It sounds like the perfect property investment ... one that could
return between 9% and 12% per annum in return for an outlay of
less than $50,000. Even in times of low inflation, there are property
syndicates that return these figures - a fact that causes many
promoters to push property syndication as the answer to the investor's
prayer.
While there are many successful syndicates in the marketplace,
according to Greg McMahon (a partner of Teys McMahon Lawyers in
Brisbane) there are also hundreds of illegal syndicates now operating.
"Many
of these do operate quite successfully, and you only ever hear
of them when something goes wrong," McMahon says.
However, there is always the possibility that an unscrupulous
promoter will try to use the magic word "syndication" to offload
a property with dubious potential.
Ideally, syndication offers the smaller property investor with
limited available capital the opportunity to invest in commercial,
retail and industrial properties that would otherwise be out of
reach financially. Syndicates can produce income from several
sources: cash, through a lease to a quality long term tenant;
tax benefits and capital gains.
What then should a potential investor do when approached by, or
responding to an advertisement from, a syndicate promoter?
"The
first thing I would do would be to ask if he had a dealer's licence,
and I'd want to see a prospectus," McMahon said.
McMahon, who is also a director of CTM Collective Investments
Ltd, a company which sources and promotes syndicated properties,
said that while a dealer's licence was not required for syndicates
with less than 15 members it was advisable that the promoter of
any syndicate hold a licence.
"Dealers
are bound by certain rules, and one of these is the 'Know Your
Client' rule. While this does not involve specific knowledge of
a potential investor's finance and taxation circumstances, there
are certain questions I should ask a potential investor."
"The
first is 'Have you invested in property before?' This tells me
that the person is familiar with the property market. I'd also
like to know if the investor has a financial plan; for example,
how much of the portfolio is to be held in property, and if that
person can afford to have the capital tied up for the fixed period
of the syndicate."
"The
second important rule a dealer must consider is 'Know Your Product.'
This means a dealer has to know the expected yield, to acquaint
the client with the risks, and to advise of any factors which
have the potential to affect the investment," Greg said. "Unlike
a real estate agent, who is primarily acting for the vendor, a
dealer must consider your interests at all times."
A prospectus is required by the Australian Securities Commission
(ASC) because, under Corporations Law, when people are invited
publicly to became part of a syndicate the investment becomes
what is known as a 'prescribed interest.' Under the law such an
offer requires a prospectus.
That prospectus should contain all the information that any investor
needs to know before making the investment, including such aspects
as yield and risks involved.
The following are some of the risks that should be considered
by a potential investor.
- Performance
of the tenant. Your property needs a quality tenant with the
capacity to fulfil the lease requirements. If the business goes
bust owing the syndicate money, it will affect your yield.
- Increase
in property expenses. Have these been taken into account...
and how will they affect your investment?
- Increasing
interest rates. If the syndicate's funding package is on a variable
loan basis, how will changing interest rates affect your bottom-line
returns?
- Government
policies. Like all property investments, performance may be
affected in relation to taxes, exchange rates, legislative changes,
land tax, income tax and other government revenue factors.
- Illiquid
secondary sales. Unlike other securities, such as shares on
the Stock Exchange, the interest which you will hold in the
property is relatively illiquid. To sell your interest in the
property you need to find a buyer who wishes to make an investment
in a property of this kind under the legal structure of this
syndicate.
- Responsibilities
of property ownership. Like all property owners, you will bear
the responsibility for unforeseen items of expenditure, such
as a local authority requiring work to be done on a property
which has not been budgeted. This has the potential to affect
yields.
- Capital
Gains Tax. Each investor will be personally responsible for
his own tax liability and any CGT will be payable on disposal
of his interest in the syndicate. While the prospectus need
not be an elaborate glossy document, it should set out all of
this information.
The ASC requires that a prospectus be registered before marketing
commences. "You should be aware that this does not meet that the
ASC has approved the prospectus," Greg cautions. "There are promoters
who make this claim. It's actually illegal for them to say this."
The rules relating to property syndication will change in the
near future. The ASC is working to a timetable to have these in
place by July 1, 1998. These are not likely to have any discernable
effect on the investor. However, complying with the new requirements
will mean considerable additional expenses for promoters.
Investors should be aware of this situation and make sure that
these costs are being borne by the promoter. They should not be
asked to make a contribution to cover these increased costs.
McMahon stresses that like all property investments, you should
make certain that you are getting value.
"Always
buy a property at bank valuation or better," he says. "If the
vendor is genuine, you should see a bank valuation."
"When
assessing your investment make sure you are not in fact paying
more than valuation because legal and other consultants fees are
being added to the purchase price. You should pay only for stamp
duty, search fees and registration fees. The other costs should
be paid by the vendor."
One of the benefits of investing in a property syndicate is that
most are funded on the basis of non-recourse finance.
This means the financier's loan is secured by the property alone,
and your liability under the finance arrangements is limited to
your initial cash contribution.
"Even
given the worst case scenario, the most you can lose is the money
you put into the syndicate. Your other assets, including cash
and house, cannot be touched."
It is important to remember, however, that the property will be
mortgaged, and if you are going to buy an allotment in the name
of a company or trust, then you should make sure borrowing is
permitted under the memorandum and articles of association of
the company or the trust deed of the trust.
While these considerations relate to all forms of investment,
they became especially significant in the case of property syndication,
given that some syndicates sell out very quickly, often in a matter
of days. Unless you have done some homework before you consider
property syndication, there is a danger that you may rush in unwisely
purely for fear of 'missing out.'
An excellent example is the Vicroads Property Syndicate which
involved the purchase and construction of land and buildings for
Victoria's transport authority.
"This
involved 60 syndicate members and sold out in three weeks," McMahon
said. "Others, with fewer investors, have sold out in five days."
This rapid filling of an investment opportunity means you need
to get a prospectus and read it quickly if you are interested
in the property. There is no doubt the returns from properly structured
syndicates are impressive.
There are certainly benefits for the small investor in well planned
and well managed syndicates. However, to make the most of those
opportunities, you need to do some homework, and have the proposal
considered by your own legal and accounting professionals to ensure
that the syndicate you invest in is likely to keep all its promises.
