Private funding of real estate deals has been BLOWING UP this year. You just have to scan the headlines to see the words “private equity” and “private funding” everywhere. This article from NREI.com is titled “Opportunistic Real Estate Funds Hit Cyclical Record”. Another article says, “Private Equity Racks Up Checkered Record in Retail Buyouts”. If you read through our local news like Grand Rapids Business Journal, you will see a lot of movement in our local apartment market as well. Over the next few blogs, we will be defining private placement, asking why to invest using this vehicle and discussing what to look out for before investing in a deal.
Before we get into defining private placement, we must inform you that we are not attorneys or accountants. This blog is here for your information and is not intended to be legal or tax advice.
What is a Private Placement?
A private placement is a private offering where investors put money in a deal that is presented by a sponsor. Accredited and/or non accredited investor’s funds are compiled together to invest in larger deals. It should not be mistaken as a Real Estate Investment Trust (REIT). Although the term Private Placement can be used in a variety of investments, for this blog series, we will discuss Real Estate only, so the investment vehicle could be multifamily, office, retail, resort property, group of single family homes, etc. In the next blog we will discuss the benefits of private placement over other real estate investment vehicles.
Keywords:
These are terms that are often used when describing and discussing a private placement. Many of these terms are interchangeable between other types of investments, but it’s important to understand what they mean when pertaining to private placement in real estate.
- Sponsor: Also called a promotor or syndicator. This is the entrepreneur or team putting together the investment.
- Executive Summary: Also called a Prospectus. This is the initial Marketing tool presented to prospective investors about a deal. It describes who the players are, what the deal is, the yield, the market, etc. It’s important to note that this is not a legal document. It doesn’t contain the full set of risk disclosures, but it still must avoid anti fraud provisions (misrepresentation, “pie in the sky”). This introduces the deal without providing every detail about it.
- Private Placement Memorandum: First of all, this is NOT an exciting marketing document. With this document, you can tell if they hired the right attorney because it will be boring, detailed, and contain disclosures and legal wording that is required by federal securities law. It tells all the ways you could lose your money. It is important to read and understand this document, but don’t waste your time with it unless you liked the Executive summary and want to move forward.
- Accredited Investor: This is defined by federal securities laws. Seen by the government as a less risky investor. They are considered more sophisticated, seasoned investor. They have a net worth of over 1 million excluding the value of their primary residence. OR they have income of at least $200,000 each year for 2 years and will make the same amount this year. You can also include a spouse in this amount and the number jumps to $300,000 year.
- Non-Accredited Investor: Seen as a higher risk investor because the investment is most likely a higher percentage of their income. They could be more problematic in a deal because they are less sophisticated and less practiced.
Stay tuned for our next blog on the benefits of investing in Private Placements!