In the real estate world, nothing compares to the frustration when trying to make crucial decisions and not understanding the fundamentals of investing. One wrong move could either send you to a bad deal or have you lose any deal altogether. But with so much information out there, it can sometimes be challenging to choose where to look. If you are in this position, this episode is for you! Ava Benesocky and August Biniaz invite you to a webinar that will cover your real estate investing woes. Together with a set of great panelists, they dive deep into securities regulations, apartment syndication, crowdfunding, and capital raising and break down how these differ between the U.S. and Canada. So tune in and join them along with Brendan J. Piovesan of Farris LLP and Jillian Sidoti, the author of The Crowdfunding Myth,, as they share insights, experiences, and the lessons they learned along their journey in real estate.
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If you are interested in learning more about passively investing in multifamily and Build-to-Rent properties, click here to schedule a call with the CPI Capital Team or contact us at firstname.lastname@example.org. If you like to Co-Syndicate and close on larger deal as a General Partner click here. You can read more about CPI Capital at https://www.cpicapital.ca. #avabenesocky #augustbiniaz #cpicapital
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About Brendan J. Piovesan
Brendan is a solicitor in the firm’s corporate & commercial and real estate groups, acting principally for private real estate developers and advising his clients on all aspects of real estate development. He has extensive experience advising clients on development specific site acquisition considerations, structuring partnerships and other investment vehicles, preparing offering memoranda and other public offering documents, securing equity and debt financing, negotiating, drafting and securing rights of way, easements, ground leases, air space subdivisions, rezoning and other municipal permits, and all other matters necessary to successfully carry out and complete a real estate development project in British Columbia.
Brendan also has extensive experience working with in-house and outside counsel for most major municipalities in British Columbia, works regularly alongside or opposite most of the major banks, credit unions and Mortgage Investment Corporations lending in the Province, and he has strong relationships with many of British Columbia’s top commercial real estate brokers and sales and marketing agencies.
Prior to joining Farris, Brendan worked for a number of years with a prominent Vancouver firm practicing real estate development law.
About Jillian Sidoti
Jillian Sidoti is an attorney, speaker, entrepreneur, mama, and former college professor. Forever focused on finding the best and least challenging path for entrepreneurs to find funding for their deals, Jillian has written equity and debt offerings for multiple industries including real estate, biotech, film, software, beverage, cannabis, and green tech. Jillian has had the pleasure of structuring funds for real estate giants Grant Cardone, Tarek El Moussa of Flip or Flop, David Gross (Nipsey Hussle), and the founders of Bigger Pockets.
Jillian is the author of the Crowdfunding Myth, debunking the myths surrounding crowdfunding. As a public speaker, Jillian often offers fun and relatable content that leaves the audience with a deeper understanding of the legalities of and psychology behind raising capital. Her signature talk, “Private Money Rockstar,” draws from Jillian’s previous experience in the music industry with the intention of empowering the entrepreneur to be a money raising Rockstar.
Since selling her successful, crowdfunding-focused law firm (Crowdfunding Lawyers), Jillian has worked to empower real estate entrepreneurs to build their businesses through advisory and coaching. However her most favorite professional endeavor is inspiring others to build the life and business of their dreams with her podcast and brand “Last Life Ever.”
Webinar: Securities Regulations – Apartment Syndication – Real Estate Investing – Brendan J. Piovesan And Jillian Sidoti
Welcome, everyone. Thank you for joining us. I’m August Biniaz, CEO of Canadian Passive Investing and an educator with CPI Academy. A little bit about myself, I’m passionate about educating our network so that they can make informed investment decisions on CPI Academy Platform. We’ll be bringing on experts to educate our viewers and add as much value as possible to our partner’s investment journey. I’m joined by my wonderful cohost, Ava Benesoky. Take it away.
Thank you so much for being here. Thank you very much, August Biniaz. I am Vice President of Canadian Passive Investing and also partner with the Vancouver Real Estate Podcast. I’m also very extremely passionate about educating and benefiting others. I’ve been a real estate agent for a decade now. I have firsthand experience with the frustration that real estate investors face when trying to make crucial decisions and not understanding the fundamentals of investing. I know for a fact that we are going to be providing value and lots of useful content that you, as our viewers, can use to build wealth and create financial comfort.
That’s the key to financial comfort. Jillian was speaking on that matter before we started the show while people were coming in, but that’s the key of having that financial comfort, the choices, and I believe you to be able to get back. There is something psychological about giving back and having financial freedom. I’ll stop elaborating. Get that point. It’s very well said.
We have incredible guest speakers for you. I’m sure everyone knows free consultation from lawyers is near impossible. Imagine combining expert lawyers from Canada and the US. In my opinion, they’re probably the best at what they do because I found them and knowing that they’re best at what they do to bring them on.
Why don’t we start and get to the exciting part and introduce our guest speakers? Let’s start off with Brendan. We have Brendan Piovesan, Solicitor Attorney with Farris LLP. He specializes in real estate, structuring partnerships and other investment vehicles offering memorandums to other public offering documents, security equity, debt financing, and negotiating. Brendan also has extensive experience working in-house and outside counsel for most major municipalities in British Columbia.
He works alongside or opposite most of the major banks, credit unions, and mortgage investment corporations blending in the province. Brennan has strong relationships with many of British Columbia’s top commercial real estate brokers, sales and marketing agencies. Now, Brennan is CPI’s Canadian Corporate and Securities lawyer. We absolutely love him. We are humbled and honored to have him here. Thank you, Brendan. Welcome.
We have our other distinguished guest, Jillian Sidoti, Attorney, Speaker, Entrepreneur, Mother, and former College Professor. Jillian has written equity and debt offerings for all kinds of industries, including real estate, biotech, film, software, alcoholic beverage, cannabis, and green tech. Jillian’s client list includes Grant Cardone, Than Merrill of A&E’s Flip This House, Tarek El Moussa’s “Flip or Flop” and BiggerPockets, and many other well-known established business groups.
