Real Estate Private Equity Advantages: A Need To Know Guide

Investing in Real Estate Private Equity can be a great solution to quickly invest in all types of commercial real estate from multi-family apartment complexes to medical, office, self-storage and of course, non-commercial single-family houses while letting someone else handle all the details. 

With the diversification, tax reduction and truly passive nature, investing in Real Estate Private Equity can be quite compelling for high wage earners looking to reduce their taxable income along with high-net-worth individuals looking for an alternative to the volatility of traditional stocks and bonds investing.

In short, it can be a fantastic alternative investment to diversify your stock and bond portfolio while reducing your taxable income.  In this series we will discuss the advantages of investing in real estate private equity.

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Why Invest in a Real Estate Syndicate vs Investing in the Stock Market?

There are many advantages to adding Private Equity Real Estate to your overall investment strategy, the main benefits include …

Diversification from the Stock Market’s Daily Volatility

Most real estate investments have no or very little correlation to the stock market, so when the stock market goes down, your real estate investments hold steady and consistent.  In fact, many investors like the steady income that it consistently generates.

Volatility is the tendency of an asset’s price to fluctuate significantly over a short period. In general, the stock market is significantly more volatile than real estate. The stock market can experience sharp and sudden price movements in response to various factors, such as economic indicators, political events, and company news. This volatility can make stock market investing risky and unpredictable, especially for short-term investors.

On the other hand, real estate prices tend to be more stable and less volatile. Real estate values can fluctuate based on local economic conditions, supply and demand, and interest rates. But these fluctuations tend to occur more gradually than in the stock market. Additionally, real estate has the potential to generate steady cash flow through rental income. This can help offset any potential losses in property value.

Overall, while the stock market tends to be more volatile than real estate, it’s important to remember that both types of investments carry some level of risk. It’s essential to diversify your portfolio and choose investments that align with your investment goals and risk tolerance.

Heavily Tax Advantaged

Real estate investments create fantastic tax deferral opportunities for high income W-2 earners or people that are looking to lower their taxable income or AGI.  If you are looking for ways to reduce your taxable income, it’s hard to beat real estate. Whether it is an investment in commercial or quite frankly any income-generating real estate.

Depreciation

Most of the tax benefits are a result of the deductibility of depreciation. Depreciation is a tax deduction that allows investors to deduct a portion of the property’s value from their taxable income. The IRS considers real estate as a depreciating asset since it wears out and loses value over time due to factors such as age, wear and tear, and obsolescence.

When you purchase a real estate property, the IRS allows you to depreciate the property’s value over a set period. Residential properties are usually depreciated over 27.5 years while commercial properties are 39 years. The depreciation expense can be deducted from your taxable income each year. This can help lower your tax liability and increase your cash flow.

For example, suppose you purchase a residential property for $300,000 and allocate $30,000 of that value to land and the remaining $270,000 to the building. Assuming a depreciation schedule of 27.5 years, you can deduct approximately $9,818 ($270,000 divided by 27.5) from your taxable income each year for depreciation.

The tax benefits of depreciation can help real estate investors to maximize their returns and improve their cash flow. However, it’s important to note that depreciation is a paper expense and doesn’t directly impact your cash flow. Also, if you sell the property, you may be subject to depreciation recapture taxes.

This is very different than a stock market investment including investing in publicly traded real estate companies like a REIT (check out our separate post regarding Real Estate Syndication vs REIT) And with laddering techniques, you can create large taxable losses that will offset future income in the foreseeable future. Look for a future post about real estate laddering techniques to reduce taxes even further.

Completely Passive Hands-Off Real Estate Investment

There is nothing better than getting paid while you sleep. In fact, this is one of the best advantages of real estate private equity, the investment is completely passive,

Sure, if you directly own real estate, you can hire a manager to handle the day-to-day issues of the property. But at the end of the day, you are still liable for any problems that arise.  And, if the manager isn’t stellar, you are never truly hands-off. 

In a typical real estate private equity deal, the sponsor or the general partner (GP) manages the deal and makes all the investment decisions. While the limited partners (LPs) provide the capital and have a passive role in the investment.

