Commercial Real Estate Syndication: Property Selection and Purchase, Part 2
We’ve been discussing the process of assembling groups of investors for the purpose of acquiring income producing commercial real estate. The first part of this article can be found at www.InvesmentPropertyInsider.com/?p=97. We’ll assume for the purposes of this article that you’ve selected your target investment property. Now you need to get it into escrow, but with a purchase structure that favors your group investment strategy.
The ideal time period for a group investment purchase is 120 days. This time period breaks down as follows:
Days 1 to 30: Focus on completing your Due Diligence (investigation) on the property, clearing contingencies, and verifying everything stated by the seller.
Day 31 to 45: Here is where you create the Investment Circular and form the LLC that will own the property, by filing the Articles of Organization and the Operating Agreement.
Days 46 to 90: Now you can solicit interest from potential investors. Your goal will be to get completed subscription agreements and monetary contributions from the new members of the LLC by the end of this period.
Days 91 to 120: This is basically a contingency period for you in the event the subscription process takes longer than expected.
As a matter of strategy, you should consider the 90th day as the “make or break” of your group investment. It is very likely that you won’t be able to keep the escrow open longer than 90 days without putting your deposit at risk (called “going hard”). So, if it looks like you can’t fully fund your LLC by the 90th day, it’s probably best to unwind the escrow and get your deposit back … sooner, if possible.
In fact, you’ll probably have quite a bit of pressure to release your deposit sooner than 90 days. What to do? Well, as you continue with your group investment program, you’ll want to line up your investors sooner than indicated above. Realistically, you’ll want to give your “A-list” of investor candidates notice as soon as you take a property to escrow.
Speaking of escrow, when you open it, you want to write the purchase contract with you, the syndicator, as the borrower. This is for tax reasons. By doing so, you establish your ownership of the property rights. It is by assigning these rights to the LLC before you close that you establish your ownership percentage (whatever you negotiate with your investors) in the property.
To be perfectly safe, you should consider opening two escrows. The first one is for the purchase of the property, as described above. The second is set up to fund the LLC. Its sole purpose is to hold the funds from the members as they subscribe into the group investment. Once it’s fully subscribed and the purchase escrow is ready to close, funds are transferred from the “funding” escrow to the purchase escrow. The reason to have the second escrow is to protect the investors’ funds in the event there are complications with the purchase escrow. The seller’s permission would not be required to release the investors’ funds back to them with this structure.
Another option is the “receipt of third party deposit.” In this process, investors fund their contributions directly to the purchase escrow, but they do so under certain conditions which allow the escrow officer to return the funds in the event the purchase doesn’t close. The LLC (after assignment by the syndicator) and the seller are the parties to the transaction. The investors are third parties whose funds are disbursed according to separate instructions. Check with your escrow provider to see if they will allow third party receipts before opening escrow.
In my next article on this subject, I’ll cover the strategies you need to consider to control a property for a sufficiently long period of time to allow you to actually fund as a group investment.
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