Jillian is the author of Crowdfunding Myth, debunking the myths surrounding crowdfunding. Jillian is the founding partner of Crowdfunding Lawyers, LLP, established in 2014. Crowdfunding Lawyers, LLP clients have gone to raise over $4 billion in capital. We’re looking forward to working with Jillian as our US securities, corporate lawyer, and advisor. Welcome, Jillian.
Thanks. It’s good to be here.
Brendan, it looks like we’re going to start off with you. Could you explain to us the regulation about raising capital now? Can anyone raise capital from whomever they wish for whatever their business idea is here in Canada?
The short answer to the question is no. Obviously, as with lawyers, there’s no such thing as a real short answer. Unlike in the US, we have a fairly complex province by province regulatory system for securities or public offerings or raising money. While we have some level of national guidance, a lot of the regulation is province by province. The short answer is, as a general rule, the starting point is always at a prospectus is required for any securities offering. When you think of a perspective, think of an offering document that will be issued by Facebook when it does an IPO or some other large organization and what it intends to be publicly listed.
The exception to that is if you can find an exemption and there are a number of exemptions that are frequently used particularly in the real estate market and the cross-border real estate market. The three most prevalent exemptions are firsthand doing an offering under an offering memorandum. An offering memorandum, we refer to it as perspective light. It’s basically a less cumbersome document, generally shorter.
What it does is it goes through the intention of the offering, what the purpose of the fundraising is for, the ownership structure, various risk factors and other things like that. It walks an investor through the various moving pieces in securities attached to a real estate offering. The second exemption is what we refer to as the accredited investor exemption.
An accredited investor is a specified term under one of the national instruments published by the securities regulator. Think of it as meaning a high net worth individual or a company or a family trust that has significant financial and non-financial assets. The intention there is the idea is supposed to be that in essence, the high-net-worth individuals and family trusts with significant assets under management are typically more sophisticated investors.
They may have a management committee or other oversight. You tend to find a lot of, for example, lawyers who are investing in deals and subscribing under the accredited investor exemption tend to have fairly high net worth, knowledgeable about securities offerings, risk factors, or things like that. That’s the second exemption.
The third exemption that’s typically relied on in this case is the minimum exemption requirement. This is a bit of an odd creature of Canadian Securities Law. Essentially, it says if you’re investing over a minimum amount of $150,000, again, in that case, no prospectus is required. This is a little bit murkier. It’s also an exemption that’s not typically relied on because it comes with a lot of securities and regulatory filing requirements that are typically attached to prospectus offerings that are quite cumbersome and costly.
Typically, we try to stay away from those two. The two most common ones are the accredited investor and the offering memorandum. The big advantage of the offering memorandum is it opens up the offering to a much wider pool of investors. The investors who might not qualify as accredited for specific reasons can still invest in deals under the offering memorandum exemption. Issuers are authorized to issue to sell securities under the offer memorandum exemption to essentially to any member of the public who receives the offering memorandum.
That makes it a very attractive tool for a lot of issuers because it does require less cumbersome disclosure requirements while at the same time disclosing in a very fulsome and thorough manner to the investors. What are the various risk factors are? What the ownership structure is? Who’s going to be managing the investments? It’s a very good document that way and gives investors a very good understanding of the perspective investment. It allows them to make an informed decision.
There are a couple of quick questions that I have. This is the differences between the US and Canada that comes top of my mind now is that you mentioned every province in Canada has his own securities regulation. What I believe is the way in the US is the SEC, the Securities and Exchange Commission.
That’s correct. With that comes certain various minute but important differences between provinces as far as the various documents. For example, the Ontario securities regulator Ontario Securities Commission is a bit of an oversimplification but essentially says that any advertising pitch that includes financial statements or financial projections is deemed an offering memorandum. With that comes certain statutorily required disclosure rights and certain rescission rights to prospective investors.
For example, they’re allowed to rescind their subscription for a limited partnership unit that’s being sold for 48 hours after signing up. There are small but consequential differences in how the individual securities regulators across the country deal with various of these issues, which is very different than in the US, where, in general, the Securities and Exchange Commission. It has general oversight over all securities offerings in the US.The number one thing you have to remember, whether you're a passive or active investor, is that disclosure is king. Click To Tweet
There’s another item was the two main exemptions that were used. Offering memorandum exemption to the US, offering memorandum is something totally different. Another exemption is the accredited investor. Thank you so much for that, Brendan. Jillian, same question for you. Can anyone raise any money they want for any business idea, for example, a real estate project in the US?
The thing is, real estate gets a lot of great exemptions, specifically from other laws. The United States is a land of many, many laws. Canada has provincial rules for securities. The states each have their own rules as well, but the law of the land is the federal law. Some of the exemptions afforded under the federal law in the United States, which has been governed by the SEC as mentioned. Those are what are called federally covered securities. The states can’t make laws that are more cumbersome than those laws. For those particular exemptions or rules or whatever, the States can’t make more cumbersome laws.
That’s a good thing, but even when you’re raising money in the United States, you still have to pay for fees to every single state where you’re raising money. That’s what they like to do is collect money like most governments. That’s what they will do. In the United States, we have, we have laws that regulate the raising of capital, and then we also have laws that regulate what you’re raising capital for to a certain extent.
Real estate usually has some cool exemptions that don’t where some of the rules simply do not apply because it is real estate. We have an accredited investor exemption called Rule 506, which is if you think about the law as a tree, you have the big laws, the Securities Act of 1933, which came out of the great depression. Under that is an exemption called Regulation D and under that is a bunch of rules.
The rule we always focus on is one called Rule 506. Under that, if you are an accredited investor and you’re provided the proper disclosure, that is one of those federally covered securities where the rule is you can go out and raise capital. If you’re advertising, you can only take accredited investors. If you’re not advertising, you can take a combination of accredited investors and what we refer to as sophisticated investors. They are people who don’t have the same income or net worth as the accredited investors but probably have some experience that makes them know better when it comes to investing.
