An Ignoble Experiment: WCI November Real Estate Newsletter

Welcome to the Monthly White Coat Investor Real Estate Newsletter!

Thank you for being a member of the WCI Real Estate Opportunities Group! We hope you find the enclosed information and introductions helpful. Remember that we have a financial relationship with each company listed in this email, you generally need to be an accredited investor to invest, and you are still responsible for any necessary due diligence. Consider these to be introductions, not recommendations. This newsletter should be the first step in your due diligence process, not the last one.

Announcements:

WCICON24 - The deadline to register and get one of the coveted swag bags at our upcoming conference is tomorrow, November 16th. We hope you are planning to join us (and many of the companies listed below that are conference sponsors) in Orlando, Florida on Feb 5-8, 2024. Don't miss out on this great conference - register today!
We are running a special $250 discount on our No Hype Real Estate Investing Course from November 15th-20th. Just use code "250OFF" and start learning today. We want you to have the knowledge and tools you need to be a successful real estate investor.

Today's Topic: Real Estate Fees

A few years ago, we had a long discussion about real estate fees. Since then, there have been a number of questions about fees, so let's review part of Jim's post here:

"I'm going to discuss private real estate fees for both individual syndications and private funds. I will include both the guaranteed fees and performance-based fees. Unfortunately, unlike a mutual fund expense ratio, there is no standardization of these fees, and a significant part of evaluating a private deal is simply understanding all of the different ways you are being charged, adding them up, and deciding whether you think it is a price worth paying for what you are getting.

Fees You Are Guaranteed to Pay

Let's start with a syndication. The classic example of a syndication is that you go in with 100 other investors and buy an apartment complex. The person putting together the deal (the syndicator, general partner, deal provider, manager, etc.) is going to do all the work, and the people providing the capital (the investors, limited partners, capital providers, etc.) are going to provide at least most of the capital. As a general rule, the deal provider is going to receive an outsized portion of the return and fees to compensate them for taking on additional risk and putting in additional work and to incentivize them to do a good job.

That seems fair, but how much is enough? Unfortunately, there's a lot of variation. You want them to be able to make enough money to stay in business, hire good people, do a good job, and be incentivized to do it right. But you also know that every dollar you pay in fees is a dollar less you make in return. There is always going to be a balancing act there.

Acquisition Fee

The first fee to think about is the acquisition fee. This is the amount charged by the deal provider to provide the deal. Bear in mind this isn't necessarily profit to them. There are a lot of costs involved in looking for deals, evaluating deals, and purchasing deals. A fairly typical acquisition fee is 1%-2% of the deal size. However, this is usually an equity real estate deal, and the lion's share of the cost of the property is not equity. It's debt. If one-third of the money is being put down and you're paying 1% of the cost of the deal in acquisition fees, that's really 3% of your invested capital. Either way, know whether this fee is being applied to equity or the whole deal (which is typical). Two percent charged on equity is probably less than 1% charged on the entire deal. The more expensive the property, the lower the percentage you should expect to pay as an acquisition cost.

Setup Fees

The next fee is charged to set up and organize the company (usually an LLC). Why this isn't rolled into the acquisition fee is beyond me. In reality, it's just a way to justify more fees. Typical fees here are 0.5%-2% of equity.

Asset Management Fee

Unlike the acquisition and setup fees, which are one-time fees, this one is generally an annual fee. Typical fees are 0.5%-1.5% of equity. Again, pay attention to how the fee is worded. Is it charged on the total deal size or just on the equity?

Administrative Fee

This is another ticky-tack fee charged every year, although it is generally lower than the asset management fee. It is supposed to cover administration of the LLC and tax preparation. It might charge 0.1%-0.2% per year. Again, this should be rolled into the asset management fee.

Disposition and Garbage Fees

Some deal providers also charge a fee when an asset is sold. Again, this can be based on either the equity or the value of the property, but it is typically 1%-4% of the value of the property. Other one-time fees you may encounter during the life of the project include debt placement fees, refinancing fees, and marketing fees. It is typical to pay a broker to get a loan or to refinance a loan (and that broker should be paid), but if the deal provider is adding on their own fee for this service, I consider it a garbage fee. Needless to say, all these fees reduce your return.

