Let’s weigh in a a somewhat classic debate among passive real estate investors. That being; Which is better, Real estate syndications vs REITs?
First a quick review
The two main branches of real estate investing are active or direct investing and so-called passive investing.
A Real Estate Investing Guide for Physicians
The main difference between these is that active investors are (surprise) actively involved in the day-to-day running of their investment properties. With passive investing, investors are not involved in the day-to-day functions. Instead, they are really investments or money only partners.
I obviously love active real estate investing. But it is not for everyone and that is ok.
In fact, as a physician, you don’t need to really invest in real estate at all to reach financial freedom. You can just follow this simple formula that I use.
However, real estate investing, whether active or passive, will help accelerate your journey to financial well-being when done correctly. And many potential physician real estate investors will prefer a more hands-off and
passive leveraged approach.
And that is where this debate comes into play. The main “passive” real estate investment vehicles are:
- Funds, and
- Real Estate Investment Trusts (REITs)
For the purposes of this debate, let’s just include real estate syndications and funds in the same bucket. For a more detailed description of their similarities and differences, check this out.
Now, onto the debate at hand…Syndications vs REITs
For this debate, I asked for help from Bradley Kirschbaum. He is a co-principal at Symphony Capital Group, one of our key resources. His wife also happens to be a practicing physician.
At Symphony Capital Group, Bradley sponsors real estate syndications, where they have a nice historical record of successful investments. His typical investors are high income earners like physicians.
With all of this said, Bradley definitely has a bias in this debate. But I asked him regardless to help out and I think he does a really fair job of presenting both sides of the coin.
I also think an important disclaimer before I start is that I have not yet invested in any real estate syndications. This is because Selenid and I are committed to our active real estate investing plan laid out in our written investment plan. There will likely be a time in the future where we do invest in syndications; however that time has not come yet.
In the remainder of the post, I’ve edited and formatted Bradley’s thoughts while placing my commentary in italics.
So, what’s better?
Investors are drawn to the multiple benefits of real estate. But they usually view the concept of property ownership through the lens of an individual who’s less than enthusiastic about being on call for tenants, spending months in the market looking for deals that work (let alone months in escrow!), and putting together a team of third parties that will allow for your portfolio to operate efficiently and effectively.
Those interested in this type of investing can definitely do so successfully, even as full-time physicians like me! But I do understand that this is not for everyone…
As part time investors consider making an investment in real estate, or, as they think twice about buying more properties while managing their current holdings, other means of benefiting from real estate ownership (without the hassles!) become more appealing to busy professionals like doctors.
Two of those alternative means of ownership that remain popular are REITs and syndications.
Like direct ownership, both of these models have pros and cons, and each has their place within an investor’s portfolio. We’ll break down the functionality of these two popular investments. The goal is to ensure you have a good grasp on what can be expected from either of these vehicles.
Syndications vs. REITs?
Here, the underlying investment (real estate) is the same. However, there are multiple differences between investing in REITs vs investing in real estate syndications.
Here are four major differences between a REIT and a real estate syndication:
- Accessibility & liquidity
- Tax Benefits
Each real estate investment trust (REIT) owns a portfolio of properties on behalf of the investors. The REIT usually has a focus or proficiency in a certain asset class. This could be office space, industrial, multi-family, or retail.
By owning shares of the REIT, you benefit from the proceeds of multiple different properties. These properties may be diversified by location, unit count, class and quality, as well as business plan.
Point being, your investment is exposed to multiple different assets. Each of these assets has its own unique characteristics that the REIT believes makes it a beneficial asset to own.
With very little capital, you can diversify your exposure and expect more risk adverse returns.
Within the syndication model, typically the syndication sponsor (the operating team, or general partner) will be buying one asset through a solicited offering. This asset will have a specific business model and exit strategy, as did all of the assets within a REIT.
However, your investment will be used as equity in the purchase of a specified property, as well as working capital for renovation expenses. The investment is less diversified than a REIT. But it is typically more diversified than any asset an individual investor may have considered purchasing on their own. This is because the syndicated investors will be buying apartments units or retail spaces on a much larger scale than they would be able to purchase on their own.
Because they are a specific offering, a syndication allows an investor to purchase a specific property with exposure to a precise area of the country the investor feels they should be investing in. This is particularly useful for semi-active investors who keep up with trends and data, but want to lean on the capabilities of a full-time firm to find, purchase, and operate a property in an area that is compelling.
What this means for physician investors
Busy investors like doctors can still stay up to date with what’s happening in the markets while allowing another team to actually execute a profitable plan. This allows the semi-active investor to continue spending their time on their career with minimal distractions while benefiting from precise real estate investments.
I think this highlights an important point. While syndications are more “passive” along the active-passive investing spectrum, they are not completely passive. You do have to work to study the potential syndications including their markets, deal structures, etc. to make sure it is a good deal. Remember you are essentially giving your money to someone else to invest for you. Make sure they are good at what they do.
In comparison, REITs are more truly passive as Bradley describes above.
#2: Accessibility & liquidity
REITs are publicly traded as shares on all of the major software-based brokerages. In fact, REITs trade in the exact same way as publicly traded companies throughout the stock market’s trading day. As these shares constantly trade on the public market, ou can easily buy and sell them.
This is a fantastic feature for any investor that is looking for a readily accessible real estate investment. An investor that wants to have the capability to liquidate their holdings and pivot quickly, may want to consider the benefits of this functionality.
However, as we’ve seen in 2022, the marketplace sets the going rate for shares of REITs. Therefore, your investment may suffer from rapid changes in value, for reasons which do not necessarily correlate to the actual performance of the holdings.
Within a syndication, the investor is purchasing a limited partner position (represented by non-publicly traded shares) within an entity that controls the underlying asset. This means that, together with the other limited partner investors and general partners, you will own the entity (usually an LLC) that holds the asset.
