Private equity real estate funds have been popular in recent years, although they aren’t entirely new. Real estate syndications have been around since the 1920s, with some of the most ancient examples dating back to 1926. REITs (Real Estate Investment Trust) and private investments are two types of real estate funds. Both private investment funds and real estate investment trust (REITs) investments allow you to invest by pooling your capital together with a group of other individuals.
Investments in the real estate industry, commercial or residential, have long been classified as alternative investments, but the overall concept of earning passive income, either through direct ownership or inside real estate mutual funds, is fast becoming more conventional. With home prices rising, the growing cost of raw materials and lumber, and labor shortages across the board, many individuals are no longer able to afford an entire piece of income property. Most investors are turning to small multifamily or other hands-off types of commercial real estate properties as a result.
A more cost-effective approach to get into commercial property real estate investments may be found through real estate investment funds. Real estate funds appeal to investors who want to invest in commercial property real estate assets but would rather be passive in their investing techniques.
Investors pool money to purchase assets within the real estate investment fund. The fund’s sponsor then directs all of the fund’s operations, including private real estate investments and property management. If the fund purchases and renovates or buys and holds property for an extended duration of time, the sponsor team will need to make stronger efforts in property management.
Real estate funds are a fantastic strategy for individuals who want to generate passive income by investing in the real estate industry but don’t want to be responsible for the property. Real estate funds can also be a great strategy for larger investors who want to diversify their assets. Real estate investment trusts (REITs) and private real estate investments are two of the most popular types of property fund structures available today.
Below, you will find private equity real estate funds explained, including their benefits, the structure, profits, returns, your options as an investor, and more!
What Is A Real Estate Fund?
Private equity is a type of funding that’s provided by companies or individuals in exchange for ownership, but what’s it used for in the real estate industry specifically? Real estate private equity is money that’s raised by a company to invest in income-producing properties. The company raising the equity is usually a developer, owner, or manager of commercial and/or residential properties.
Individuals who are interested in generating passive income through real estate investments may find private equity to be a more lucrative type of real estate investment. Real estate funds are used for all sorts of projects, whether that means buying new properties or renovating old ones. Private equity investors participate in the creation and development of buildings, which can yield strong returns over time compared with other types of investments.
Real estate funds are a mutual investment entity. Mutual investments allow investors to invest any amount of money they choose toward numerous properties at the same time, regardless of the property-to-capital ratio. This way, investors circumvent the need to have the entire capital amount that would be required to invest in whole properties as an individual. Investors can purchase a portion of several properties in the form of shares.
Investing in a real estate investment fund provides you the chance to invest in real estate assets that have been pooled together in alignment with a variety of rules and regulations according to the target results desired. Real estate investment funds come in all shapes and sizes, but are typically either open- or closed-ended.
An open-end fund is one that continually allows investors to place money into the fund as new properties become available for purchase. Closed-end funds have a set number of shares that are offered during an initial public offering (IPO) and do not allow any more investors to join afterward.
Types of Real Estate Funds
As you consider investing in a real estate investment fund, you will notice there are two main types. The first type is a private equity real estate fund. Private equity funds are not open to the public and have more restrictive membership criteria, such as high net worth or institutional affiliation.
The second type is a Real Estate Investment Trust (REIT). Real estate investment trusts are publicly traded. Although there is a cost to the investor, REITs offer liquidity and can provide diversification within your portfolio.
There are different kinds of real estate investment funds, including dividend-paying real estate investment funds, which are similar to mutual funds. These funds combine money from real estate investors and give them the opportunity to explore a wide variety of real estate, asset class divisions, and fund structures, each real estate investment fund with its own targets. For example, some real estate funds focus on large residential properties, while other funds might be focused on commercial properties that can be renovated and sold quickly.
The most common type of real estate investment fund is the private equity real estate fund, which is a closed-end fund that raises money from accredited investors and invests it in commercial and/or residential properties. Real estate investment funds can also be structured as REITs (real estate investment trusts), which are open-end mutual funds that can trade on a stock exchange.