Whatever the case is, the number one thing you have to remember, whether you’re a passive investor or an active investor, is that disclosure is king. I don’t think this is different in Canada or the United States. It’s all about disclosure. What did you tell your investors? Did you tell your investors everything that they needed to know in order to make an informed investment decision? Investors, did you receive all the information that you needed to know in order to make an informed investment decision?
What I want to tell all of you is to not shy away from bad news or a pessimistic story. If somebody’s telling you a terrible story of risk and all the terrible things that could happen, you want to lean into that a little bit. Maybe not completely, but you want to lean into it a little bit because this shows an issuer who thinks about all possible things that could happen. When you think about all the possible things that can happen, you can plan better.
You can put contingencies in place. Don’t shy away when somebody says to you, “The risk is that we could lose all your money.” Don’t shy away from saying that to people either, because that shows that you’ve done your research. You’ve thought, “Here are all the terrible things that could happen and all the risks,” and brought them to light. That’s what we want to do for our investors and protect ourselves when we’re out there raising capital. That’s what you want to read when you are an investor. It sounds counterintuitive, but that’s what you want to be putting out there.
Please correct me here, Brendan. The way it seems to me is as far as providing the information or the content to the investor in Canada and for accredited investors, if you’re using the offering memorandum exemption, the offering memorandum is an extensive document where it includes all the risks, the business plan, and all the details. In the US, you mentioned something to provide them with information. Tell us a little bit of how extensive is information, Jillian that you have to provide to sophisticated and accredited investors.
It’s the same information. There are some people who will tell you, “You don’t need a PPM for accredited investors.” This is a terrible way to conduct yourself. We call it an offering memorandum here as well. Oftentimes, it’s referred to as a private placement memorandum or an offering circular, but what you want to do is you want to provide them with that big document that says, “Here are all the risks and what’s going to happen.” It’s the investment’s who, what, where, when, how, how much, and why. It’s the investment story. It’s a pretty depressing story. It’s not a marketing piece. It’s a legal document. It’s a depressing story of all the terrible things that could happen to your money if this company goes and invests it and does what they’re going to do with it.
That’s what you’re getting. It’s not a marketing piece. It will probably follow a marketing piece. You’ll bring in an investor. You’ll razzle dazzle them with your marketing. You’ll hit them with some cold water, which is you’re offering memorandum. The offering memorandum is the disclosure document. I don’t know what the equivalent would be in Canada, but the real document that is legally binding is the corporate documents. For example, most real estate companies and most real estate funds are LLCs.
Those are governed by what’s called an operating agreement. If you’re going to invest in a company in the United States that is a real estate company, the first thing you want to do is read that operating agreement and make sure it works for you. If you’re Canadian, you don’t want to invest in that. What you want to do is find companies that are raising money through a limited partnership.
We have a tax treaty with Canada, which gives you a tax advantage when you invest in a limited partnership as opposed to an LLC. That same tax treaty is not extended to an LLC. Unfortunately, it doesn’t make much sense as to why it isn’t, but it isn’t. As a Canadian, you want to be looking for LPs because that’s where you’re going to get the greatest tax advantage.
For clarification here, in the US, if you’re using the 506 exemption, you can raise from accredited investors or sophisticated investors. It applies best to provide them with some form of a PPM or something equivalent to a PPM or a retail document.
Here’s the thing. What I always tell people is maybe you can rely on this rule that says accredited investors don’t need disclosure or whatever, but that doesn’t mean that the investor can’t sue you for fraud if you didn’t tell them something. This is what you’re covering yourself against. There are a lot of scary monsters out there. The government is the scariest and the biggest one with the most amount of money to destroy you.
Who else has a lot of money that can destroy you? Accredited investors. You want to provide them with all the disclosure so they can never say, “You didn’t tell me that.” That’s what we’re going for when we’re going out there and giving them. It’s the best insurance policy that you could ever buy for your business is this document.
The last question about this item, Brendan, when we are using an offering memorandum exemption here in Canada, obviously the investors are going to no longer need to be accredited, but do we have an equivalency of something called a sophisticated investor?
There’s no equivalent here. The accredited investor is a prescribed category. There are various income and related tests that deal with the value of your income or your net worth. There are very specific tests and specific numbers that have to be met in order to qualify as accredited, but there’s no category outside of that called sophisticated investor or any equivalent to that. The idea is basically that almost by virtue of your income or your net worth, you were deemed to be a sophisticated investor, not as that term is defined in US securities law, but simply in the colloquial sense.
If you’re using an offering memorandum, can you raise from someone who’s not accredited?
That’s correct. It’s a slightly different scenario. Jillian was alluding to this before, too. The accredited investor exemption allows you to raise from accredited investors without doing an offering memorandum or prospectus or any other disclosure document. There are instances in which issuers will raise funds from accredited investors only. They’re light on their disclosure of risk factors and what is in the corporate documents. That’s a concern for sure.
As Jillian alluded to, in Canada, it’s the same thing. Disclosure heals all wounds, basically. It’s the best thing that an issuer can do in order to very clearly identify where this thing could go wrong. What could potentially happen to an investor and things like what factors are outside the issuer’s control? If you’re buying real estate assets, there’s always a risk of expropriation and various changes to zoning laws that may be outside of the issuer’s control.
Even outside of the prospectus offering memorandum requirements, disclosure is still a good idea. We take that a little bit further in some jurisdictions in Canada where certain documents can be put together that are deemed to be either an offering memorandum or what have you. Various disclosures are required no matter what, descriptions of risk factors and job, language around forward-looking information on financial projections that are prescribed by law in some jurisdictions.
In regards to syndicated real estate investments, what are common corporate structures sponsors use to raise capital? For example, funds, limited partnerships, equity shares, joint ventures, and so on and so forth.