As a limited partner in a real estate private equity deal, your role is passive, as you have no direct involvement in the day-to-day management of the property. Your primary responsibility is to provide the capital for the investment and receive a share of the profits based on the terms of the investment agreement.

However, it’s worth noting that even passive investors should conduct due diligence on the sponsor and the investment opportunity to ensure they align with their investment goals and risk tolerance. Additionally, passive investors should stay informed about the investment’s progress and performance to make informed decisions about future investments

Limited Liability

Unlike direct real estate ownership where lawsuits and liability are a VERY real concern, a huge advantage of investing in a real estate private equity deal is that you are protected. As a limited partner you are totally protected, if something were to happen with a property, legally or even criminally.  In fact, in this regard, it is quite like investing in a company in the stock market. There is no personal liability for negligence by the company.

Tangible Investments

Many investors like knowing that they own actual physical property that they can see, and touch. Tangible assets that have intrinsic value, can offer a sense of security and stability. In fact for most private equity deals you will know ahead of time what you are investing in. You can even visit the property to gain a better understanding of the investment before you actually commit to investing.

Real estate investing is generally considered a safer investment than stock market investing because it tends to be less volatile. It also has a lower risk of total loss of capital.

Reliable Income Stream

Generating consistent income is particularly beneficial for retirees.  There’s nothing like the feeling of getting a check every quarter from the rent collection. And with the tax advantages, the deal could be showing a loss on your tax return while you are regularly receiving checks.

With this said, I do want to clarify that these are not guaranteed income streams, rather reliable. There have been times where a real estate syndicate will pause distributions. Not paying their investors for a few quarters, in order to be extra safe with their cash flow needs. We experienced this during Covid, which I will discuss in more detail in a future post.

Ability to Invest in Much Larger Properties

Imagine being able to invest in a $35,000,000 multi-family complex that houses 1,000 units for only $50,000.00.  Or, instead of directly purchasing a $1,000,000.00 property, imagine taking that same $1M and investing in 20 different deals. And, what if those 20 deals in turn invested into hundreds of different properties all located in different locations. Hopefully you are starting to see that it is an incredible way to be able to reduce risk with diversification.

An advantage of being able to invest in larger deals is that you tend to see higher profit potential in larger properties with economies of scale.  Owning a 300-unit apartment complex vs a 4-unit quadplex makes it much more economical to hire a property manager.  And, owning ten 300-unit complexes is even better for cost sharing, which ultimately means putting more profit in your pocket.

Relatively Low Knowledge Needed

I want to be careful with this one, but you don’t have to know how to market and distribute soda pop in order to profit from an investment in Coca Cola.  Investing in Real Estate limited partnerships is no different. These deals allow you to invest in commercial real estate without having to know much about it. You are relying on the expertise of the General Partners in the deal. 

With this said, there are very some incredibly talented and experienced operators as well as less competent ones. I would never recommend blindly handing money over to an operator with a slick sales pitch without performing a proper due diligence of the deal and the company you are investing in, but generally speaking you don’t have to know the nuances of running a hotel in order to invest in one.

Is Private Equity Real Estate Right For You?

With the above advantages, you can see that investing in Private Equity Real Estate can be quite compelling. With the diversification, tax advantages and passive nature it’s hard to beat for certain investors. Specifically high wage earners looking to reduce their taxable income along with high-net-worth individuals looking for an alternative to the volatility of traditional stocks and bonds investing.

In summary, having some knowledge in deal flow and, of course real estate will help ease your entry into this world, but also having a good financial advisor that specializes in these types of alternative investments can mitigate any lacking knowledge. 

Many advisors stay away from non REIT real estate investments because quite honestly, it takes a lot of time to understand and invest in these deals.  In fact, if you have an advisor that you are already working with that handles your stock market investments, don’t be surprised if they bad mouth these and any non-standard “alternative” investment, merely because they don’t handle them and possibly do not understand them.  I have heard every excuse in the book from traditional advisors, but at the end of the day, if you are not comfortable with the volatility that your portfolio is encountering, these can provide a great diversification to traditional stocks and bonds investing.

Although real estate private equity investing is not for everyone, it can provide great diversification for your overall investment portfolio. In our next post, we will look into the Disadvantages of Investing in Real Estate Private Equity.

What is your experience with real estate investing? Share your thoughts below …