Open-End Real Estate Fund Considerations for Fund Managers
The real estate market continues to thrive as a whole, despite a tumultuous past 12 months. Real estate investment funds remain a solid opportunity for professionals and investors alike. However, not all investors are willing to lock up their funds in a set-term vehicle. Is it possible to launch an open-end real estate fund? This article considers some key considerations for prospective fund managers.
Open-end funds do not have a specific term laid out in the fund agreement and allow wind-down at the manager’s discretion.
This structure traditionally allows more liquidity and flexibility for investors as to when they enter and exit the fund. However, open-end does not mean the fund cannot restrict the timing of subscriptions and redemptions. A preliminary lock-up restriction can be used to allow a foundational investment period (for example: 2-3 years) and redemptions can be limited to semi-annually or quarterly. The fund agreement can also limit the size of any individual redemption or total redemptions within a specified period of time.
Consider the nature of the investments.
Generally open-ended funds aim to maximize cash flow and returns over the long-term rather than short/medium-term, which works well with stable, income-producing properties and real estate held for capital appreciation (versus development or value-add investments). An open-end fund allows for more diversity in investment base due to the flexibility in timing of purchases and sales of real estate.
Likely the most complex aspect of an open-end fund with illiquid investments is establishing a valuation process to determine the net asset value (“NAV”) of each investor’s interest at a given time, to allow for periodic redemptions.
A thorough valuation policy that can be consistently followed is essential. Stable, income-producing properties can be valued using an income capitalization method that is verifiable and reliable. Consider establishing a valuation committee of experts and subscribe to software with market data for use in the valuation. Periodic valuations from an independent third-party can also provide a foundational base to give your investors assurance of value. These outside valuations can be adjusted internally during interim periods to maintain consistency.
The administrative burden of frequent valuations and investor subscriptions/redemptions can be more time-consuming for open-end funds than closed-end funds.
Consider engaging a professional administration firm to provide expertise and reduce the internal workload.
Choosing an appropriate structure requires careful consideration by a prospective fund manager and a thorough understanding of investor needs.
The information contained within this article is provided for informational purposes only and is current as of the date published. Online readers are advised not to act upon this information without seeking the service of a professional accountant, as this article is not a substitute for obtaining accounting, tax, or financial advice from a professional accountant.