For income-producing assets based in the US were being acquired by Canadians primarily, or even in a significant portion, the two most common versions are REITs or Real Estate Investment Trusts and limited partnerships. The simplest difference between them is real estate investment trusts are single trusts. They tend to own multiple assets, sometimes within the same category, for example, office buildings only, and sometimes within two categories, although generally not broader than that.
They invest in multiple different properties, perhaps through multiple different jurisdictions. It’s a fund. It’s intended to invest in multiple different properties over a period of time. The trust units tend to have a redemption date. They will expire, in essence, at some point. Real estate investment trusts are oftentimes, although not always, publicly listed units. In some cases, for the public listed ones, there’s an ability of investors to resell their units on a public market, which can be attractive.
They tend to typically offer lower projected yields because of that. Typically, there’s a fairly complex government structure. They have a track record. It’s a bit different than limited partnerships, which are typically used for single investment deals. They tend to be a little bit higher risk. You’re not pulling your money across multiple properties, multiple jurisdictions and stuff, which can potentially obviously increase risk. At the same time, because of that, the potential return offered on limited partnership, interests are typically higher to investors.The government is just the scariest and biggest one with the most amount of money to destroy you. Click To Tweet
That’s the standard. The limited partnerships are great. As Jillian alluded to earlier, essentially, a tax flow through that Canadian investor still has to obtain an ITIN number in the US. There are still some filings with the IRS that are required. For the most part, provided that somebody is only a Canadian taxpayer, is not a US taxpayer or US person under tax law. There’s no obligation to remit any taxes to IRS. There can be holdbacks or various other things that are obviously required, but no tax payable is typically under the tax treaty between the two countries. Limited partnerships are also great because they’re typically nimble. Typically, each new investment is a single-purpose limited partnership required for that specific property.
It allows you to rejig the deal in each case, perhaps change the governance structure if you’d like, gives a little bit more flexibility. That’s the general oversight of the two most commonly used ones. We don’t typically see things like joint ventures and the like simply because there are tax consequences. As Canadian taxpayers, we don’t want to be stuck in a situation in which we’ve heard income in the US there’s some nasty consequences of that in some instances. We tend to prefer to use investment vehicles where we are taxed only in Canada, even though we generally always have filing requirements in the US if we’re indirectly on a US property.
Thank you for that. Jillian, same question for you, but in my experience dealing with US sponsors and communicating with my associates, I might not be totally right on this. However, I’ve noticed that limited partnerships are not as prevalent as LLCs. A lot of times, sponsors create LLCs and sell the shares of the LLC to their investors.
The reason why they do that is quite simply because an LLC is much more flexible than a limited partnership. In a limited partnership situation, limited partners in a limited partnership cannot take on any management roles whatsoever without ruining their liability protection. In a limited partnership structure, there are two parties. There’s a general partner and the limited partners. The general partners do not have any liability protection. If you invest as an individual in a limited partnership and you take on some management role or start acting as if you’re more than a limited partner, you’re not exactly passive.
You’re going to ruin any liability protection you have. If you’re an individual, that can be very dangerous. We prefer limited liability companies because it doesn’t matter if you are an active or a passive investor or manager because everybody’s protected the same in a limited liability company. You also have so many other advantages with how you run the company, how you structure the tax structure and all of these things. One of the solutions to get around this, I’ll say, for example, Grant Cardone. If you’re a Canadian and you want to invest in Grant Cardone deals, he’s all LLCs. You’re not going to get that tax advantage.
What you can do is you could set up your own entity in the United States, get your own EIN, or some way or another get some tax ID. You’ll not have the worries of withholding in investing in an investment vehicle that doesn’t have the tax advantages. That’s what we’re trying to prevent because in the United States if you’re a foreigner, the syndicator or the fund manager, or the company is obligated to have a 35% withholding because what the United States government is afraid of is that foreigners will take their money and never pay the tax, and they’re probably right. They want to prevent that. They put the onus on the company to withhold the taxes from the foreigner. The way you can prevent that is to show up with a tax ID from the United States.
Brendan, back to you. This question is a follow-up to the last question. As limited partnerships are one of the most common structures used by sponsors, if you partner with investors, who own the asset? Is it the investor? Is it the sponsor? Can the GP sell the asset and run away with all the money?
The answer to that is it depends. Typically, the most common structure that we deal with for income-producing assets is a series of partnerships, all of which flow out to the ones sitting above on the org chart below, depending on how you draw your org charts. Typically, wherever the property is, there’s a US partnership, oftentimes a Delaware partnership. That is the owner of that property. The Delaware limited partnership is the owner of that property. It’s the one that takes on the bank financing if there’s going to be bank financing. It’s the one that engages property management companies, contractors to do repairs, all of those types of things.
It’s the one that collects rent checks, for example, and leasing issues and the like. At the end of the month or the quarter of the year, or what have you, it flows its income up into its investor partnerships who in turn will distribute it out to their investors. Oftentimes, this organizational chart could be multilayered and can have many layers along the way.
That process might get repeated more than once, but the owner of the property itself is in fact the limited partnership, ultimately. All that the intermediate partnerships do is act as flow shrews. They collect money in and the money into the investor dollars into the partnership, that’s going to acquire the property. In turn, they receive cash back or funds back from the property if they’re pushed out by the owner-limited partnership.
Quick question, the org chart that you were mentioning, is that part of the information that’s given to the investors offering memorandum?
That’s correct. An offer memorandum would have a complete description of the ownership structure all the way through, including, for example, details on who the directors of the general partner at the Canadian level would be who the directors of the general partners. US limited partnerships would be, for example, descriptions of material terms of the operating agreement of an LLC, which serves the general partner of a US partnership and so on.
