The general idea underlying real estate investment funds is providing access to larger properties while reducing risk for investors. The largest and most technically complex versions of real estate fund structures are REITs (Real Estate Investment Trusts), which are pooled investment vehicles that must meet stringent regulatory requirements.
These requirements include needing a large number of investors, a substantial asset base, marketing restrictions, and often access only being given to certain classes of investors. Conversely, real estate funds may be as simple as a group of local investors putting together their capital to purchase a handful of single-family homes for rental properties. Or as large as deca billion dollar opportunities.
In this article, we will cover the various types of real estate fund structures, the objectives of different types of fund strategies, and some of the benefits and drawbacks of each so you can make informed decisions when analyzing real estate investment funds.
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As with investment funds in general, real estate funds are trending in the direction of greater strategy specialization. Strategies may vary by asset class, market area, or both. Examples of asset classes of real estate can include multi-family, office, industrial, retail, and special-use properties.
Real estate fund strategies are often categorized into one or a combination of the following types.
Funds that focus on acquiring unimproved land or clearing older property lots to re-develop into more modern real estate concepts are called real estate development funds. These types of funds are heavy with documentation, entitlements, and are complex to establish because of the numerous permitting requirements and construction factors involved. Development funds are generally better for expert-level real estate investors who understand the nuances of construction and how to deal with municipality regulations, as well as investors with a VERY high risk tolerance, as Development investments are one of the highest risk categories in all of real estate.
Joint venture real estate funds co-invest with other funds in a syndication. This can sometimes result in the fund being considered a security, which changes how it’s regulated. Typically, joint venture funds are created to raise funding for a specific purpose or property investment, in which each partner fund contributes a certain dollar amount or percentage toward the joint venture fund.
A structured finance fund utilizes debt financing to purchase real estate with substantial leverage. Usually, these properties have stable value projections that support taking on the debt risk levels necessary. That said, structured finance funds are often cyclical in nature, as they require access to affordable debt financing to be profitable.
Opportunistic or special opportunity funds use a strategy of seeking out properties that are selling at a discount due to extraordinary or uncommon circumstances. Examples of these properties include foreclosures, unfinished commercial construction projects, or real estate that’s been damaged in a significant weather event. The best opportunity funds find real estate in markets that are otherwise desirable, allowing them to deliver strong returns.
Distressed asset funds acquire property that is over-leveraged or has cash-flow problems that prevent it from accessing financing. For these real estate investments to work, the property must be undervalued, along with the fund having access to inexpensive capital, which makes these funds generally cyclical in nature.
Perhaps the antithesis of the strategy-specific funds in this list, multi-strategy funds use a combination of different investment strategies with the intention of better mitigating risk and preserving capital for investors. Although multi-strategy real estate funds have the latitude to leverage a variety of strategies, typically, fund sponsors focus on one or two core investment strategies oriented toward security, with a small portion allocated toward more growth-oriented strategies.
The structure of a real estate fund depends on an array of considerations regarding tax, regulatory, and financial factors that can impact fund performance and the complexity of management. One of the primary considerations regarding fund structure is the tax objectives of the investors in the fund.
Most real estate funds are structured as closed-end funds. These funds are structured to last for a fixed term, often ranging from five to ten years. Investors in these types of real estate funds generally aren’t allowed to either withdraw funds or make additional contributions during the life of the fund. Once the fund is fully capitalized, the investor receives their capital back only if the underlying asset is sold, refinanced, or positive cash flows provide dividends.
Many types of funds like private equity funds, venture capital funds, and other illiquid asset funds are structured as closed-end funds.
In the less-common successive fund structure, the sponsor creates subsequent funds when assets within a current fund are sold, using the investment proceeds for reinvestment in the new fund. Typically, successive fund sponsors establish a portfolio of various funds to continually manage as assets are sold. A benefit to this approach is sponsors enjoy substantial cost savings overall due to less legal structuring is required to establish the subsequent funds.
Domestic-only investment funds are usually made up of a collection of specific legal entities with the aim of maximizing tax advantages. These entities include:
In the case of real estate funds, the general partner and the investment manager entities are formed separately to allow subsequent funds to keep separate general partners for liability factors. These funds are typically created by groups of highly sophisticated investors rather than individuals or small-scale investors.
Do you want to diversify your portfolio with real estate but want to keep your investing simple? Get a team of real estate experts to analyze every deal by reaching out to Saint Investment Group today. Beyond our real estate investment guidance, our real estate funds feature detailed reporting and operational transparency, enabling you to earn real estate income with peace of mind. Call (323) 483-0291 today to learn more.
A master in Investment, Marketing, and Capital Raising.
Nic has honed his focus on the Real Estate and debt markets with Saint Investment Group and pursues large-scale Distressed Asset purchases with his partners and syndications.