real estate, but generally lacks the sufficient capital to do more than one deal. The GP typically contributes the remaining 10% of the equity needed to fund a project, but also takes on the day-to-day management of the asset. 

Ultimately, the structure is a matter of convenience. Neither partner has what the other does. Indeed, the LP either has equity or can easily raise it and the GP has the skills to execute the business plan. Simply, the LP investor is passive equity while the GP Investor is doing the heavy lifting to earn their share of the deal. This lift typically includes: 

  1. Deal sourcing / underwriting
  2. Negotiating deals 
  3. Establishing relationships with brokers / sellers
  4. Conduct due diligence and negotiate a purchase & sale agreement
  5. Secure financing
  6. Act as the guarantor of debt (typically personally with some degree of recourse) 
  7. Act as the property manager (leasing, maintenance, etc). 
  8. Conduct regular assets management (e.g. tracking property performance, etc) 
  9. Execute the business plan (e.g. value-add redevelopment) 
  10. Focus on delivering superior investment returns. 

With the GP doing "all" of the work to improve/manage the investment property, it is reasonable to expect the GP to earn a disproportionate rate of return than their pro-rata equity contribution would calculate. Remember, a GP is putting in just 10% of the required equity - so why would they do all the work if they don't stand to benefit? What's more, the LP wants the GP to remain focused on creating value - keeping costs down, growing revenues, etc. 

The disproportionate share of returns is typically calculated using an Equity Waterfall, which may be as simple as a cash flow split above a certain preferred rate of return, or as complex as several IRR hurdle rates. We typically prefer a simple split of 80/20 above the preferred rate of return.

The split defines the investment returns that go to the investors after the Preferred Return (typically 8%-10%) is first paid. Also known as a Waterfall, splits are generally structured according to uniform standards practiced in the industry. 

The split structure is intended to create a hurdle rate which is a percentage of the invested amount that LPs must receive before performance fees can be received by the general partner. Performance fees motivate the private equity firms to generate superior realized returns and are intended to align the interests of the General Partner and its LPs.

A preferred return - often referred to as a ‘Pref’ – is a sophisticated strategy to protect capital and incentivize general partners to produce a quality investment. Sometimes called an investment hurdle or first money out, a preferred return is a way to protect the capital of limited partners by letting them get paid first. The pref is a distribution from cash flow or capital events such as refi proceeds or a sale that are given to preferred investors in a project. The preferred investors will be the first to receive returns up to a certain percentage, generally 8% to 10% and once this percentage is reached, the excess profits are split among the rest of the investors as agreed upon in negotiations. 

Purchased, financed, and managed correctly, your risk exposure is greatly limited. In most investments, risk exposure is less than equity and bond markets. SGRE takes significant steps to mitigate risk in our projects. Even then, when something unexpected happens, we let you know immediately and work closely with our team to resolve the issues as quickly as possible.

Although multifamily properties are among the safest commercial real estate investments available, there is always risk in any investment. To mitigate risk, we purchase our assets “below market” and use our own property management team to increase income and reduce expenses. Since strategies are straightforward, success is often determined by the competence of the team executing the plan. Our in-house team of over 100 members manages every property we purchase, making sure costs are contained and execution is performed as we intend.

Since the goal of real estate investing is to realize a profit, no one is motivated to sell in a down market. Our strategy in this scenario is to continue to pay our investors a preferred return and hold on until the market is healthier to achieve a better sale price. Since we only invest in Class B/C value-add properties, our opportunities tend to hold their value in downturns as our workforce demographic profile is always in need of a place to live. Our investment thesis is that down markets, renters move from A Class to B Class and B Class to Class. As a result, the entire available renter pool is fleeing our way and our properties remain fully leased. This thesis has held true throughout the pandemic – arguably the worst economic event of the last 150 years.

Absolutely but that is why it is so rewarding! Investing with an experienced team like SGRE is a LOT easier, safer and financially more profitable!

Absolutely. You will be a partial owner of a tangible asset with a street address. You can drive up to and see the property. As a Limited Partner, you will receive the benefits of owning real estate including shared cashflow, tax advantages, and appreciation. 

The cap rate is a ratio of the annual net operating income (NOl), which is simply gross rents received less expenses, and the current market value. The cap rate is based on factors such as type of property, macro influences (market location) and micro (based on submarket and asset condition). Once the NOI and cap rate multiple of a specific area and asset class is known, then it is simple exercise to estimate the value of an asset.

All commercial real estate valuation is based on NOI. As such, properties with higher NOI are more valuable than equivalent properties with lower income. Value-add investing seeks to capitalize on this concept by uncovering untapped revenue potential and creating additional cash flow through property upgrades and renovations and then locking in gains by selling the property at a pre-determined point in the future. This is a classic ‘Upgrade and Trade’ strategy.

Cost Segregation is a commonly used strategic tax planning tool that allows companies and individuals who have constructed, purchased, expanded or remodeled any kind of real estate to increase cash flow by accelerating depreciation deductions and deferring federal and state income taxes.

When a property is purchased, not only does it include a building structure, but it also includes all of its interior and exterior components. On average, 20% to 40% of those components fall into tax categories that can be written off much quicker than the building structure. A Cost Segregation study dissects the construction cost or purchase price of the property that would otherwise be depreciated over 27 ½ or 39 years. The primary goal of a Cost Segregation study is to identify all property-related costs that can be depreciated over 5, 7 and 15 years. For example, certain electrical outlets that are dedicated to equipment such as appliances or computers should be depreciated over 5 years.

Bonus depreciation is a tax incentive that allows a business to immediately deduct a large percentage of the purchase price of eligible assets, such as machinery, rather than write them off over the "useful life" of that asset. Bonus depreciation is also known as the additional first year depreciation deduction. The Tax Cuts and Jobs Act, passed in 2017, made major changes to the rules on bonus depreciation. Most significantly, it doubled the bonus depreciation deduction for qualified property, as defined by the IRS, from 50% to 100%. Formerly it applied only to property bought new but the 2017 law also extended the bonus to cover used property under certain conditions. The new bonus depreciation rules apply to property acquired and placed in service after September 27, 2017, and before January 1, 2023, at which time the provision expires unless Congress renews it.

We believe that informed investors are our best investors. That is why we are committed to giving you the tools you need to learn how real estate investing can help you reach financial freedom and create generational wealth. We have built this website to empower you through constant educational content while providing opportunities to grow your wealth. Our investors provide strategic value, not just capital.

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