Because this is an investment in the private markets, investor’s cannot sell their positions easily. Thus, this investment is much more illiquid. While a broker may be able to help sell an investor out of their position, it will come at a cost.
For these reasons, investors should plan to stay in the investment until the end of the business plan’s timeframe. To help ease the downsides of illiquidity, sponsors often give limited partners voting rights for major actions. This includes executing dispositions like refinancing, or the sale of the property.
The investor also has to do a little more legwork to enter the investment with syndications vs REITs. Purchasing publicly traded shares is a fairly quick process in an already established brokerage account. However, with a syndication an investor usually needs a bit more time to review and fill out their subscription documents. This is a relatively benign process that’s usually done via a portal, but none the less, requires a little more effort and time to review the deal.
One other aspect that affects accessibility would be the minimum cost of investment
In the case of REITs, the minimum investment would be the cost of a single share, many of which are routinely trading below $100.
In the case of syndications, however, sponsors usually have a minimum threshold of $50k or $100k.
This minimum is in place for two predominant factors. One factor is the sponsor’s need to control the cost of doing business, as more investors will require additional fees with regards to lawyers, accountants, and SEC filings for each participating investor. A minimum also helps the sponsor ensure that they can raise funds from multiple investors, without crowdfunding capital in the three, four, and lower five figure range, as this can trigger crowdfunding compliance regulations, which require a different SEC filing.
#3: Tax Benefits
There are a limitless amount of opportunities that have the ability to create dividends and appreciation, but few will deliver the tax benefits of real estate. Often, depreciation on property will surpass the available cash flow. Investors will receive a paper loss that can offset other passive income from other passive assets. With real estate professional status, these write offs can potentially lower your W2 income tax bill as well. The impact can be substantial.
Don’t I know it! With Selenid achieving REPS in 2021 (and likely in 2022 as well), the tax savings for our real estate has outpaced our very healthy cash flow! You can see more in depth numbers backing this up here.
This large benefit creates one of the larger divides between syndications vs REITs.
With a REIT, you own shares of the trust. While depreciation will offset income at the asset level, that depreciation cannot pass through to investors. Your REIT will not provide any write offs for you to claim against other investment profits. REIT dividends are reported on a 1099, which means they count as ordinary income, which will likely raise your overall tax bill!
Within a syndication, your K-1 tax return form will enable you to claim depreciation from the asset and offset passive income against your other holdings. This is an extremely important benefit that many investors find desirable after facing the headwinds of paying additional taxes every year.
Returns for each individual investment can vary wildly, depending on the assets, the people, and the timing.
That being said, when looking at historical data over the last forty years, total returns for exchange-traded U.S. equity REITs averaged 12.87 percent per year.
By comparison, stocks averaged 11.64 percent per year over that same period.
This means that, on average, if you were to invest $100,000 in a REIT, you could expect somewhere around $12,870 per year in dividends.
For the multifamily real estate syndications we offer our investors, though, we typically set our sights a bit higher. When factoring in both cash flow and profits from the sale of the asset, our investments typically offer 15-22% average annual returns.
If you were to invest in a real estate syndication with a hold period of five years and a 20% average annual return, you would essentially be making $20,000 per year for 5 years, or $100,000 (this takes into account both cash flow and profits from the sale).
That means that you would double your money, from $100,000 to $200,000, over the course of those five years.
This is obviously a simplified example. Furthermore, historical returns from syndications are harder to compile since the majority of entities are private. However, I would say that most agree returns with syndications are generally higher than REITs. But that is largely because of the increased risk involved.
As Bradley points out, REITs are more diversified, larger, and institutional. There is risk but it is less compared with one property (or even multiple properties in the case of real estate funds.) Beyond that, most syndications are not run by large institutions but general sponsors of varying experience and success. That is why due diligence into your sponsor and their track record is so important in syndications and funds!
So, Syndications vs REITS…which one should you invest in?
There are a ton of factors to consider here including the return performance you desire, risk tolerance, investment timeline, and desired liquidity.
Remember, investing is personal. You set your goals and the finish line. You win when you reach your goals and finish line, not anyone else’s. Tailor your investments to maximize your chance of winning your game.
To summarize, in general, REITs are more liquid, conservative, and diversified while syndications are higher return, require a higher initial investment, and provide greater tax benefits.
When REITs make sense
If you are looking for diversification into real estate with an expected return similar to your index fund holding, REITs are a great option.
In fact, I hold 5% of my asset allocation in REITs as you can see here.
When syndications make sense
If you are considering investing funds that can be secured in an investment for a longer time horizon, syndications will allow you to find both more lucrative holdings, as well as the ability to capture highly desirable tax benefits, which may help lower your tax basis on that investment, as well as that of other holdings.
For the long term play, it’s hard to ignore the enhanced returns and write offs of real estate syndications.
The key to success with syndications is to work with a general partner that is looking for the types of assets that interest you, in the areas where you would like to own properties for the forseable future.
If you aren’t sure about what factors make for a great real estate property, or what locations are showing strong trends in the market, then working with a syndication team that can assist you in navigating this environment is even more important.
I can definitely recommend Bradley and his team at Symphony Capital Group as this type of syndication group. You can learn more and contact them through my Recommended page.
More information about passive real estate investing can be found here:
- How to Successfully Invest in Syndications with the Multifamily Masterclass!
- The Complete Physicians’ Guide to Real Estate Syndications
- 10 Reasons a Hybrid Investing Approach is Best
- PPS Key Resources – Real Estate Offerings
What do you think? Which real estate vehicle do you prefer – syndications vs REITs? What do you like best about REITs? About syndications? Let me know in the comments below!