OK, let's move on to the fees that funds charge. Bear in mind, of course, that some funds charge these fees in addition to the fees above that are charged by each property in the fund, and that for some funds, these are the only fees. Multiple layers of fees can add up quickly. Two layers of fees are frequently present in a fund or REIT put together by a crowdfunding platform. Two layers of fees aren't necessarily a deal-breaker, but you do need to add up the total fees. Note that fund fees are generally based on equity, not the value of the properties in the fund.

Fund Upfront Fee

This one-time fee can range from 1.5%-3%, and it covers technology, legal, marketing, capital raising, and other fund formation costs.

Fund Management Fee

This annual fee typically ranges from 0.5%-2%. Sometimes it is charged on committed capital rather than on just invested capital. If that is the case, that upfront fund fee better be lower to compensate for it.

Fund Administrative Fee

This annual fee is usually less than 0.5% per year.

Adding Up the Fees

Every single syndicator and fund manager has a different setup for these fees. The only way to deal with them is to compare them apples to apples. Adjust all the fees so they apply to your equity (not the property value) and then add up all of the upfront fees, all of the annual fees, and all of the backend fees. Now, annualize all of the front-end and back-end fees and add them to the annual fees. That is to say, if the front-end fees are 4% and you expect to have the investment for eight years, that is 0.5% per year. Now you know what the guaranteed fees are.

I wish I could give you a guideline ("If the per year fees are more than 2.5% avoid the investment," for example), but it's a lot more complicated than that. You see, one deal provider might charge low guaranteed fees while charging high performance-based fees and vice versa. But remember, the higher the guaranteed fees, the more of your return will be going to the deal provider.

Private Real Estate Fund Performance-Based Fees

Mutual fund investors, especially those who believe in the value of active management, are often frustrated that mutual fund managers are basically paid to gather assets, not outperform the market. This often leads to fund bloat where there is so much capital in the fund (especially after a period of good performance) that future outperformance is almost impossible. Private real estate, on the other hand, usually heavily incentivizes the deal provider to perform. The performance-based fee structure is typically described as a "waterfall." As one "pool" fills, the water (money) spills into the next pool until it is full, etc.

A Typical Waterfall

The first money, of course, goes to pay the guaranteed fees. Those are always paid. If a fund manager is savvy enough to get investors to sign up for high enough guaranteed fees, all of their expenses may already be covered without performing very well at all.

Second, capital is returned. This includes all investor capital, including the money the deal provider put into the deal. In that respect, they are treated just like the capital providers.

Third, a preferred return is paid out. These can range anywhere from 6% to 15% per year.

Fourth, the remainder of the profit is split between the capital providers (including the deal provider with respect to contributed capital) and the deal provider. 80/20 is pretty typical, but this "promote" can range from 60/40 to 90/10.

Catch-Ups and Clawbacks

This is another important concept to understand in relation to waterfalls. In my experience, a catch-up provision is present about half the time and is probably best explained with an example. If there is no catch-up provision, the waterfall is structured with an 8% preferred return and an 80/20 promote, and the investment returns 13%. In that example, the capital provider gets a 12% return and the deal provider gets a 1% return. If there is a catch-up with the same waterfall structure and overall return, the capital provider gets a 10.4% return and the deal provider gets a 2.6% return. Essentially, after the 8% preferred is paid out, the deal provider gets their 20% of that 8%. Sometimes the money is split 50/50 from the time the preferred return is paid until the deal provider has caught up. In essence, the difference between having a catch-up and not having a catch-up is whether the deal provider earns a promote on the preferred return or not. Tricky stuff, eh? As usual, additional complexity often doesn't favor the investor.

A clawback occurs in a waterfall system. If the deal goes bad late in the deal, a clawback allows the capital provider to "claw back" some of the money paid earlier in the deal to the deal provider. Unfortunately, whether this clause is worth anything depends on the deal provider's financial standing. A clawback isn't worth anything if the deal provider no longer has the money.

If you have managed to keep reading all the way to here, you are probably left with the question of, "How can I tell if a fee structure is 'good' or 'fair to me' vs. a bad one?" Well, there is no absolute. There is only comparing one deal to another. All else being equal, a deal with lower fees is a better deal. Unfortunately, all else is never equal. Welcome to the murky world of private real estate. Now you know why you have to be an accredited investor to get into these investments. Caveat emptor."

