Real Estate Funds: What They Are & Why You’ll Want To Invest

In recent times, private equity real estate funds have gained popularity, although they are not a novel concept. Real estate syndications have existed since the 1920s, with some dating back to as early as 1926. Private investment funds and Real Estate Investment Trusts (REITs) are two categories of real estate funds that enable you to invest by pooling your capital with a group of other individuals.

While investments in the real estate sector, whether commercial or residential, have traditionally been categorized as alternative investments, the idea of generating passive income through direct ownership or investment in real estate mutual funds is becoming increasingly mainstream. With the escalating prices of homes, rising costs of raw materials and lumber, and a scarcity of labor across various sectors, a growing number of individuals are finding it difficult to purchase an entire income property. Consequently, many investors are now turning to small multifamily or other types of commercial real estate properties that require minimal involvement.

Investors seeking a less expensive method to venture into commercial property real estate investments might consider investing in real estate investment funds. These funds cater to investors who desire to invest in commercial real estate assets but prefer a passive investment strategy.

In a real estate investment fund, investors combine their capital to acquire assets, and the fund’s sponsor assumes responsibility for all of the fund’s operations, including property management and private real estate investments. If the fund acquires properties for renovation or long-term holding, the sponsor team must dedicate greater efforts to property management.

Real estate funds offer an excellent option for individuals seeking passive income from real estate investments without the responsibilities of property ownership. They also provide an opportunity for larger investors to diversify their asset portfolio. The two most sought-after types of property fund structures currently available are Real Estate Investment Trusts (REITs) and private real estate investments.

In the following passage, you will discover an explanation of private equity real estate funds, their advantages, structure, profitability, returns, investor options, and other related information.

What Is A Real Estate Fund?

Private equity refers to the funding provided by individuals or organizations in return for ownership. In the real estate sector, private equity is primarily used to invest in income-generating properties. Typically, companies such as developers, owners, or managers of commercial and residential properties raise equity to fund their projects.

Investors seeking passive income through real estate investments may find private equity to be a more profitable option. Real estate funds can be utilized for various projects, such as property acquisition or renovation. Private equity investors can participate in the construction and development of buildings, potentially providing higher returns compared to other investment types over time.

Real estate funds are a form of mutual investment entity that enables investors to allocate their preferred amount of funds toward multiple properties simultaneously, regardless of the property-to-capital ratio. This approach enables investors to bypass the requirement of having the complete capital amount that would be necessary to invest in whole properties as an individual. Instead, investors can purchase shares representing a fraction of several properties.

By investing in a real estate investment fund, you have the opportunity to pool your funds with others to invest in real estate assets based on predetermined rules and regulations designed to achieve specific outcomes. Real estate investment funds are available in various forms, but are generally classified as either open-ended or closed-ended.

Open-end funds allow investors to invest in the fund continuously as new properties become available for purchase, while closed-end funds have a fixed number of shares that are offered during the initial public offering (IPO) and do not accept new investors afterwards.

Types of Real Estate Funds

When contemplating investing in a real estate investment fund, you will come across two primary types. The first is a private equity real estate fund, which is exclusive to a particular group of investors and has more rigorous membership criteria, such as institutional affiliation or high net worth, and is not open to the public.

The second type is the Real Estate Investment Trust (REIT), which is publicly traded. Despite the cost to the investor, REITs provide liquidity and can aid in diversifying your portfolio.

Real estate investment funds come in various forms, such as dividend-paying funds, which are similar to mutual funds. These funds allow real estate investors to pool their money and invest in a range of real estate opportunities with different asset class divisions and fund structures, each with its own investment objectives. Some real estate funds may focus on large residential properties, while others may concentrate on commercial properties that can be quickly renovated and sold for a profit.

Real estate investment funds typically fall under two main categories, with the private equity real estate fund being the most prevalent. Private equity real estate funds are closed-end funds that raise capital from accredited investors and invest in residential and/or commercial properties. The other type of real estate investment fund is a real estate investment trust (REIT), which is an open-end mutual fund that can be traded on the stock exchange.

