Five Exit Strategies for Real Estate Syndications

Navigating your way out of a real estate syndication or equity fund investment requires proper planning and strategic execution. There are five primary exit strategies to consider, each with its unique benefits and potential drawbacks. The first and most common method is selling the asset outright and then distributing the proceeds according to the agreed-upon terms in the operating agreement. The second strategy involves refinancing the property to pull out equity and distribute that cash to investors. However, this method requires careful valuation to ensure fair market value. A third option is recapitalization, which involves restructuring the capital stack to return some of the investors' capital sooner, thereby increasing the Internal Rate of Return (IRR). A fourth approach involves a 1031 exchange, but this can be complex if some investors want to exit the syndication. Finally, a merger or acquisition can provide an exit strategy, although this typically occurs with larger portfolios and requires careful planning and communication with investors.

Read more about real estate syndication - What Is Real Estate Syndication?: https://www.moschettilaw.com/what-is-real-estate-syndication/

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Moschetti Syndication Law Group is a boutique syndication law firm, serving small and growth-bound syndicators, as well as private equity firms. Our attorney, Tilden Moschetti, is determined to keep the firm’s ‘boutique’ size so we can tailor the services to each client’s unique needs without turning the firm into a faceless factory churning out private placement memorandums or passing unnecessary overhead expenses onto our clients. (As our client, you’ll only pay a fixed fee, so no surprises.) As for the client experience, we give real-time answers with Tilden Moschetti without making you book an official appointment or get passed along to associates or paralegals. We’ll work with your ambitions and overall vision to help you close the current deal and fill in that ‘missing’ piece – whatever you need – to keep adding more syndications to your portfolio. We keep syndicators syndicating (TM).

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Episode Transcript

(00:00):
Just how does a real estatesyndicator or a fund sponsor?

(00:04):
Think about the exit? How are wegoing to exit out of this
property? What is the mechanismsthat we can do that this video
is going to go through the fivedifferent ways of exiting out
getting your investors backtheir money?

(00:30):
My name is Tilden Moschetti. I'ma syndication attorney with the
Moschetti syndication Law Group.Let's go through those five
different ways in order to getout of a property to exit and
then get investors money havethat capital event occur. So the
first way is very clear cut,it's probably what you think of
first, well, don't we just sellthe asset? Yeah, that's exactly

(00:52):
what you do. You sell the asset.Now, whenever that happens, the
asset gets sold. The money'ssitting there. And now what do
you do with it, you just followthrough what you told them, Look
at the operating agreement, lookat the PPM look at everything
you've told them, and use thatlike a recipe. For example, if
you've got a waterfall structurewith a preferred return and

(01:13):
says, Well, first you giveinvestors the money back, then
you give a preferred return of8%, just making numbers up here.
And then we've got a 7030 split.So 70% goes to the investors and
30% goes to you the sponsor, youjust follow that like a clear
cut example. And then you giveeverybody and accounting you're

(01:35):
done at the end of the day,that's the most common way that
happens in I mean, that'scertainly the way that you're
going to plan will has thepossibility of happening because
certainly, it happens probablyin 90% of deals. Probably the
second most common way is calleda refinance exit. So if the
property value is here, right,but you've also got, the loan

(01:59):
amount is already down here. Andso it's got pre existing debt,
or maybe it doesn't have debt atall, what the sponsor can do is
say, Okay, I'm gonna go put debton it, I'm going to put it up
here. And so now I can giveinvestors that money. So we set
the fair market value, let's saythe shareholders own 70% of the

(02:20):
asset. And I'm able to getbecause it's such a great asset,
I'm able to get a loan to valueof 75%, you go to the bank, you
say, give me 75% on the value ofthe property, and then you go
back to your investors and say,Look, fair market value of this
is, is here, we have this poolof money from refinancing,

(02:41):
here's the money. What itessentially is doing is making
it that you are the sponsor, youthe sponsor are buying the
property at fair market value.Now, this has some clear
advantages, it lowers the riskof the deal going sour, and
lowers the risk of not the riskof it sitting around, it lowers

(03:01):
the risk of it not trading forexactly what fair market value
is. The reason the The caveat isyou really want to make sure
that you're doing it at fairmarket. As soon as you come to
the investors with this ideawith this proposition of what
you're going to be doing.Shareholders are immediately
going to be a little takenaback. They're going to be

(03:22):
asking themselves, how do I knowthat I'm really getting fair
market value and not gettingtaken advantage of that they're
not getting that property forpennies on the dollar, they know
it better than I do. So you needto make sure that the mechanisms
are in place. So yoursyndication attorney should have
baked in that possibility ifit's there to make sure that,

(03:45):
okay, we've got this mechanismwill determine fair market value
based on an appraisal by a thirdparty. And then that appraisal
will go to the investor so thatthey can understand it. They can
ask questions, they can questionit. Sometimes if you if we think
we perceive that the trust levelmight be a little bit less, we

