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How to Start a Real Estate Fund

By: Tilden Moschetti, Esq.

Real estate is among the most beneficial investment vehicles, but it requires high capital. Real estate funds and real estate syndications lower the industry entry threshold, providing individual investors access to better assets. Nowadays, many homes in the United States are owned by investment funds rather than individuals.

The good news is that nearly any individual or entity with an investing background can participate in a real estate fund, either as a sponsor or investor. This guide will explain how to start a real estate fund from the sponsor’s perspective.

What is a Real Estate Fund?

A real estate fund is an investment pool used for collective estate purchases, in comparison to a real estate syndication which is typically for an identified property or properties.. In other words, investors combine their capital to make larger real estate purchases than any of them would be able to make alone. Not all real estate funds are the same, though – let’s look at the four main types.

Real Estate Mutual Fund

In general, mutual funds are professionally managed investment pools. Mutual funds may be focused on any investment type, including real estate. Such entities invest capital pooled from several investors in the direct ownership of the real estate and real estate-related company stocks to help individuals create a diversified portfolio.

Investors can enjoy the benefits of professional portfolio management without handling any paperwork. This option often attracts smaller, inexperienced investors wishing to receive passive income without manually searching for opportunities and evaluating risks. Real estate mutual funds are typically open to any investor who meets the minimum investment requirement and invest in liquid assets.

Real Estate Private Equity Fund

Real estate private equity funds are no different from any other private equity fund but focus on the purchase of real estate. Similar to a mutual fund, a private equity fund is an investment pool managed by a professional authorized to manage assets on the investor’s behalf. But unlike mutual funds that typically invest in liquid assets, private equity funds usually focus on long-term investments or investments with low liquidity.

The private real estate equity acts as a general partner, collecting money from investors known as limited partners. General partners are responsible for researching investment opportunities, evaluating risks and benefits, handling paperwork, and delivering limited partners their expected returns. In other words, the general partner manages a limited partner portfolio. Furthermore, general partners carry all legal and financial liability, whereas other partner liabilities are limited.

General partners may be individual investors, families, or companies. Most such funds in the United States are managed by accredited investors with a net worth exceeding $1 million. Real estate private equity funds are typically open only to qualified clients and accredited private investors. This investment pool option offers lower liquidity than mutual funds and is better suited for experienced investors but often brings higher returns if managed correctly.

Real Estate Debt Fund

As with real estate mutual funds and private equity funds, real estate debt funds raise money from a group of investors for large real estate projects. The difference is that debt funds provide raised investor capital to the current or prospective real estate buyers or developers as loans. Investors then receive regular payments with interest, acting as financial institutions. The funds are typically collateralized for added capital security.

Real estate debt funds offer borrowers conditions financial institutions like banks can’t. They often work with borrowers with a poor credit score or who are unable to access conventional loans for other reasons. Therefore, participating in such funds is a high-risk investment, but the returns are often worth it. Real estate funds make money by charging interest rates exceeding 9% and extra fees for servicing, draw, modification, due diligence, or exit. Most real estate debt funds offer short-term loans of $5-$150 million, but this isn’t set in stone.

Real Estate Investment Trust

Real estate investment trusts are legal entities owning, operating, and financing real estate. Private investors can purchase real estate investment trust stocks or participate in mutual funds organized by such entities. The investment trust shareholders earn a percentage of the entity income. Real estate investment trusts can be private or public. With the former, only accredited investors can purchase company stocks and access mutual funds, whereas public trusts are open for everyone.

Some real estate investment trusts focus on direct property ownership; others issue loans to estate developers or owners like debt funds. There are also hybrid investment trusts that pursue different investment activities.

To qualify as a real estate investment fund, a company must invest over 75% of its assets in the real estate industry and derive most of its income from it. Furthermore, the company must pay out at least 90% of its income as shareholder dividends and have at least 100 shareholders. These are only the core requirements, and companies may need to meet other conditions.

Real Estate Fund Types

Apart from legal structure, real estate funds also differ in risk and returns. We can identify five main types of real estate funds. General partners should be clear about the fund’s estimated risk and return metrics and stick to those goals.