There’d be a complete description, not only of the actual ownership structure itself all the way through but key control terms. For example, there was a Canadian limited partnership. Let’s say there was an investor who’s interested in looking at the offer for that partnership. Sitting beside that partnership was another investor who had negotiated some level of operational control over the asset, or an ability, for example, to replace the directors of the US LLCs that act as general partners. That would all be disclosed in the offering memorandum so that the investors have a complete overview of perspective. Investors have a complete overview of ownership, governance, management, and so on of all of the entities that are ultimately going to raise funds and pull them into acquiring this partnership.
Another question that came to my mind is from an earlier subject that we were discussing. Jillian mentioned that when they’re talking about investing in real estate in the US, real estate securities tend to get certain benefits and relax regulations. Is that the same idea here in Canada? Is it across the board, no matter what business you are raising capital for?
As a general rule, we don’t distinguish all that much. There are a lot of exceptions to that rule, but there’s no particular treatment in general of real estate securities tied to a real estate purchase, put it that way.
Jillian and I had this conversation regarding a fund and a fund manager. To run a fund here in Canada, you need to have a fund manager who has a certain experience, but Jillian mentioned that in the US is not as difficult. The real estate gives an exemption, not to need a fund manager. Am I correct on that, Jillian?
I didn’t hear that last part of what you said. You trailed off for me. Can you repeat that last part for me?
We had a discussion about this matter before where real estate securities received a certain type of exemptions from the government in the US. It was about a fund where a real estate fund here in Canada needs a fund manager. We saw certain qualifications and certain years in business.
That is what I was referencing. We’re talking about phone companies versus real estate. There’s no distinction between a cell phone company and a real estate company. If you’re going to buy an apartment building and you want to raise money for that, there’s zero distinction in that regard. Where the distinction comes is when you’re coming to funds. You hit the nail on the head there.
For example, if I wanted to do a fund that focused on stocks, bonds, cryptocurrencies, anything, throw in a whole basket of things that’s regulated differently than a real estate fund. A real estate fund enjoys certain exceptions and exemptions from being regulated as an investment company. Investment companies have a whole other set of rules that they have to follow.
The big but is if you invest only in real estate, you don’t have to pay attention to the investment company act. You don’t have to register as an investment company and a registered investment advisor. That’s why we like real estate so much because it gives us freedom from some of these laws that can be quite oppressive because the cost of complying with them is high.
Brendan, if you want to add to that, am I correct about this item that if there is a fund here in Canada, that in other regulations, you need to have a fund manager and a fund manager needs to have certain qualifications to be the fund manager?
That’s correct. As a general rule, if a partnership in BC or elsewhere in Canada is raising funds for the purpose of only being a passive investor in the ultimate asset being acquired here. In other words, it exerts no control over operation management, governance or anything like that. There’s a risk that it’s deemed to be an investment fund. In which case, there are certain prescribed requirements, including having an investment fund manager who has to have various qualifications and there’s various filing fees and the like.
There are no bright line tests on what management means or control over operation. It’s very fact specific to the securities regulators, but in general, for example, a British Columbia limited partnership or simply acquiring limited partnership units at the US level. Let’s say they were acquiring 2% of the partnership units to the US level, and they had no rights to vote on anything which is typical in a limited partnership structure for a limited partner. They had no right to attend board meetings to perhaps nominate their own director or anything like that. There’s a risk that they came to be an investment fund. In which case, there would be various securities compliance requirements, including having an investment fund manager.
Brendan, you represent that group who raise capital from Canadian investors to invest in the US. Our accountants have created this intricate structure for our investors to be able to invest in the US without having to worry about double taxation. How are Canadian investors protected when the asset is owned by a US entity?
Do you mean protecting you from ownership and operation and governance?It doesn't matter if you are an active or passive investor or manager because everybody's protected the same in a limited liability company. Click To Tweet
More of like fraud or somebody running away with the funds? If the asset is owned by a corporation in the US and our investors are Canadians, how do they get peace of mind that an American company owns the assets?
This is where you need to be very careful about the chain of partnerships and what levels of control and oversight or exercise through them, whether or not key concepts around, for example, the ability to replace directors, remove a general partner of the US level. Those types of rights typically have to be negotiated. It has to be very careful to make sure that there’s some level of control. Mostly what we’re talking about is instances of fraud, misappropriation of funds and things like that. There is always a risk in the sense of as a limited partner. As Jillian mentioned before, by definition, you have control over the ultimate owner here.
If I invest as a limited partner in a BC limited partnership that acquires partnership units of a Delaware limited partnership, for example, I can’t participate in the management or control of the Delaware limited partnership without potentially jeopardizing my limited liability. The default rule under a partnership wise, all partners are equally liable for the debts and liabilities of a partnership. A limited partnership provides protection for that, but to the extent, I exert some operational or management control, I could potentially jeopardize my limited liability. That’s a risk here.
There has to be a careful balancing of what level of oversight and control is exercised over the ultimate owner versus the potential risk of jeopardizing limited liability. That’s where we get into where you want to chat with lawyers, accountants and various other people like that to make sure that you’re maintaining your tax status of not being taxed at the US level. All the while ultimately making sure that there are adequate protections in place to ensure that somebody doesn’t sell the building and make off with the funds without paying you what’s owed.
The other thing to remember is that, for example, in this structure I described, you’ve got a BC limited partnership, which in turn acquires limited partnership units of a Delaware limited partnership, which ultimately acquires the asset. That partnership agreement is still a contract. The partisan agreement of the Delaware limited partnership is still a contract. That contract should include terms that deal with, for example, if there is an event of fraud by the general partner, what happens?
Do the limited partners have the right to remove the general partner terms like that? As a general rule, we have reciprocity of judgments as well. To the extent, we have multiple jurisdictions and Canada and the US involved here, if a judgment is sought, for example, under fraud, it’s generally enforceable and the other jurisdictions as well.
There are complexities to that, but the key thing is making sure that the agreements provide adequate protection. Make sure that the remedies are in place there or the enforcement mechanisms are in place to ensure that there is no opportunity for fraud or if there is, what happens and what level of oversight does the BC limited partnership have to ensure that it protects its investors.
