In a common private real estate deal structure, there are two groups of participants, the general partner(s) and the limited partner(s). The general partner (GP) is in charge of finding, financing, and managing the property while the limited partner(s) provide investment capital, but have an otherwise passive role. Because the GP does a lot of upfront work on behalf of the LPs, it is common for them to charge one or more fees for their effort.
In this article, we are going to discuss one specific type of commercial real estate fee – the acquisition fee. We will describe what it is, what it is used for, why it matters, and what a normal fee amount looks like. By the end, readers will have the information needed to understand how acquisition fees work and will be able to compare deals based on the amount charged.
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What Are Acquisition Fees?
Acquisition fees are fees charged by a general partner to recoup the upfront costs associated with finding, underwriting, and performing due diligence on a potential commercial investment property. To illustrate the amount of effort that it takes to do this, an example from our process is helpful.
Through our own relationships with brokers, operators, investors, and tenants, we are able to generate a tremendous amount of deal flow. For each one of the commercial real estate deals presented to us, we do a preliminary review to determine if it is a fit with our rigorous investment criteria. In this part of the process alone, we may screen 100 or 150 deals with the hope that we find 2 or 3 that meet our criteria. Then, we put each one of these properties through our detailed underwriting and modeling program and may make an offer on just one.
Needless to say, this amount of scrutiny requires a significant amount of time and resources on the front end of the commercial real estate deal. For this work, private equity firms, including us, charge an acquisition fee – sometimes called an origination fee – to recoup some of the upfront investment.
What Is The Typical Acquisition Fee Amount?
The acquisition fee structure can vary by general partner, deal size, asset class, or property type. But, the private equity commercial real estate investing industry is a competitive one so they tend to fall within a fairly narrow range.
The typical commercial property acquisition fee is 1% – 2%. Smaller real estate deals tend to be at the high end of this range while larger deals tend to be at the lower end. For individual investors, the key to evaluating the amount of the acquisition fee is to understand exactly how it is calculated.
How to Calculate Acquisition Fees
As described above, acquisition fees are expressed as a percentage, but the key to calculating it is to answer the question, “a percentage of what?” There are two options.
The first option is as a percentage of total deal size, which is described above. With this method, the acquisition fee percentage is multiplied by the purchase price. For example, an acquisition fee of 1% on a deal size of $10,000,000 would be $100,000.
The second option is for the acquisition fee to be assessed against invested equity. For example, a property with a $10M sales price could be financed with a loan amount of $7M and $3M worth of equity raised from limited partners. In this structure, the 1% fee is assessed against the $3M in equity, so it would be $30,000.
The acquisition fee calculation methodology is described in the real estate investment’s offering documentation, which should be read thoroughly by investors.
Other Fees To Look For
- Property Management Fee: A fee charged for the day to day management of the property’s operations. This may be handled by a third party vendor or by the general partner internally.
- Asset Management Fee: A fee charged for the cost of managing the commercial real estate asset. These activities include things like creating a budget, keeping tabs on market conditions, and managing vendor relationships.
- Disposition Fee: There is a big cost associated with preparing a property for sale, listing it, and actually selling it. To recoup these costs, the general partner may charge a disposition fee.
- Construction Management Fee / Development Fee: For projects that are developed from the ground up, the general partner may charge a fee for their work to manage the construction and development of it.
- Refinance / Debt Placement Fees: Finally, some general partners may charge a fee for their work to finance or refinance the debt on a property. This may be on top of the market rate fee charged by lenders to originate the debt.
When calculating their potential return in a deal, real estate investors need to make sure to include all relevant sponsor fees to get a more accurate representation of what the profit could be. Again, the fee structure can be found in an investment’s offering documents.
Acquisition Fees & Private Equity Real Estate
Acquisition fees are common in any private real estate syndication. For investors evaluating the cost cost/benefit of paying them, two key factors should be considered:
- Amount of The Fee: The amount of the fee should be consistent with industry norms and should not be a profit center for the general partner.
- Sponsor Track Record: In order to justify the fee, the sponsor/general partner should have an established track record of delivering healthy returns, net of the acquisition fee charged.
Again, investors should carefully review a deal’s offering documents to identify what the fees are and how they are charged. They should also compare them to industry standards to ensure they are normal and customary.
Summary of Acquisition Fees in Commercial Real Estate
Acquisition fees are fees charged by real estate firms to recoup the initial cost of finding, underwriting, and closing on the purchase of a commercial real estate investment property.
The acquisition fee can be charged on the total size/total cost of the deal. Or, they can be charged on the amount of equity raised from investors.
A normal acquisition fee range is 1% – 2%. But, it should not be a profit center for the real estate firm. It should be enough to cover their upfront costs and nothing more.
When evaluating an investment in a private commercial real estate transaction, individuals should carefully review the offering documents for the amount of the acquisition fee – and any other fees – to ensure it is consistent with industry standards.
Interested In Learning More?
First National Realty Partners is one of the country’s leading private equity commercial real estate investment firms. With an intentional focus on finding world-class, multi-tenanted assets well below intrinsic value, we seek to create superior long-term, risk-adjusted returns for our investors while creating strong economic assets for the communities we invest in.
If you would like to learn more about our commercial real estate investment opportunities, contact us at (800) 605-4966 or email@example.com for more information.