This real estate fund type is the most conservative as it has the lowest risks but also the lowest rewards. Such funds typically purchase and manage high-quality assets in primary locations and offer investors 6-8% net equity without leverage.


Core-plus real estate funds offer investors higher returns of 8-12% net equity and moderate leverage. They invest in high-quality assets in secondary markets or lower-quality, higher-risk assets in primary markets.


Value-added funds offer medium-to-high returns with medium-to-high risks. Value-added real estate funds aim to maximize property appreciation by renovating, redeveloping, or increasing its operational efficiency. The market and risks are secondary factors to the appreciation maximization opportunity. Such funds may offer investors 11-15% returns with up to 70% leverage.


Opportunity-focused real estate funds invest in high-risk projects in exchange for potentially higher returns. Often, they invest in the redevelopment of poorly operated or outdated buildings. Most of the return is provided through appreciation and typically exceeds 15% net equity.

Distressed Debt

Distressed debt funds earn money by purchasing senior or mezzanine loans and commercial mortgage-backed securities. They typically offer investors 8-12% net equity using leverage.

Real Estate Fund Benefits

Real estate funds offer investors and fund managers numerous benefits, which we’ll discuss further.


Every investor knows not to put all their eggs in one basket, and real estate funds strictly follow this golden rule. Even funds that focus on a specific investment type strive to diversify the assets – for instance, a fund focusing on real estate ownership may purchase properties in different geographical areas or invest in different property types in the same area. This way, funds protect themselves and their investors from risks associated with market changes and economic downturns.


Real estate is among the most profitable industries nowadays, and property prices are constantly growing. Despite rare periods of price drops, the general trend is positive for investors. Therefore, real estate fund managers and investors can expect higher returns on average compared to investments in stocks and bonds.

On the investor side, real estate funds offer passive income, eliminating the need to handle the paperwork. From the fund sponsor’s side, this investment model offers numerous earning opportunities, including fees and rent collection.

Tax Efficiency

Real estate fund investors and owners can enjoy tax benefits such as pass-through depreciation. Property owners can deduct property depreciation, maintenance, and repair costs for tax return purposes while enjoying high investment returns. Furthermore, funds focused on long-term investments are taxed based on the long-term capital gain rather than short-term profitability.

Inflation Hedge

Real estate investments are an excellent inflation hedge. The higher inflation gets, the higher the real estate market prices, so investors can earn more in times of economic downturns. Furthermore, real estate has little correlation with other asset classes. Properties are typically illiquid assets that don’t change in price overnight and aren’t sensitive to sudden market fluctuations.

Access to Better Assets

At the end of the day, each party in a real estate fund benefits from cooperation. The fund sponsor and investor interests should align for common profit maximization. By pooling capital, parties can access higher-quality assets than they could access alone. Furthermore, mutual ownership lowers risks or project failure and facilitates economy of scale.

Real Estate Fund Risks

Real estate fund owners face multiple risks – let’s look at the most important consideration points.


Real estate ownership can’t be quickly bought or sold; therefore, real estate is considered an illiquid asset. Investing in illiquid assets has increased long-term risks – the investors and fund owners must carefully evaluate each project but predicting how the market will change isn’t always possible. Another drawback is that getting into illiquid investments is easy, while getting out may take a while.

Preferred Returns

Preferred returns are typically seen as a benefit for fund investors and a drawback for the owners. Investors who claim preferred returns must receive a pre-defined percentage of their investment capital before the fund owners receive anything. For instance, if an investor provides $400,000 in the capital with a 10% preferred return, the fund owners must repay investors $40,000 annually, and the remaining revenue is split according to party shares.

The drawback is that no fund can guarantee that real estate will gain the expected revenue. If the fund fails to repay investors their preferred returns, the remaining return rate accrues to the next year. For example, if the fund only manages to repay investors 5% of their preferred 10%, it will have to repay 15% the next year. Often, the preferred returns continue to accrue year after year until the project fails.