All that detail is within offering memorandum as well.
That’s correct. There’d be a fairly detailed description of, for example, the ability to remove the general partner. For example, a Delaware LLC that’s acting as the federal partner of the Delaware LP. The key terms of the operating agreement would be spelled out there together with key terms of the Delaware limited partnership agreement that allows the limited partners of that partnership to, in certain instances, remove the general partner. It will all be explained in the offering memorandum.
Jillian, the next question for you, I know you’re not a tax lawyer, but let’s briefly describe the depreciation for purchasing and managing US assets such as an apartment building and how depreciation helps with tax savings for investors? If you’d like to touch on the 1031 exchange as well, please go ahead.
I’m not a tax attorney, but I will tell you right now that real estate is one of the best ways to almost shelter your income because, in the United States, I don’t care what anybody thinks about Trump. One of the good things that’s come out of it is the changes in the tax code, particularly for anybody who needs write-offs because what he made possible or what the law now is that you can invest in real estate and get all kinds of depreciation.
Not just the depreciation that is used every 27. I might have these numbers wrong. Basically, you depreciate over 27 years, but they came out with some new rules regarding bonus depreciation where you can take a lot of the depreciation upfront, so you basically take all your depreciation in Year 1. You invest $100,000. Depending on the circumstances, you may be able to write off $100,000 on your taxes in depreciation.
It depends on the property, what you did, and if something called cost segregation is done on the property. By the way, when I personally invest, this is how I do all my investing. If a syndicator says to me, “I didn’t consider cost segregation.” I go, “I’m out. Sorry. You’re not giving me all the write-offs I can get now. ” You mentioned 1031. What happens when that property gets sold? You have to recapture all of those write-offs because now your basis.
If you invest $100,000, you write off $100,000. Your basis in the property is zero dollars. What if you go and sell the property for twice what it was purchased for? What you should have coming back to is about $200,000. Now you have to pay taxes on $200,000, which is more than the $100,000 you were going to pay taxes on in the first place. We don’t want to pay taxes on $200,000. You don’t avoid taxes. You defer them.
If anybody from the IRS is here, I only defer. I do not avoid. What do we do to defer our taxes? We can do what’s called a 1031 exchange, and we do this over and over again, where we take that $200,000 and put it into another property called the 1031 exchange. Thereby, you defer your taxes. It’s a great system for real estate entrepreneurs. That’s why real estate is such a great asset because you can do these things over and over again, and keep deferring those taxes and hold on to these investments for generations to come. Do you have to eventually pay taxes?
There are a couple of things you have to pay taxes on. If there’s any income that gets shot off that property, when you get that income, unless it’s set off by some depreciation or other expenses, you’ve got to pay taxes on that. Eventually, if you pull any cash out, you’re going to have to pay taxes on that. In the meantime, if you’re investing and your strategy is to hold on forever or be constantly invested into real estate and pull off that income as it comes out, what a great way to shelter some of your money.
Canada and the US tax laws are totally different. There is no 1031 exchange here in Canada. The appreciation is very difficult to organize, but for Canadian investors to be able to invest in the US, we have a country of 330 million people, very business-friendly and great tax laws. Having you guys here is tremendous truly because we get to discuss all of these items.
Brendan, can you explain to us, as far as Canadian law goes, what are accredited and non-accredited investors?
It’s the $200,000 single person, $300,000 if they’re married, or if they have $1 million assets, not including their primary residence.
I believe it’s $5 million, including their primary residence. It can be liquid and non-liquid. There’s a description of financial assets, which gets to the liquidity question. The most common one that’s used particularly for more retail investors is $200,000. It’s in two of the previous three years as stated on your income tax filings, or $300,000 household. It’s $200,000 for an individual and $300,000 household. The definition of accredited is expanded to include companies where the primary shareholder of the company as an individual would meet those tests as well.
You said the shareholder of the company. Is that any company or the company that’s purchasing the asset?
No. For example, my wife and I have a company through which we invest. We each own shares. Collectively, we qualify as accredited investors. We’re the only shareholders of that company. That company is deemed to be an accredited investor because its shareholders are also accredited investors.
Jillian, same question for you. For everybody reading, when Brendan is talking about dollar amounts, it’s Canadian. We’re talking about dollar amounts is USD. Jillian can take that away.
In the United States, to be an accredited investor, you have to have $200,000 income as an individual, $300,000 a year as a married couple or $1 million in net worth exclusive of primary residence. Whatever house you live in, you’ve got to exclude that from your net worth if you want to qualify that way. For entities, we have some thresholds for entities. It’s like $5 million in assets.
If you look through similarly, if all the investors, the owners of the company are accredited, many can be considered accredited entities. We had some changes to our accredited investor laws here in the United States. If you’re a certain type of stock broker in the United States, you have certain financial licenses. You can also be deemed an accredited investor without any of the income or net worth requirements. That’s pretty much it. It’s very similar.
Brendan, there are licensed individuals who have the ability to raise capital for sponsors like us. I believe these individuals are called exempt market dealers. Could you explain more about exempt market dealers and the perimeters around them?You want to always make sure the corporate document matches what is in the private placement memorandum. And you want to make sure there's nothing hidden. Click To Tweet
Exempt market dealers, for the most part, work with individual brokerages. They have very statutory requirements that relate both to their preexisting education and ongoing education requirements. It’s probably most importantly suitability and know your client items. For example, when an EMD takes on a prospective investor as a client, they have to go through that investor’s portfolio in detail. Get a sense of their time in life. For example, a younger investor might have a higher risk tolerance and is perfectly acceptable because they have a longer time horizon. Whereas if someone comes on board who’s 63 and ours has already built up a significant net worth and plans to hire a couple.