Rules for each real estate fund vary. But generally, private real estate funds offer investors the chance to invest in real estate projects at a lower price point, maintain liquidity since shares can be cashed out early, and, of course, the opportunity to earn passive income when rent is paid on the properties and when the value of the real estate increases.
Whether inside a private equity fund, real estate mutual funds, or REIT, investors do not have direct ownership of the real estate assets. Similar to other corporate entities, REITs provide shareholders with a way for investors to pool their money into numerous commercial real estate assets that are then managed by an experienced team of professionals (the fund sponsor).
The difference between investing in a Real Estate Investment Trust and other typical mutual funds or traditional public companies is that REITs must distribute much of their cash flow back to investors as dividends because they do not pay corporate taxes. This provides you with income on the money you’ve invested in these real estate funds, which can be high-yielding depending upon your investment strategy.
Real Estate Funds vs REITs
A real estate fund is pretty much another form of a mutual fund, except it is focused on investing in the securities public real estate companies offer. Real estate investment trusts are a type of real estate fund, but they are traded on the stock market and offer investors liquidity. So an investor could buy and sell shares in a REIT quite easily, while a real estate fund would not be as liquid.
These real estate mutual funds differ from real estate investment trusts or REITs. Real estate mutual funds are exempt from registration with the Securities and Exchange Commission or the SEC, and they are exempt under what is known as Regulation D, Rule 506. Real estate funds are also exempt from state regulation.
REITs are corporations that invest directly in commercial real estate, and when you invest in a REIT, it is like buying stocks in the company that owns and traces the properties. REITs and other securities have to be registered with the SEC. They can seek exemption from the SEC, but this process is costly, complex, and time-consuming, therefore not typically done.
The best way to determine which type of real estate investment you want to make is by understanding what your goals are, how much capital you have available to invest, and the types of properties you prefer.
How To Invest In Private Equity Real Estate Funds
Once you connect with a firm or sponsor who is offering an investment opportunity, you have a couple of choices as to how you can invest your capital. You can either send money you’ve saved in a highly accessible account or you can invest using your retirement savings.
Wire Liquid Funds
If you’ve saved your investment capital in a highly-accessible, highly-liquid savings or another bank account, you can simply wire the entire investment amount to the sponsor, according to the instructions provided in the investment documentation. The sponsor will then buy shares in the fund on your behalf and list them in an account that is maintained at the transfer agent.
Self-Directed IRA Funds
The self-directed IRA is one of the most popular ways to access real estate investment funds. This version of an IRA isn’t much different from a Roth IRA. Self-directed IRAs are more popular because they allow investors to invest in a wider range of assets, such as real estate investment funds.
Traditionally, brokerages do not allow investors to invest money in non-traditional investment possibilities from a Roth IRA, Traditional IRA, or 401K. As a result, investors interested in a real estate fund strategy may need to transfer funds from their existing, likely traditional brokerage account to an IRA custodian that offers self-directed investing choices.
The main benefit of investing in a real estate fund instead of buying and managing an investment property is it allows the investor to diversify their portfolio and still keep a hands-off approach. Investors should remember that self-directed IRAs are self-directed, which means it is 100% up to the individual to do their research and conduct thorough due diligence, find good sponsors, and explore potential opportunities and risks prior to investing in any fund or other alternative investment.
Who Qualifies to Invest In A Real Estate Fund?
There are a few qualifications that investors need to be aware of before they decide if this investment choice is right for them.
Depending on the qualifications that fund management outlines, real estate funds may require that you have a net worth of at least $250,000 and that you contribute an initial minimum investment, which can range from $5,000 to hundreds of thousands of dollars, depending on the size and type of fund you’re investing in. Many real estate funds will also have a maximum investment amount, and some will be open-ended.