While rules may differ for each real estate investment fund, private real estate funds generally allow investors to invest in real estate projects at a lower entry point, maintain liquidity through the ability to cash out shares early, and potentially earn passive income from rental payments and property value appreciation.

Investors who put their money into private equity funds, real estate mutual funds, or REITs do not have direct ownership of the underlying real estate assets. Instead, similar to other corporate entities, these funds provide investors with an opportunity to pool their money and invest in multiple commercial real estate assets that are managed by a team of professionals (known as the fund sponsor).

Real Estate Investment Trusts (REITs) distinguish themselves from conventional mutual funds or public companies by their obligation to distribute a significant portion of their cash flow to investors as dividends, owing to their exemption from corporate taxes. By investing in REITs, you receive income on your investment in real estate funds in the form of dividends, which may yield high returns depending on your investment strategy.

Real Estate Funds vs REITs

A real estate fund is similar to a mutual fund, but instead of investing directly in properties, it focuses on investing in securities offered by public real estate companies. Real estate investment trusts (REITs) are a type of real estate fund that is traded on the stock market and offers investors liquidity, allowing them to buy and sell shares easily. On the other hand, a real estate fund is less liquid than a REIT.

Real estate mutual funds stand apart from real estate investment trusts (REITs) in that they are not required to register with the Securities and Exchange Commission (SEC). They are instead exempt under Regulation D, Rule 506, as well as from state regulation.

When you invest in a REIT, you are essentially purchasing stocks in a corporation that directly invests in commercial real estate properties. These types of securities, including REITs, must be registered with the Securities and Exchange Commission (SEC). Although REITs can seek exemption from the SEC, this process is usually avoided due to its high cost, complexity, and time-consuming nature.

To decide on the appropriate real estate investment, it is important to consider your investment objectives, the amount of capital you have at your disposal, and your preferred property types.

How To Invest In Private Equity Real Estate Funds

After finding a firm or sponsor that provides investment opportunities, you have a few options for investing your capital. You can transfer funds from a readily available account or invest through your retirement savings.

Wire Liquid Funds

Investors who have saved their investment capital in highly-accessible and liquid bank accounts have the option of wiring the entire investment amount to the sponsor as per the instructions provided in the investment documents. The sponsor will then purchase shares in the fund on the investor’s behalf and list them in an account held by the transfer agent.

Self-Directed IRA Funds

Real estate investment funds can be accessed through self-directed IRAs, which are similar to Roth IRAs. The main difference is that self-directed IRAs offer more investment options, including the ability to invest in a variety of assets like real estate investment funds. As a result, they are becoming increasingly popular among investors.

Typically, brokerages do not permit investors to invest in non-traditional investment options using a Roth IRA, Traditional IRA, or 401K. This means that investors who want to pursue a real estate fund investment strategy may have to move their funds from their current brokerage account to an IRA custodian that provides self-directed investment options.

Investing in a real estate fund has a significant advantage over buying and managing an investment property because it allows the investor to diversify their portfolio while still taking a hands-off approach. It is essential to note that self-directed IRAs are completely self-directed, implying that the individual must conduct extensive research and perform thorough due diligence, locate reputable sponsors, and investigate potential opportunities and risks before investing in any fund or other alternative investment.

Who Qualifies to Invest In A Real Estate Fund?

Before deciding whether this investment option is suitable for them, investors should be aware of certain qualifications.

Investor Qualifications

Real estate funds may have specific requirements for investors, including a minimum net worth of $250,000 and an initial investment amount that varies based on the fund’s size and type, ranging from $5,000 to hundreds of thousands of dollars. In addition, there may be a maximum investment limit, and some funds may be open-ended.

Usually, real estate funds come with a minimum investment period of one year or more, with some “opportunity zone” real estate funds offering faster turnover in under two years. Since selling property and retrieving capital from the fund can take some time, real estate is generally viewed as an illiquid investment. As a result, investors should be aware of this timeline and be prepared for it.