Those investors have different risk profiles and different concerns about short, medium and long-term time horizons. EMDs have a responsibility to understand their client, the risks of a deal, and identify whether a prospective investment is suitable for that particular client. To engage with issuers in a manner that ensures that their clients are provided with an adequate understanding of the perspective investment, how it aligns with their individual investment needs, their short, medium, and long-term risk factors, all those types of items.
They’ll do their own due diligence on a prospective investor to ensure that the investor has a track record and good investment documents, typically to ensure that there are no risk factors that become red flags for the particular investor they’re working for. That’s generally speaking in EMD’s role in the subscription process.
This is a question that came to my mind now, going on the logic that an EMD has the best of the clients in place, and they’ve been trained and licensed through the province or the government. Would you say for a passive investor looking to invest in a syndication or any idea you think it’s best to go through an EMD or is it better to go directly to the sponsor? It’s similar to mortgage brokers. Brokers do not work necessarily for one bank. You go to them and sometimes you pay a higher fee, but they get to shop around for your mortgage price. Give us an answer for that.
Certainly, working through an EMD is going to provide you with access to a broader range of prospective investments than a typical person would have on their own going through their daily lives. There’s an advantage that way. The EMD is a benefit for obvious reasons. The responsibility is obviously to understand you and your needs and to try to identify prospective investments accordingly. There are some protections because there are certain statutory obligations on them to gather certain information to keep themselves current as far as professional development goes so on. There are protections for an investor that way. What we typically see is it’s a very mixed bag.
For example, take the accredited investor category. There are a lot of accredited investors who are for whom it’s very reasonable for them to be able to invest on their own without the benefit of a disclosure document. They have existing relationships or perhaps they’ve worked in that industry. They’re very familiar with the risk factors. In that case, perhaps, dealing with an EMD doesn’t add a lot of value to them. It’s not necessarily worth the fees that are charged, but that’s relatively uncommon. It’s more common that investors, whether they realize it or not, would be well-suited to deal with an EMD who is very familiar with not only this particular offering but other comparable offerings and how that aligns with your subscriber investment goals.
I agree with you. I appreciate all the help you’ve been giving us as we’ve been in negotiations. The great thing is the executive decisions we’ve made to send all our investors through our EMD. Jillian, to you, Ava asked Brendon about this item. In Canada, these individuals are called EMDs. In the West, what are these individuals called? Is there such permission for these individuals to exist in the US? What do you guys call them?
I’m assuming that everybody in the United States who sells securities has to be licensed. I’m not very familiar with the EMDs, but we have registered investment advisors who get paid by their clients, not by the issuer. A registered investment advisor would advise their clients to invest in a deal, but the client would pay them. There are broker-dealers who would get paid by the issuer a commission. They all have to be licensed on some level. You can’t not have a license and sell securities in this country. As a matter of fact, it’s a real problem. A lot of people get in a lot of trouble because they don’t understand the rules.
You have people who are paying the commissions and people who are receiving the commissions, people who are not licensed to receive the commissions and people who are paying non-licensed people and they all can get into a lot of trouble. The reality is a lot of the private placement deals you’re simply not going to find through a broker-dealer or through a registered investment advisor because the rules are so strict and the liability is so high for these licensed people that they don’t want to take a risk on like individual syndicators or individual real estate funds most of the time. Occasionally, you’ll find them. In the United States, if you’re going to find great syndication deals and fund deals, you’re looking to the sponsor themselves.
That’s probably a significant difference because a lot of small teams here in Canada, syndicators, they do use the services of an EMD. That’s great that we talked about that item.
The incredible thing about having both of you guys on is you both focus on real estate buyer equity, so it’s truly amazing.
Brendan and Jillian had a focus on real estate, so it was great to get their perspective because they’re so versed in this role. I’ll tell you guys a funny story. Can you communicate with Jillian for a while? Brendan is our corporate and securities lawyer. Every once in a while, I have a question from Brendan and I was called Jillana. That’s not the way it works, but Brendan is like, “That’s the way it works in Canada.” There’s a lot of back and forth. Our incredible thing is that it’s the first time I’m speaking to them at the same time. Having them both on this episode is truly a treat to get both perspectives.
Get an understanding of both Canadian and US regulations. They seem to be very similar with certain differences. It’s great to have you guys on. I want to have some of the questions from our attendees answered. You would love to get an insight into the requirements for having international investors in Asia, the Middle East, Europe and Canada. I have the answer to this, but I’ll let the lawyers say it.
Canada is the only country that I know of that we have a tax treaty with. For any investors that are abroad in the United States, there’s a couple of things you have to worry about. Department of Homeland Security is one of them. The other one is the IRS. Those are the two big ones. As far as investors from foreign lands, they’re not as regulated under securities laws.
The United States has an exemption called Regulation S, which is exemption for foreign investors where you don’t have to follow exactly the same rules as you do for American citizens. The United States can’t enact their laws around the world as much as they would like to, but they can’t. As an American company looking to raise capital, we do have to worry about knowing your investor laws and making sure that your investors aren’t coming from one of the T7 countries or aren’t on a bad actor list.
This question on there is in reverse. I’ll put it to both of you guys. Jillian, what do we need to know as Americans in order to invest in real estate or in general in Canada?
Don’t do it, as a general rule. Particularly, in Vancouver, BC, we have a lot of taxes levied on foreign investment in real estate. That’s a bit too glib because it depends on the ownership structure. It depends on various other factors to the extent these taxes apply, but generally speaking, there’s certainly both a legal and political climate to discourage foreign investment in British Columbia. Similar taxes apply in Toronto and Montreal elsewhere in Canada. As a general rule, that’s the case. That’s obviously much too simplistic of an answer.
In general, we tend to invest a lot more. My understanding is we tend to invest a lot more in as Canadians in the US than Americans do in Canada. I’m not sure why that is because we’ve obviously got a very strong real estate economy in Canada. Certainly. There are a lot of legal pitfalls. We have withholding requirements like the US does when it comes to, for example, rents or interest income and various other factors. There are all those to deal with. There are foreign buyer taxes, owner taxes, non-resident taxes and various things like that that apply. All of them tend to be similar but slightly different. The number one piece of advice is to speak with a local lawyer to get a sense of what pitfalls there are if you’re interested in investing in Canada.