Real estate funds aren’t obliged to offer preferred returns. However, it’s a good way to attract investors willing to provide a large capital. Preferred returns indicate to investors the fund’s willingness to reach the revenue goals and confidence in project profitability.


Real estate fund general partners carry all legal and financial liability for their fund investments. If the market state changes drastically or borrowers fail to return a loan, general partners still need to repay limited partners their invested capital and, often, preferred returns, depending on the contract agreement.

How Real Estate Funds Earn Money

Real estate fund owners earn money in different ways, depending on the investment type. For instance, funds investing in direct real estate ownership may earn money from rent collection, and funds investing in real estate company stocks earn dividends. Meanwhile, real estate debt funds mainly earn money from loan interest payments. If the borrowers fail to repay the loan, the fund can take borrowers’ collateral assets and sell them.

Typically, real estate fund sponsors also own an equity share. The share may be as little as 5% or as high as 50%, and profits are distributed according to this figure. Additionally, real estate fund owners collect fees from participating investors. Here are the most common real estate fund fees sponsors can collect from investors.

Asset Management Fees

Real estate fund owners typically charge up to 2% of the investment capital or annual property revenue as an asset management fee. Sponsors must have certain expertise or hire third parties to manage investor assets. This fee is charged to reimburse any asset operation and management expenses, often with overhead.

Property Management Fees

Apart from investor assets, real estate fund owners must manage the purchased property. This includes property security, maintenance, cleaning, repairs, and other day-to-day operations. Often, property management is carried out by third parties, and the fund owners charge investors property management fees to reimburse the expenses. Property management fee typically ranges from 2% to 6% of the invested capital. This fee is irrelevant for funds investing in real estate company stocks or real estate debt funds because they don’t have to manage any property directly.  

Acquisition Fees

Real estate funds investing in direct property ownership often charge investors asset acquisition fees of 1-2.5% of the capital invested in that specific property. Real estate purchase involves a lot of paperwork that is facilitated by the real estate fund owners or third parties. The acquisition fee is meant to reimburse the costs and time spent on this process.

Disposition Fees

A significant part of real estate fund owner and investor revenue comes from property appreciation. In most cases, funds hold on to their investments for several years, waiting for the property value to increase. Then, they sell the property to gain appreciation income.

The property sale is no easier than its purchase. The general partners must invest in marketing, communicate with potential buyers, and handle the paperwork. For this work, they typically charge investors 1-2% of the investor’s income from the property sale.

Marketing Fees

Marketing is an integral element of many industries, and real estate is no exception. First, real estate fund owners must invest in marketing to find investors. This may include online advertising, website building, email marketing campaigns, or any other strategies. Then, they need to invest in marketing again at the point of the property sale. Simply put, good pictures, copywriting, and communication with potential buyers help to sell the property for a better price. The general partners may charge investors extra fees to cover marketing expenses.

Development Fees

Sometimes, real estate funds purchase property that requires heavy redevelopment. Renovation and development help sponsors to raise property value but require significant initial investments. General partners may charge limited partners fees to cover development costs.

Managing a real estate fund requires a lot of legal work, including setting up investments, managing escrows, and reviewing contracts. The fund owners may handle this work themselves or hire third parties. Typically, funds charge investors a small percentage of their provided capital to cover the expenses.

How Real Estate Fund Investors Earn Money

From the investor’s side, the process of real estate investing is easier. The investor provides capital in exchange for a portion of the fund’s income. The revenue percentage a specific investor earns depends on their share in the fund’s capital.

Blind Pool vs. Identified Property

Real estate funds differ by investment models. The two main types are blind pools and identified property funds. In this section, we’ll review each scheme in detail.

Blind Pool

A blind pool is a limited partnership scheme where a fund doesn’t provide investors with a specific statement of how the funds will be utilized. In other words, investors fully trust their capital management to the entity. Such a scheme is sometimes called a blank check underwriting or blank check offering because investors don’t know how exactly their money will be used.

Blind pools are more flexible than real estate funds with a specified fund utilization. They are free to search for the best opportunities and are governed by internal policies. But while blind pools don’t have to explicitly state their investment goals, they still may be focused on a specific industry and obliged to provide investors with specific expected returns.