(04:05):
might say and if there's aquestion on fair market value,
the shareholders themselves canask for an appraisal, another
appraisal. And if it's off bymore than 5%, then we take the
then we can do a third appraisaland we take the average or
whatever that is. So there aremechanisms in order to take care
of that answer. That's a fairlycommon thing to bake into a real

(04:29):
estate syndication, so thatthose sponsors are able to
basically keep that property forthemselves. The third way that
happens is called arecapitalisation. So through
recapitalisation what, thisisn't actually a pure sale. This
is changing the way that wholecapital stack happens. So

(04:50):
perhaps let's say that theproperty was bought for $5
million, it's worth $5 million,and you've decided you want to
recapitalize it, so if it wasBuy all cash, right? So that $5
million worth of value and yougo to the bank, and they were
willing to give you a loan tovalue of 50%. So now that's two

(05:10):
and a half million dollars incash, you can then go to your
investors and say, great news,based on the equity, you know,
you guys own 75% of the equity,we're now going to dole out 75%
of this loan out to you in orderto make sure that everybody has
that money. So that's a moneythat's being paid out. It

(05:33):
reduces it's a return ofcapital, so reduces their bases,
and basically gets them theirmoney sooner. Why would you do
this? Well, to get their moneysooner, it's going to drive up
your IRR like sky high, becausenow you've gotten them a bulk of
money up front, right, sothey've gotten a huge amount of
value, you just want to makesure ultimately, at the end of

(05:55):
the day is that the fees thatyou're going to pay are worth
it, right, because there's stillloan fees and appraisal fees and
all those things that go intorecapitalisation. And you want
to make sure that your investorsare benefiting out of it at the
end of the day. The fourth wayas a way that I oftentimes get
asked, and it sometimes works,but it sometimes doesn't. And

(06:17):
that way is through what'scalled a 1031 exchange. Now, if
you're in real estate, youprobably know what a 1031
exchange is, it's where you takean existing property and you
exchange it for a light kindproperty, replace the dead
replace the money, things likethat. And then you don't have to
pay any gains. So the gains taxnever happens, it doesn't

(06:39):
trigger that. Now, the reason Isay it sometimes works in
sometimes doesn't is because asan entity as its investment
entity, it can act just like youas a person, it can do this
thing, where it's going intointo another property. But where
we sometimes run into problemsis if there are people who want

(07:01):
to leave the fund or thesyndication, and you want to pay
them out, sometimes we have aproblem there. And you really
want to talk to a good qualifiedtax attorney who specializes in
1031 exchanges will definitelyknow about this issue, and be
able to help make sure thateither it's going to work or
it's not going to work and makesure that it's all done in the

(07:24):
right manner. The last way isthrough what's called merger or
acquisition. So this is whereyou take that investment, that
all that equity that's in theinvestment entity itself, and
you turn it into something thatmight be through an upgrade into
another REIT. And it might beinto a merger into another fund

(07:46):
that another fund buys it out.And gives the investors the
opportunity to either stay in,or in an opportunity in order to
exit. This works sort of like alike a 1031 exchange, or
actually works sort of like anupgrade, but not exactly because

(08:07):
their tax cut, the taxes are alittle bit different. But it's
an opportunity for yourinvestors to either stay in if
they really want to, if they'reattached to that, that asset or
as a as an ownership or to moveout in general. That's not as
common, maybe because the thekind of portfolios that exist is
they're not being absorbed inthat way, all the time. It

(08:30):
definitely happens on a largerportfolio, where a REIT might be
interested in buying out theentire portfolio and willing to
go through the legal hurdles ofdoing an upgrade. Or if it's a
private equity fund or a largersyndicator that is once to
incorporate that into its fun.They can happen. It can also

(08:50):
happen with the sponsor, likehat, who also has a separate
fun, who wants to absorb that asan opportunity can be set up
ahead of time, but they got toknow it ahead of time your
investors have to know itbecause again, it looks like
maybe something fishy is goingon here. And I'm getting either
getting this new thing that Inever bargained for in the

(09:12):
beginning. So you're want tomake sure that your syndication
attorney has baked in thatpossibility into the PPM into
the operating agreement. So it'sthere. So at the end of the day,
if there's any question and yourinvestors start asking you why
why you're doing it and whatbasis you can do it. You can
point to them and say this iswhy and this is why it's a good

(09:34):
thing. My name is TildenMoschetti. I am a real estate
syndication attorney with theMoschetti syndication Law Group.
We specialize in Regulation Drule 506 B, and rule 506 C
offerings for real estatesyndicators, real estate
investment funds, businesses,really anyone who's trying to
raise money, they want to takeinvestor money and be able to

(09:57):
use it in order to make themMore money and make the sponsor
you as more money as well.That's where we help. Give us a
call if you'd like to meet anddiscuss your project and see if
there's a good fit between whatyou're looking to do and what we
offer.