When you are looking to invest in syndications (Real Estate or others), the “Can I invest” is the first and most important test you must pass. All the follow-up work on evaluating sponsors, evaluating investments, etc. will not matter if you cannot deploy your money. This is where the definition of accreditation comes up. Accredited investors have more investment options and can also find investments more easily because they can be advertised to or solicited freely.
Do not panic, it does not mean that you cannot invest in syndications, it just means that you might have a harder time finding offerings. So let’s go through the definitions first before we talk about investment options.
Accredited investor – definition and qualification
The SEC (Securities and Exchange Commision) has a great article outlining the definition of an Accredited investor: https://www.sec.gov/education/capitalraising/building-blocks/accredited-investor. If you are one of the people who enjoy reading legal documents, the definition is located here: https://www.ecfr.gov/current/title-17/chapter-II/part-230#230.501
As an individual, you can qualify in one of two ways:
Financial Criteria
- Net worth over $1 million, excluding the primary residence (individually or with spouse or partner)
- Income over $200,000 (individually) or $300,000 (with spouse or partner) in each of the prior two years, and reasonably expects the same for the current year.
Professional Criteria
- Investment professionals in good standing holding the general securities representative license (Series 7), the investment adviser representative license (Series 65), or the private securities offerings representative license (Series 82)
- Directors, executive officers, or general partners (GP) of the company selling the securities (or of a GP of that company)
- Any “family client” of a “family office” that qualifies as an accredited investor
- For investments in a private fund, “knowledgeable employees” of the fund.
As an entity, you can also qualify as an “accredited” entity. This can be useful if you want to organize your investments and form an investment entity for either asset protection or other reasons. In that case, if you already qualify as an accredited investor, option #1 below is pretty much automatic if you do not have partners.
- Entities where all equity owners are accredited investors
- Entities owning investments in excess of $5 million
- The following entities with assets in excess of $5 million: corporations, partnerships, LLCs, trusts, 501(c)(3) organizations, employee benefit plans, “family office,” and any “family client” of that office
- Investment advisers (SEC- or state-registered or exempt reporting advisers) and SEC-registered broker-dealers
- A bank, savings and loan association, insurance company, registered investment company, business development company, small business investment company, or rural business investment company
Proving you are an accredited investor
So how do you prove to a syndicator that you are an accredited investor? Depending on the sponsor, you might be automatically provided with an option to utilize companies specializing in Accredited Investor Verification. Examples are Verify Investor and Parallel Markets. Do not hurry up and pay to be accredited yourself. Most sponsors would have subscribed to the service and offered this verification at no cost to you.
You will need to provide W2s, Tax returns, asset statements, or any other information that might be needed to qualify you. We suggest providing the minimum required to put you over the threshold for qualifying. You can also get your CPA or Attorney to sign a letter verifying your status. You can search online for a template if they are unfamiliar with the format.
You will usually need a letter that is generated within 90 days of your investment.
Sophisticated investor – definition
While the Accredited Investor definition is clearly outlined, the same is not true for the sophisticated investor definition. The definition is that they “must have sufficient knowledge and experience in financial and business matters to make them capable of evaluating the merits and risks of the prospective investment” (Investor.gov). So in short, this can be you! A good sponsor will have a conversation with their investors and ensure that the risk they are taking is understood. Still, because of the vague definition, this opens the door to a lot of great investment opportunities for a lot more investors.
Investment options background – Introducing 506(b) and 506(c) offerings
Before we get into investment options, two more items are important to better understand why there are restrictions. Syndications are governed under Rule 506 of Regulation D (https://www.investor.gov/introduction-investing/investing-basics/glossary/rule-506-regulation-d). As part of this rule, companies can raise an unlimited amount of money; however, there are some restrictions based on how an investment is structured.
506(b)
506(b) offering has more restrictions for the syndicator, but it is what opens the availability of these awesome investments to the sophisticated investor. If a syndicator has a 506(b) offering, they cannot generally solicit or advertise it. They can, however, promote their deals to investors with which they have a well-established relationship.
Because of these restrictions, starting networking and getting to know syndicators early in your investment journey is important. Most syndicators will want to meet you in person or virtually a few times to get to know you as a person, not just as an investor. This allows them to be able to better defend their established relationship with you. In all cases, a syndicator cannot just start talking to you about their available investments without a prior connection; if they do, they can get in trouble with the SEC.
The advantage of a 506(b) offering is the ability to raise money from friends and family. If a sponsor already has enough existing relationships to fund their offering, their need for advertising is minimal.
The disadvantages of 506(b) are mostly related to the ability of the sponsor to raise money. If the sponsor does not have enough potential investors to fund a deal, they might be limiting themselves to smaller deals.
506(c) – Accredited Investors only
Phew, now that we got the more complex part of the way, let’s talk about 506(c). 506(c) allows the syndicator to generally advertise the offering, as long as all investors participating are accredited. That’s it.
The advantage of 506(c) is exactly that – the sponsor can advertise – they can put on their website what the deal is, what the returns are, come up to you, and tell you “I have this deal”. The sponsor can do larger deals, solicit a larger pool of investors, and fund quicker through not just their existing connections.
Investment options
Now that we covered the hard parts, here are your investment options:
- Accredited Investors – both 506(b) and 506(c) offerings
- Sophisticated Investors (yes, that can be you!) – 506(b) only offerings.
In both cases, the documentation you will be signing will be almost the same.
Word of caution – if someone is soliciting you for investment, unless it is a Joint Venture, they should be providing you with the required documents, which are usually the Private Placement Memorandum, Operation Agreement, and Subscription Agreement.
Closing
Knowing your investment options and qualifications is the first step in defining what you can invest in. Now that you know which group you fall into, continue your journey in learning more about Real Estate Syndications in these articles:
What is a Real Estate Syndication and 4 reasons to invest in one
As a Real Estate Investor, you might already be familiar with the standard way of investing – owning real estate…
Syndication Investment Journey from Beginning to End
In this article we dive into the lifecycle of a syndication investment. We will take you through the Syndication Investment…
Important Terms You Should Know for Real Estate Syndications – Part 1
There are so many terms to know, so we will start with the most important ones: Syndication, Sponsor, Investor, Investment…
Photo by John Salvino, Nick Chalkiadakis on Unsplash.