Real estate funds typically require a minimum investment period of one year or longer, although there are also “opportunity zone” real estate funds that allow for turnover in under two years. Real estate is typically considered an illiquid investment because it takes time to sell the property and receive your capital back out of the fund so investors will need to be prepared for this type of timeline.
REITs typically have much lower minimums and will allow you to buy in with a much smaller investment. They’re more accessible, generally listed on public exchanges, and available for investment inside most standard retirement savings accounts.
You gain from the fund sponsor’s qualifications, connections, and experience when you invest in real estate funds. The sponsor is often a sector expert or group with extensive expertise in managing real estate investment opportunities. They’ve already performed detailed due diligence on the properties included in the fund, the market, and analyzed the projections extensively.
Sponors will provide investors with thorough financial information to evaluate and evaluate prior to asking for financial commitment to the fund. They will also be accessible and delighted to answer any questions about the fund’s strategy or how it will be a success for investors. Keep your eyes and ears open for any calls, webinars, or presentations in regard to the fund, as this is an excellent opportunity to get to know the team and the strategy on a deeper level.
The fund manager is in charge of all aspects of the fund’s day-to-day operations, allowing investors to invest without being concerned with each transaction made through the fund. This includes finding new opportunities, underwriting them, negotiating deals, and managing the property after it is acquired.
Benefits of Investing in Real Estate Funds
Investors should carefully consider their options when choosing where to invest their money. Real estate funds offer a way for investors to get into the real estate market without having to purchase and manage an investment property themselves.
Real estate funds often provide higher than average, consistent returns, that are independent from the stock market’s fluctuations, further proving that investing in real estate is a dependable way to generate revenue and profits over time. In general, real estate investing allows you to diversify your portfolio instead of having all of your eggs in one basket like if you were to buy an investment property or focus on stock market investments alone.
Investing in real estate funds also gives you access to the real estate market without the hassle of being a property owner or manager. You can pick and choose from different types of real estate investments without having to do all the research yourself – the fund’s sponsor will have already done that for you.
You combine your money with other investors to buy a set of similarly rated assets in different locations using real estate funds. You may also diversify your holdings by purchasing shares in multiple funds. You can even diversify across asset types, markets, and appreciation profiles by buying shares in different funds. Diversification lowers risk while increasing the potential for greater returns for investors.
Most real estate investment funds are designed to pay investors back before the fund’s sponsor makes any money. As a result, the sponsor is under great pressure to ensure that the transaction meets its intended profit goal. The structure of investments is designed to maintain the interests of the sponsor and their investors in alignment.
Most funds are structured to last longer than one year, meaning they will be taxed as long-term capital gains instead of short-term. Real estate funds also allow you to invest in real estate without worrying about depreciation.
Investors may benefit from pass-through depreciation, and the tax benefits will rest on the investor’s shoulders and be driven by their circumstances. Real estate funds offer investors a way to defer taxes on their share of income and capital gains until they actually sell their shares in the fund.
When it comes to preferred return, the investor is paid first. If it’s a cash flow fund, investors will receive their distributions throughout the life of the investment. This sort of return is necessary because you’ll be paid before the professional manager, which is crucial when dealing with higher-risk assets.
Will Your Next Real Estate Investment Be In A Fund?
There are many reasons people decide to invest in real estate and an additional list of reasons they might decide to invest in a real estate fund. Real estate investment funds are a great way to diversify your portfolio without having to take on all the hassles of owning property directly.
Not all funds are created equal, and you always want to do your research and due diligence before investing in a particular real estate fund. Be sure to vet the fund’s sponsor, management team, and explore the fund’s track record. Evaluate the fund’s targeted returns, then determine if you believe in or agree with their strategy and how long it will take to hit their target metrics.
As with any investment, research the opportunity thoroughly. No investment comes without risk, and no investment is foolproof. But the more you know about how the fund is structured, the team running it, and the assets that are inside the fund, the more likely you are to invest your hard-earned money in a profit-making machine!