On the one hand, blind pools are risky for investors because they have no control over their capital. Investors must trust their assets to the general partner without knowing how they will be utilized, so the right choice of a fund is vital.

On the other hand, due to the added flexibility, blind pools can offer higher investment returns than identified property funds. For example, an identified real estate investment fund will have to invest in a specific property type even if the market state is unfavorable, thus signing up on a poor-performing deal. In contrast, blind pool managers can evaluate each opportunity in real-time.  

Identified Property Fund

As opposed to a blind pool, an identified property fund explicitly states to the investors how their capital will be utilized. The general partner typically has signed contracts prior to collecting capital, and investors can evaluate the project opportunities and risks themselves before investing. Often, the general partner also has established joint venture partnerships with construction or development companies.

The benefits of an identified property fund are obvious – the investors have more control over their capital than in the case of blind pools. For general partners, this means more investors willing to provide capital. Problems arise when significant market changes happen, and the planned project falls short of expectations because general partners can’t back down.

Semi-Blind Funds

A semi-blind real estate fund is a hybrid between a blind pool and an identified property fund. In this scenario, some opportunities may be already identified and contracts signed, but the general partner may sign up for other projects that aren’t yet under the fund’s control.

How Real Estate Funds Work

Now that you know how real estate funds differ, you should understand how they are established, operate, and distribute profits. Here’s a brief step-by-step explanation.


Before the real estate fund is established, the sponsor should choose the best suitable legal structure and general investment parameters. The target risk and benefit ratio and investment types should be identified before the fund is legally formed. After the basics are agreed on, the sponsor can legally register the fund and create the private placement memorandum (PPM) or file Form D with the SEC. An attorney’s help is vital at this stage to avoid legal issues in the future.

Launching and Marketing

After a fund has been registered, it can be officially launched. The objective of this stage is to let investors know about the fund and its goals. Clearly defined investment goals, risks, expected returns, and contract conditions are essential to gathering an investor base.

Real estate fund sponsors can find investors in different ways. Asking family and friend networks is a valid option for funds open to sophisticated, non-accredited investors. Another way is to find local real estate investment clubs or online platforms. Note that sponsors aren’t always allowed to promote their funds on the web, magazines, TV, and other public sources. The advertisement permission depends on the fund’s qualifications under Regulation D of the Securities Act 1933.


Once the fund sponsor has reached enough investors to collect the required capital, they can start accepting investments. The fund should have an established minimum capital goal and minimum investment threshold.


When the fund reaches its investment target, it closes and doesn’t accept new investments. However, some funds known as open-ended funds may continue to raise capital for some time after the investment phase begins. This is typically the case with blind pools and semi-blind pools.

Close-end real estate funds have an established life, and the largest part of investment return is acquired after the property sale rather than a continuous income stream. Meanwhile, most open-end funds have no set termination date and rely on a continuous income stream more than on the appreciation profit.

Open-end fund sponsors don’t have to liquidate assets at a set time and, therefore, can focus on long-term appreciation. However, such funds may have trouble producing a constant income stream, resulting in lower investment returns. And because the revenue is acquired immediately after investment rather than only after the set termination date, open-end funds usually have a lower risk profile.


At the investment stage, the fund purchases assets according to the pre-defined plan. In the case of blind and semi-blind pools, the general partner may be researching opportunities for another 24-36 months after the fundraising closing date. Typically, the fund isn’t obliged to invest in any assets if there are no worthy opportunities identified.

After the capital is invested, the fund will usually strive to maximize the appreciation or annual revenue, depending on the fund’s objectives. Throughout this phase, the fund may raise and invest more funds for property renovation or redevelopment.

Profit Distribution

Profit distribution is the final phase of the project that happens after the property sale. Investors and general partners receive their share of appreciation and split any remaining profits. Sometimes, investors and sponsors receive revenue throughout the investment phase, for instance, monthly property rental revenue. How profits are distributed depends on a specific fund’s waterfall structure. Some funds prioritize investors and issue them preferred returns before sponsors get any profit; others distribute revenue without any prioritization. The waterfall structure is always stated in the contract agreement.

