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Several days ago, the Wall Street Journal published an article about real estate syndicator Applesway Investment Group (owned by real estate entrepreneur Jay Gajavelli), which lost more than 3,000 apartments across four rental complexes that went into foreclosure. 

What led to one of the largest commercial real estate bursts since the financial crisis of 2008? In a nutshell, Gajavelli’s company held floating interest rate loans where payments ballooned. Inflation brought higher expenses, but rental revenues could not compensate for the difference. Thus, bills became overdue, ultimately leading to these properties’ foreclosures. Thousands of individual investors looking to generate passive incomes (without being a landlord) have now been left empty-handed. 

Should Individual Investors Be Worried About a Potential Housing Bust? 

Between 2020 to 2022, syndicators raised a staggering $115 billion. As well, there were over 300,000 investors who participated in syndications in 2021, according to Financial Samurai. 

As much as I would like to believe that this is a one-off scenario, I’m leaning towards that this could have a ripple effect that could affect the industry.  

Assuming that other major syndicators carry loans with variable rates (without an interest rate cap), they will feel the financial pressure of increased payments. This is due to the Federal Reserve aggressively hiking interest rates for the 10th consecutive time since March 2022. And syndicators most likely won’t be able to escape from renewing at higher rates in the near future. 

Aside from that, there are a variety of factors where things can go downhill. For instance, having poor property management, underestimating operating expenses, and a shortfall in rental income to keep them afloat could cause the business model to weaken. It won’t be nearly as devastating as the housing market crash in 2008, but I wouldn’t be surprised if we see a handful of syndicators go belly up this year.

What Should Be Done To Protect Small Investors?

I personally believe that all of this could have been prevented had the government—at both the state and federal levels—taken more responsibility to protect individual investors. 

I’ll give Congress the benefit of the doubt that they had good intentions in passing the JOBS Act in 2012, allowing syndicators to advertise real estate investment opportunities online. This made it more accessible for American families to invest. On the surface, this sounded like a great idea. In reality, the cracks in the system have led to this devastating outcome. 

It’s a complex problem that won’t be solved overnight. However, there should be accountability for all stakeholders involved. For one, I believe that syndicators should take responsibility by being transparent about their financial performance to their investors. Regular reporting to all their investors would go a long way in building trust between both parties.

Further, there should be more legal protection provided to individual investors. If I were in their shoes, I would want to know how my investment is doing and not be blindsided until it’s too late. 

Also, shouldn’t syndicators have skin in the game? If they’re asking for investors to pony up large sums of money, shouldn’t they do the same? 

These victims are hardworking citizens trying to fulfill their “American dream.” Now thousands of lives (possibly more) are in shambles because of this flawed system. It’s a tough lesson for these small investors who must rebuild their financial nest egg. 

How Can You Protect Yourself As An Individual Investor? 

If you want to become a passive investor with a syndicator, here are a few ways to be proactive and protect yourself. 

1. Network with other investors to find a reputable real estate syndicator who can prove they have a successful track record. The BiggerPockets forum is a great place to start.
2. Research and vet the company to ensure they are trustworthy.
3. Understand your risk tolerance before you hand over large sums of money. With real estate, there are always risks involved.
4. Don’t put all your eggs into one basket—or you may be the one left holding the bag.
5. If it sounds too good to be true, it probably is. Don’t give in to the FOMO. A company should not be overpromising or guaranteeing unrealistic returns in a short time frame.

Hopefully, with these tips in mind, you can make educated decisions about what real estate investments suit you. Again, we can’t predict what will be the fallout of this event. It could be isolated. But I stand by that if foreclosures can happen to one syndicator (and unless others are being more diligent), then we may see more on the horizon.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.