In terms of advertising and selling these securities, what about non-registered third parties advertising online on behalf of an issuer? Are third parties allowed to do online marketing, refer potential investors to issuer, and receive payments in Canada, BC, or the US?
Let me clarify. You can always hire a marketing company to market for you. Do you have an obligation to make sure that the marketing company is putting out the right messaging that’s not deceitful? Absolutely. The thing about it is they can’t get transaction-based compensation if they’re not licensed. If you want to pay them $5,000 a month to do Google Adwords for you, Facebook ads, or put up a website, go for it. That’s marketing. That’s not necessarily selling your securities. That’s where the difference lies. Is it transaction-based compensation or are they providing some other type of service?
It’s very similar here. The general rule of thumb is the person or the organization doing the marketing activities in the business of marketing securities. Do they receive compensation for selling securities? If so, they have a licensing requirement and a registration requirement. There’s nothing that stops anybody from Google AdWords is a perfect example. You can’t stop anybody from hiring them to advertise this. That needs to be not tied to the success of selling securities compensation paid to them, that is.
That’s all for the questions. You don’t have as many questions as expected. We’re wondering if you guys had some questions for each other since now you have a Canadian lawyer in front of you and you have an American lawyer if there were any clarifications or anything you want to get across.
Is there any trick that you can tell me to make me keep straight what the 33 act is and what the 40 act is? I don’t think there’s any Canadian lawyer who can remember which one? The other one is the securities act. Every US lawyers seem to refer to them as the 33 act in the 40 act and I can never keep them straight.
The 33 act is when you’re selling the securities. The 34 act is when you’re reselling security. The public marketplace and also governs brokers and dealers. The 40 act is that investment company act that’s when we’re not selling securities, but we’re selling securities on the basis that we’re going to go invest this money elsewhere. The investors are making a decision here and then we’re making decisions for the investor. That’s what the Investment Company Act is all about. I know it is confusing. I remember when I first started practicing law, I completely ignored the Investment Company Act of 1940. Who needs that? I’m not doing any of that. Thank God. I was only doing like real estate, but it wouldn’t be a bummer if I did like some big hedge fund and didn’t pay attention to that.
My question for you would be, what do we do about Regulation A in Canada? You hear all kinds of different things that Canadians aren’t allowed to invest in Regulation A.
What do you mean by Regulation A?
Regulation A is like a public offering. It’s not a public offering. It’s like an exemption from being totally public, but you’re allowed to go out and raise money publicly and raise money from anybody. Last I heard, Canadians weren’t allowed to invest in those.
By public, you mean not necessarily listed but a general offering. I’m not familiar with any restrictions on that.
Final question here for you guys. If you had one advice for investors looking to passively invest in real estate syndications, what would that advice be to an investor?
If I was giving advice for people to invest in syndication?
What to watch out for? The do’s and don’ts like, what would it be?
The number one advice is you want to always make sure the corporate documents match whatever they’re saying in the private placement memorandum. You want to make sure that there’s nothing hidden. Read their use of proceeds carefully. Where’s money coming from and where is it going to? Have they accounted for everything? Have they thought of everything? Are they painting like too rosy of a picture? Is it the true blue what’s happening and what could happen?
The big thing for me is to make sure that those corporate documents match what the PPM is saying. I’ve found more times that investors will read the offering memorandum or the PPM and not read the corporate documents and sideswiped later when they realize the corporate documents are what rule, not the offering memorandum and they don’t match. We’re all in litigation over what I thought versus what was true.
Brendan, same question for you, what would be your number one advice to investors looking to invest in these types of apartment syndication in the US?
My advice would be partly legal and partly more practical which is the most important thing to me is to look at risk factors and a PPM or an offering memorandum to under to first get a sense of whether or not the sponsor and put some thought into understanding what could possibly go wrong. That Part A and Part B are from a budgeting perspective, a modeling perspective. Have they potentially factored some of that risk into their analysis to make sure that they’ve set aside sufficient contingency reserves or what have you? When the unexpected happens, which it always does, they’ve planned in advance for it. That’s my key advice.
Another quick question to yourself here, Brendan. If a Canadian sponsor team here in Canada is looking to start basically what we’re doing to partner with investors to invest in the US, at what point should they get in contact with you? Should that be super early? Give us an idea about that.
There’s no magic answer to that question. Generally, the earlier, the better, but what’s most important is to make sure that at the provincial level, at the BC level here, lawyers engaged in, before anybody’s signing any subscription agreement to a US partnership or becoming a partner of a US partnership and understanding what level of control can be negotiated into that US partnership agreement. There are all sorts of both legal and business risks that flow from simply trying to sign on to an off-the-shelf partnership agreement that’s done in the US without negotiating certain key terms into it.
Jillian, we are huge fans of you. For people who are not familiar with Jillian, she’s huge. She has got a huge platform online. She has amazing content, videos, and YouTube podcasts. She’s on many different webinars. I made it for an online event where sponsors host. I’ve heard of Jillian for years. Every time I watch one of her videos, I’ve learned something new because she’s very up-to-date on information as well.
We’re so grateful that we took the time to talk.
I’m so honored that you had me here with Brendan. It’s lovely to meet you. I can’t tell you how many times somebody asked me if I know a Canadian attorney and now, I can say yes.
Brendan comes advertised by us. He’s taking care of us has been great. If you have any clients look into doing any business.
If you guys need to reach me and you have additional comments or questions that you think of because this always happens to me. People get off a webinar and then they go, “I wish I asked X whatever X may be.” You can email me Jillian@JillianSidoti.com. I’ll be happy to answer them for you.
We hope to have you guys on again at some point. Thank you for being here. Thank you, everybody, for reading.
We appreciate you all.