Thank you for being a part of the White Coat Investor Real Estate Opportunities Group. We hope that helps clarify some of the fee questions that you may have.

Recently Published Articles That Relate to Real Estate

Check out these recent articles and podcasts that relate to real estate from across the WCI Network:

Current Real Estate Opportunities

DLP Capital (Multiple Funds)

DLP has been around for a long time and treats investors better than any similar company we know. Their investments are straightforward, easy to understand, and profitable. They even pay preferred returns before they receive their management fee, which is unique in the industry. DLP has five funds: 2 equity funds, 2 debt funds, and a notes fund. DLP has agreed to lower that minimum to $100,000 if you go through the links in this email and/or tell them you're coming from The White Coat Investor. Jim is invested in the Debt and Equity funds with DLP.

To learn more, watch the DLP Capital Webinar.

Check Out DLP Today!

MLG Capital (Multiple Funds)

MLG Capital is a real estate investment firm, founded in 1987. Focused on serving accredited investors, investment advisors, family offices, and more. Each of the MLG Private Funds target to acquire a geographically diverse portfolio of 25-30+ commercial real estate assets across several key U.S. markets.

Since its inception, MLG Capital and its associated entities have had active, exited or pending investments of nearly 35 million square feet of total space across the United States, inclusive of more than 30,000 apartment units, with exited and estimated current value exceeding $±4.7 billion.

MLG Private Fund VI is now open for investment.

To learn more, watch the MLG Capital Webinar.

Check Out MLG Capital Today!

Southern Impression Homes (Turnkey Homes)

Southern Impression Homes is the parent company of one the most successful Build To Rent Ventures in the United States. They specialize in helping individual investors build successful rental portfolios in high growth, landlord friendly markets in Florida. Focused on new construction homes in desirable neighborhoods designed to maximize landlord profit with better inventory, less tenant turnover, lower maintenance and repairs and a better overall growth strategy for both rents and values. Their system provides full-service in acquisition, building, construction, property management and ongoing client support and education. Most clients come to SI Homes looking for an alternative to the stock market because SI's strategy creates ongoing cash flow, real estate appreciation and an excellent hedge against inflation. For the right investor, their system delivers amazing results to help overcome those issues quickly and completely.

To learn more, watch the Southern Impression Homes Webinar.

Check Out Southern Impression Homes Today!

Origin Investments (Fund and Syndications)

Origin Investments helps high-net-worth investors, family offices, and registered investment advisors grow and preserve wealth by providing best-in-class real estate solutions. They are a private real estate manager that builds, buys, and lends to multifamily real estate projects in fast-growing markets throughout the US.

Since their founding in 2007, they have executed more than $2.8 billion in real estate transactions and their Co-CEO's have invested more than $60 million alongside their investors. Their performance ranks them in the top decile of private real estate North America-focused fund managers by Preqin, an independent provider of data on alternative investments.

Origin is currently accepting new investors for their open QOZ Fund III and IncomePlus Fund, which seek to provide tax efficiency, enhance portfolio yield, maximize growth, and minimize portfolio volatility. Also their affiliate partner, Origin Credit Advisers, offers the Strategic Credit Fund ¹, a private credit Fund open to qualified purchasers. ² The Strategic Credit Fund's objective is to provide a consistent stream of risk-adjusted income with capital protection.

1) This Fund is offered by Origin Credit Advisers, LLC, an SEC-registered investment adviser. For information on Origin Credit Advisers privacy practices, please see their privacy policy.
2) A qualified purchaser is an individual or a family-owned business that owns $5 million or more in investments, not including a primary residence or any property used for business.

Check Out Origin Investments Today!

Wellings Capital (Fund)

Wellings Capital seeks to help accredited investors passively protect and grow their wealth through investing in self-storage, mobile home parks, RV parks, and more throughout the country. Over 700 accredited investors have invested in Wellings Capital funds, which aim to provide value to investors in four primary ways:

Instant diversification across private real estate asset types, operators/sponsors, geographies, properties, and strategies
Extensive, professional due diligence on operators and properties
Access to deals and operators
Better terms

Their sixth fund, the Wellings Real Estate Income Fund, is accepting new investors with a $50,000 minimum investment. The Fund only accepts new capital when properties are identified, so all capital is called up front.

Check Out Wellings Capital Today!