Lockout Periods

The lockout period refers to a time frame when investors aren’t allowed to sell shares in an investment. In the case of real estate funds, neither of the parties can redeem the shares until the lockout period ends. However, in some cases, passive investors can sell their shares to other investors. Lockout periods are necessary to ensure the project’s stability, preventing excessive volatility and ensuring assets have time to accrue real value. The lockout period duration may differ depending on the fund’s type, objectives, and scale. Typically, it lasts from 90 days to one year.

Distribution Waterfalls

An investment company’s profit distribution structure is known as a waterfall and must be explicitly stated in the memorandum. The variations of distribution waterfall structure are limitless, but some of the most common types are American, European, and straight split models.

American Waterfall

The American waterfall model prioritizes fund sponsors more than investors. The sponsors start receiving profits before the investors receive their return of capital because revenue distribution happens on a deal-to-deal basis. However, the investors still receive their preferred returns. Assume that investors expect a 5% return and own 60% of the shares. If the property’s annual revenue is $500,000, the investors will receive $25,000 as a priority. The remaining profits will be split between the parties according to their equity shares.

European Waterfall

The European waterfall structure is seen as benefiting the investors more than the fund sponsors. Unlike the American waterfall that applies the distribution on a deal-to-deal basis, the European model applies it on a fund basis. In other words, the fund’s sponsor only starts receiving revenue after investors receive their entire capital. After the investor interests are met, the revenue is split according to the party entity shares.

Straight Split

Straight split is the simplest form of distribution waterfall that doesn’t involve preferred return or prioritization. The revenue is split on a deal-to-deal basis according to the party capital shares.

Private Placement Memorandum

A private placement memorandum is a vital element of most real estate investment deals. This document lays out the investment project’s details to investors and is meant to help limited partners make informed investment decisions and protect all parties. Sometimes, a private placement memorandum is called an offering memorandum or disclosure document.

The private placement memorandum is usually required when an individual investor or a company sells another entity to manage their assets, but there are exceptions. For instance, real estate funds working under Regulation D of the Securities Act aren’t required to provide the document to prospective investors. Now, let’s look at the general private placement memorandum structure.

Introduction and Investment Summary

A private placement memorandum starts with a brief overview of the fund and its investment goals. It then lays down the investment summary, including the property’s details and appreciation plans. Open-end funds don’t have to describe specific projects but may specify the investment types, markets, or other general details.


This section lays down the risk factors. This refers both to general real estate investment risks and to the risks of a specific project, such as local market or property condition issues.

Use of Proceeds

The use of proceeds is an essential element of the private placement memorandum. This section describes how the fund sponsors will use investor funds, for example, on property purchases or redevelopment.

Offering Terms

The offering terms section specifies the minimum investment threshold, estimated return rate, investment term duration, equity split, and other important details. Fees can be stated in a separate section or included in the offering terms.

Securities and Transferability

The memorandum must explain investor and sponsor securities, investment liquidity, and transferability. Security in the investment world refers to fungible, negotiable financial instruments holding monetary value and representing position ownership in a corporation via stock. The partners should be informed about early redemption options and possibilities of share transfer. Additionally, this section describes where investor funds will be held while the offering phase is open and before the investment phase begins.

Conflicts of Interest

If any conflicts of interest are present in the deal, either with the entity as a whole or among the management team, they should be disclosed in the memorandum. For example, if one of the fund’s managers may be investing in a competitor’s property, it should be mentioned in the document.

How to Invest

The last section of a private placement memorandum lays down the investing process, describing the required documents, funding method, and other essential details.

Regulation D

Regulation D is a part of the Securities Act 1933 dealing with the public offering reporting requirements. To understand what Regulation D is, we must first explain why the Securities Act was introduced. It was issued in 1933 during the Great Depression to prevent another stock market crash and mandated the security issuer to meet certain conditions. The security offering must be registered with the United States Securities and Exchange Commission, known as SEC.

