Being a young professional, you may not have the experience of riding the ups and downs of the stock market over the last number of years. Many investors that do have the experience may just be getting back to where you stood financially a number of years ago before the last big tumble in 2008. Bring up the topic of the stock market to most investors, especially RRSP investments, and nine out of ten people will probably just make some sort of grumbling noise and roll their eyes at you. Investors today have started looking for different types of investments that give them more stability – predictability – and control. One product that fits this description is backed by real estate and called a Mortgage Syndication.
When school was finished and you entered into your new career as a young professional, you began earning a paycheque and had different expenses that needed to be paid. The difference between the paycheque and these expenses is what your parents or teachers taught you to stash away and invest for either a large purchase (such as a home) or for retirement possibly through an RRSP. Like most young professionals, off you went to your bank to discuss what your options were. They advised you to place your extra money into a mutual fund (inside or outside an RRSP) because this helped diversify your portfolio and lower your risk.
The biggest problem with mutual funds is that once you invest, you have no control where the cash goes. Secondly, you’re placing all your trust in a fund manager that earns their salary whether you make a profit or not. You also have to pay annual fees for management and expenses (called an MER) whether you make or lose money. When you start calculating how much this fee eats into profits, placing that hard earned capital into mutual funds may not make the most sense.
The simplest way to explain a Mortgage Syndication is by example. You come across a real estate developer that is looking to build a great new project and is willing to pay you a fixed return of 10% per year to use your capital. While this is great and you get excited, he then tells you that he needs $3 million. Since most of us don’t have that kind of money, the deal isn’t so great. A Mortgage Syndication breaks up the total amount needed into much smaller parts, allowing the average investor to participate in the project and earn the same returns the larger investors get.
Mortgage Syndications are quickly gaining popularity because most projects are eligible to use funds from an RRSP, RESP, LIRA, RIF, TFSA, or cash account. Unlike mutual funds, there are never any annual management fees or commissions. Another big advantage is that part of the return each year is fixed, meaning that from the beginning of the term until the end, the return will stay the same. This fixed return is usually around 8% each year with an additional 3-4% per year bonus called a ‘deferred lender fee’ added onto your initial investment at the end of the term. This fixed portion gives investors peace of mind and makes longer term financial planning much easier.
A few paragraphs earlier I mentioned one of the drawbacks to mutual funds was the lack of control the individual investor has when it comes to what is purchased and sold off by the fund manager. Because a Mortgage Syndication is an investment into a single development, the investor has ultimate control where their capital goes. If they want to invest close to home because that’s what they’re familiar with, they can do that. They can also invest in a different part of the country where they see more potential for long-term growth. A reputable company that offers this type of investment will be able to help educate you on which investment will best suit your needs and work best for you.
As with any investment, there are elements of risk when looking at placing capital in a Mortgage Syndication and safeguards in place to reduce that risk as much as possible. First, your total investment is registered on title the same way a bank is on title to your home when you purchase it and take out a mortgage. Second, if you work with a reputable company, you will only be shown investment opportunities that are being completed by highly experienced developers that have a plan to complete the project from A to Z and a successful track record doing so in past projects. Third, some or all of the interest owed to you as the investor is often borrowed by the developer and set aside with a lawyer until it is to be paid out.
One of the most famous investors and wealthiest people in the world, Warren Buffett, was quoted as saying, “Diversification is protection against ignorance. It makes little sense if you know what you are doing.” While I would never recommend any investor to place all of their capital in a single investment, I personally feel that by doing some research and looking into alternative investments such as the Mortgage Syndication, any young professional has the ability to safely and consistently grow their portfolio and savings over time leading to a more secure future.
Article by MP Private Capital Founder Mitch Parker