37th Parallel Fund II (Fund and Syndications)

37th Parallel has been doing multi-family syndications for years. Since their inception in 2008, they've completed over $1 billion in multifamily transactions while maintaining a 100% profitable investor track record. Their Income and Total Return Fund II is now open for investment. This $40M-$80M fund has a $100,000 minimum. Fund II is focused on acquiring and improving 200-plus unit Class A & B apartment complexes in 13 markets across Texas, North Carolina, South Carolina, Florida, and Georgia. Capital will be called as needed to acquire properties with a goal to have all investors' capital called within 12 months. Their goal is to begin liquidating or recapitalizing fund assets in seven to eight years from inception. Fund II has two share classes - Class A (Current Income) and Class B (Total Return). Class A shares have a 9% annual preferred return and first access to cash flows from operations but capped upside. Class B Shares have a 7% annual preferred return and second access to cash flows from operations along with an initial 80/20 split. Jim is personally invested in Fund I, and we have negotiated a $500 fee discount for you if you go through our links. If you prefer individually choosing which properties you invest in, 37th Parallel still does individual syndications too at a $50,000 to $100,000 minimum investment.

Check Out 37th Parallel Fund II Today!

Mortar Group (Syndications)

Mortar's approach to investments is simple. We are a vertically integrated firm with an experienced team that delivers consistent returns. Specializing in multi-family real estate, Mortar has been the driving force behind over 30 distinctive and successful developments in prime and niche New York neighborhoods since 2001. We leverage over two decades of experience in architecture, development, and asset management to build value and minimize risk for both investors and the residents who live in them. Our winning combination of high-returns and risk-adjusted strategies has led to an excellent track record of investment success.

Check Out Mortar Group Today!

EquityMultiple (Real Estate Platform)

Offers equity and debt investments to accredited investors. Equity Multiple is very transparent and invests alongside its investors in every deal, which is unique for a real estate platform. Since it has skin in the game, I expect EquityMultiple to be a little more conservative with its due diligence. Its volume is not as high as some companies, but perhaps that is a reflection of the higher quality of the deals that do show up. Jim owns a syndication purchased through Equity Multiple. Minimum investments are typically $5K-$20K.

Check Out EquityMultiple Today! (Management fee waived on your first investment when using this link)

AcreTrader (Real Estate Platform)

AcreTrader is an investing platform that makes it easy to buy shares of farmland and earn passive income. US farmland has historically outperformed most asset classes, with almost no correlation with the stock market. Further, it has experienced positive returns during economic downturns. Unfortunately, buying and maintaining farmland directly is extremely difficult, which has prevented most investors from participating. AcreTrader makes it easy to place direct investments in farmland and handles all aspects of administration and property management. AcreTrader carefully reviews each farm, selecting less than 1% of the total parcels considered, then places each farm offering in a unique legal entity and offers shares to investors through its online platform. See AcreTrader's current offerings to view what is available today! Minimum investment is $10K.

Check Out AcreTrader Today!

Fundrise (Private REIT Provider)

Fundrise offers REITs and funds to non-accredited investors. It now has 7 REITs/Funds with various focuses, including income, growth, and various geographic areas. Minimums are the lowest we've seen, just $500. Jim has invested with Fundrise in the past, although that was before they started this REIT.

Check Out Fundrise Today!

CrowdStreet (Real Estate Platform and REIT)

CrowdStreet is the premium provider of online commercial real estate investment marketplace, technology and professional services. Investors can directly access institutional-quality commercial real estate offerings with CrowdStreet's online investing platform. CrowdStreet's REIT provides investors with easy access to a diversified portfolio of growth-oriented private commercial real estate projects from multiple sponsors through a single fund managed by CrowdStreet Advisors. This is a portfolio of 20-25 private commercial real estate projects selected by CrowdStreet. You can invest with lower minimums ($25K) and expenses than traditional private funds. The REIT election allows for simple 1099 tax reporting instead of multiple K1's.

Check Out CrowdStreet Today!

We hope you find these monthly newsletters helpful. We appreciate your feedback, both positive and negative, about the real estate opportunities you learn about here and elsewhere.

Jim and Brett

Jim Dahle, MD, FACEP
Founder, The White Coat Investor

Brett Stevens, MBA
COO, The White Coat Investor