Regulation D is a 1982 amendment to the act allowing small- and medium-scale entities to raise investment capital without bearing the expenses of registering the offering with the SEC. It states that the security issuer must file a Form D electronically instead of handling all the paperwork involved in the public offering registration process under the Securities Act 1933.

Later, in 2012, another amendment allowed real estate developers to collect unlimited funds from an unlimited number of accredited investors and up to 35 non-accredited sophisticated investors. A sophisticated investor is defined as an individual or entity with sufficient financial experience and knowledge to evaluate the prospective investment risks and merits.

Entities who want to utilize Regulation D for their crowdfunding purposes must do so under Rule 506(b) or 506(c). The Rule 506(b) conditions are as follows:

  • Entities can raise capital from an unlimited number of accredited investors and up to 35 non-accredit sophisticated investors.
  • Accredited investors are classified as individuals with an annual income of at least $200,000 or a net worth of at least $1 million.
  • Sophisticated investors must be presented with sufficient disclosure for informed decision-making purposes. Disclosures are optional for accredited investors.
  • Investment’s promotional advertising isn’t allowed under Rule 506(b).
  •  Specific offering details can be provided to the investors only after they’ve self-accredited.

In short, Rule 506(b) allows entities to raise unlimited capital even with non-accredited investors without filing to SEC but prohibits advertising. Therefore, the fund sponsors can only raise capital from investors with whom they have a substantial relationship. There is no legal way to offer securities to investors outside of the sponsor’s acquaintance circle, even if they qualify as accredited investors. Meanwhile, the terms of Rule 506(c) state that:

  • Only accredited investors can participate in crowdfunding.
  • Investors can’t self-certify. The entity should vet the investors after reviewing supporting documentation.
  • Accredit investors are assumed to have a sufficient level of industry knowledge and experience, so promotional advertising is permitted, and detailed disclosure isn’t mandatory.

Entities that meet these requirements don’t have to provide prospective investors with the private placement memorandum, although they can do so for informational purposes. Furthermore, they can advertise the fund to the general public by means of TV, web, magazines, and other marketing channels. In this way, the sponsors can reach a wider audience and potentially raise more money, although neither of the rules sets a cap on the raised capital.

Since all investors need to be accredited, the sponsor’s responsibility is to verify the qualifications. The entity must review prospective investor documentation, including tax returns and income statements. Fund sponsors often hire third parties to handle the process.

The choice between Rule 506(b) and 506(c) depends on whether the fund’s sponsor already has an investor network. Naturally, the latter is more beneficial for most funds because they have an opportunity to raise more funds by reaching better investors. The main drawback is the need for investor verification.

The Investment Company Act

The Investment Company Act 1940 regulates investment company activities and sets industry standards with the purpose of protecting investors. Any investment company offering investors the opportunity to participate in open-end or closed-end mutual funds and investment trusts should understand and comply with this act.

Firstly, the act defines an investment company, describing the qualification requirements and exemptions. Any entity qualifying as an investment company must register with SEC before it can offer securities on the public market. Depending on the company’s goals, targeted market, and other factors, it can be registered as one of the three legal structures: mutual fund, unit investment trust, or closed-end fund.

An entity should be engaged primarily in investing, reinvesting, and trading securities to qualify as an investment company. Certain companies can qualify for an exemption from SEC registration under the Investment Company Act section 3(c)(7). The exceptions include companies that can prove they have no intention of making an initial public offering and only accept qualified investors. Qualified investors are defined under Section 2(a)(51) of the Investment Company Act and must own no less than $5 million in investments.

Getting Started

Starting a real estate fund on your own is a complex task, even if you know all the requirements and pitfalls. The process involves a lot of paperwork and requires expertise to choose the most beneficial company structure without compromising legality. There’s no room for mistakes in the real estate investment industry, and the best way to minimize your risks is by consulting with a professional. Syndication attorneys can help individuals or companies wishing to form a real estate fund draft custom private placement memorandums, choose the right legal structure, and register an entity. Many new real estate syndicators have a lot of questions. Contact a syndication attorney to schedule a consultation and ensure a smooth launch of your real estate fund.

Make informed decisions about your syndication.

Contact our syndication and private placement memorandum law firm today!