Compared to real estate funds, REITs have lower minimum investment requirements and are more accessible, as they are listed on public exchanges. They also allow for investment in most standard retirement savings accounts.

Sponsor Qualifications

When investing in a real estate fund, investors benefit from the fund sponsor’s expertise, qualifications, and connections. These sponsors are often experts in the field or groups with significant experience in managing real estate investments. They have already conducted thorough due diligence on the properties included in the fund, analyzed the market, and made projections.

Before asking for financial commitment to the fund, sponsors will provide investors with comprehensive financial information to evaluate. They are also readily available and happy to answer any questions investors may have about the fund’s strategy or how it will benefit them. It’s a good idea to keep an eye out for any calls, webinars, or presentations related to the fund as these are great opportunities to learn more about the team and their strategy.

Investors can trust the fund manager to handle all the fund’s daily activities, so they don’t have to worry about every transaction made within the fund. This includes seeking out new investment opportunities, evaluating them, negotiating deals, and managing the property after it’s been purchased.

Benefits of Investing in Real Estate Funds

When deciding where to invest their money, investors should thoughtfully weigh their options. Real estate funds are a viable alternative for those who want to enter the real estate market without having to acquire and manage a property themselves.

Real estate funds can offer a reliable source of income and profits over time, with returns that are typically consistent and often higher than average. This makes real estate investing an attractive option for diversifying your portfolio and reducing your exposure to the stock market’s volatility. By investing in a real estate fund, you can enjoy the benefits of real estate investing without the need to purchase and manage an investment property on your own.

Real estate funds provide an opportunity to invest in the real estate market without the responsibilities of property ownership or management. Investors can select from various real estate investment options without conducting extensive research themselves as the sponsor of the fund will have already performed due diligence.

Diversification

Real estate funds allow investors to pool their money together to purchase a portfolio of assets with similar ratings in different locations. By investing in multiple funds, investors can diversify their holdings and spread their risk across different asset types, markets, and appreciation profiles, which can lead to higher potential returns while lowering overall risk.

Profitability 

Real estate investment funds typically prioritize paying back investors before the fund’s sponsor can earn any profits. This means the sponsor has a strong incentive to ensure that the transaction meets the intended profit goal. The investment structure is designed to align the interests of both the sponsor and their investors.

Tax Efficiency

Real estate funds typically have a longer investment horizon than one year, which means that any gains made by investors will be taxed as long-term capital gains rather than short-term. Additionally, real estate funds allow investors to benefit from depreciation pass-through, and the tax advantages are dependent on the investor’s individual circumstances. By investing in a real estate fund, investors can also defer taxes on their portion of income and capital gains until they sell their shares in the fund.

Preferred Returns

The preferred return in real estate funds ensures that the investor is the first to receive payment. In the case of a cash flow fund, the investor will receive distributions regularly during the investment period. This type of return is important because it ensures that the investor is paid before the professional manager, which is especially critical when dealing with higher-risk assets.

Will Your Next Real Estate Investment Be In A Fund?

Investing in real estate funds is an excellent way to diversify your portfolio while avoiding the burdens of directly owning property. There are several reasons why people choose to invest in real estate, and there is an additional list of reasons why someone might opt to invest in a real estate fund.

Before investing in a real estate fund, it is crucial to conduct thorough research and due diligence. This includes examining the fund’s sponsor, management team, and performance history. Investors should also evaluate the fund’s projected returns and analyze whether the fund’s investment strategy aligns with their own goals and beliefs, as well as the estimated timeline to achieve the targeted metrics.

Before investing, it is essential to conduct thorough research and due diligence on any opportunity, including real estate funds. No investment is entirely free of risks or guarantees success. However, by acquiring more information about the fund’s structure, management team, and the assets it includes, you will be better equipped to make an informed decision about investing your funds.