Real estate syndication allows everyday investors to team up and buy larger investment properties – ones we couldn’t purchase solo. The sponsor finds the deal, raises capital, and manages the asset so passive investors like us can collect returns without the day-to-day headaches.
In my own experience, I’ve invested in over 40 syndicated deals across multifamily, land development, car washes, built-to-rent, mixed-use and more. My total investment is over 7,000 units, providing quality housing for thousands of tenants. And my portfolio has grown to a value of over $600 million, thanks to successful sponsorship partnerships.
But how exactly do these sponsors earn their keep? I’m going to break down the three main types of fees sponsors make. I’ll also share stories I’ve seen firsthand and things to watch for when assessing fees. Grab a coffee and let’s dive in!
Acquisition Fee – Paying for the Sweat and Sleepless Nights
The upfront acquisition or “promote” fee is like the sponsor’s reward for hunting down a promising investment opportunity. This fee is generally 1-3% of the total equity raised to buy the property.
For example, let’s say a sponsor finds a 200-unit apartment complex for sale in a growing suburb. They crunch the numbers and determine they can make the deal work with $5 million of investor equity. With a 2% acquisition fee, the sponsor would earn $100,000 right off the bat at closing (2% of $5 million).
This compensates them for the many late nights spent searching listings, running financial models, and glad-handing the seller to put the deal together. I don’t know about you, but after months of stressing about finding the right property, I’d welcome a nice payday too!
Asset Management Fee – Keeping the Engine Purring
Ok, the property is purchased – now it’s time to start smoothly operating and improving it. This is where the asset management fee comes in.
The sponsor earns this fee (typically 2-5% of gross revenue) on an ongoing basis to handle critical ownership duties: property maintenance, tenant relations, recordkeeping, mandated reporting, annual budgets, etc.
Going back to our 200-unit apartment example, let’s say it generates gross income of $1.5 million each year in rent. With a 4% asset management fee, the sponsor would get $60,000 annually for their effort ($1.5 million x 4%).
This gives them skin in the game to keep the property humming. Stuff breaks all the time, and cranky tenants call at 2 a.m. – so sponsors have to stay on top of it!
Refinancing/Sales Proceeds Split – Sharing the Fruits of Their Labor
Finally, the sponsor earns a slice of the “promote” or profits when the property is refinanced or sold. Since their effective management helped boost the asset value, they get to reap some of the rewards.
The promote might be split 70/30 or even 50/50 between the investors and sponsor on any profits after the original equity is returned.
For example, let’s say our property gets sold later for $8 million after investments totaling $5 million. The $3 million profit could be divided 60/40 – with investors getting $1.8 million and the sponsor $1.2 million.
Who wouldn’t want a $1.2 million payday after years of hard work? To me, that’s the sweet nectar that keeps sponsors motivated.
How Fees Get Sponsors and Investors Rowing in Sync
If I’ve learned one thing from watching sponsors in action, it’s that properly structured fees align everyone’s interests.
Sponsors are financially encouraged to find profitable properties to make their investors (and themselves) money. Satisfied investors mean more fees down the road when they reinvest in future deals.
It’s like sponsors have their hand on the faucet – the more effort they put into smart underwriting and skilled management, the more their fees can potentially flow.
Passive investors get to kick back and collect attractive returns. They benefit from the sponsor’s real estate know-how without having to change light bulbs or unclog toilets themselves.
When done right, the fee waterfall is a win-win to keep all parties rowing in sync toward higher returns.
Some Common Investor Concerns Around Fees
While fees incentivize sponsors, some investors worry that sponsors may get outsized rewards relative to the passive investor returns.
Some concerns I’ve heard from investors over the years include:
“That Upfront Fee Seems Too High!”
It’s true – high acquisition fees take capital off the table that could be used to upgrade the property. To better align with investors, sponsors try to keep acquisition fees at 3% or less.
“They Want How Much to Manage It??”
Anything over 5% in annual asset management fees definitely raises eyebrows by chipping away at returns. I’d be skeptical of sponsors who charge more than 4%.
“The Promote Split Seems Unfair”
Some skeptical investors see promote splits below 60/40 as too sponsor-friendly since the investors shoulder the most risk. But there’s no standard promote split – it varies deal by deal.
“Why Are They Getting Paid Before My Preferred Return?”
Investors want to receive their minimum preferred return before sponsors receive fees. Make sure agreements clarify payment waterfalls.
As an investor, it never hurts to ask a few probing questions on fees. Just don’t accuse sponsors of “double dipping” to their face – that’s a quick way to kill rapport!
Evaluating the Sponsor’s Total Pay Package
Rather than nitpick individual fees, it’s wise to step back and look at a sponsor’s total compensation.
Higher fees may be justified if the sponsor is taking on more work and responsibility for larger or complex deals. Or if they deliver higher returns that amply reward both parties.
The bottom line is ensuring the sponsor’s pay is fair for their efforts while investors still earn strong returns. Finding that fee sweet spot takes some artful negotiation – think of it like a tango between the sponsor and investors.
Sponsors know they need to earn your trust to keep securing funding for future deals. Let them know you’re evaluating fee packages with your eyes wide open.
The Takeaway on Syndication Fees
At the end of the day, I think syndication fees make the relationship crystal clear. Sponsors get transparently paid for their 3 main contributions:
– Finding and closing the deal
– Managing the asset over time
– Boosting property value
In return, investors can earn passive yet solid returns without having to roll up their sleeves. Of course, make sure you vet the sponsor diligently upfront. But quality sponsors with skin in the game have proven themselves many times over. Understanding how syndication fees work gives you insight into aligning incentives and creating a mutually beneficial partnership. That way, everyone can share in the returns generated by thoughtful real estate investing. So next time you’re evaluating a deal, take a hard look at the fee breakdown. A little diligence today can lead to great operators and returns for tomorrow!
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