When to invest in a syndicated mortgage

Pooling your money to buy into a syndicated mortgage is a risky investment

Q: I’m a long-time MoneySense reader, and find your investment/financial advice and articles always very useful. I’m in my late 30’s, have an owner-occupied triplex, a cash reserve, and a good portfolio of ETF’s. I’m concerned about the potential overvaluation in the stock market these days, and am looking to diversify my investments further outside the stock market.

I’ve recently seen a lot of advertisements for “syndicated mortgage” products. They promise great fixed-income returns of 8+%, with the principal investment “fully secured” through real commercial property titles. I’m assuming it’s all too good to be true, but I don’t quite know where to look for the “catch.”—Brad

A:  Who isn’t enticed by an 8% return? But you’re smart to question whether or not this is too good to be true. My first concern is what sort of risk is an investor taking on in order to get a guaranteed 8% return? Typically with investments the higher the risk the higher the returns.

A syndicated mortgage is where several investors combine funds together to create one financial instrument: a mortgage. When you invest in a syndicated mortgage, you are pooling your money with others to create a mortgage that will be registered and secured directly with the land or building that’s associated with that mortgage.

Developers and builders use syndicated mortgages as part of their financing to take a project from conception to completion—and this is where the risk lies. Since banks are not too keen on funding a building project that hasn’t even started, developers will rely on syndicated mortgages to cover soft costs: consultant fees, zoning permits, architecture costs and even marketing and sales expenses. All this is to say that the mortgage you’ve provided is funding the initial stages of a project not the actual building of the project. This is a problem if a project gets delayed or goes bankrupt—and this happens. Of course, syndicated mortgage creators will often counter this fear by saying that the mortgage is registered against the land so there’s no real downside. But if something should go wrong, you won’t be paid first. As a syndicated mortgage holder you are second in line, behind any bank loan against the project. Once that debt is cleared, you may see some money.

For this reason, it’s extremely important to do your due diligence when it comes to investing in syndicated mortgages. Scrutinize the track record of the developer (not just the firm that holds and manages the syndicated mortgage); ask to see where, exactly, the project is when it comes to zoning and permits—you want to see these in place so the project can move to the next step. Also, examine the actual location of the project. Does it make economic sense to build a large condo building on the outskirts of a large city?

Syndicated mortgages should definitely be considered a riskier investment so, just like with stock purchases, you’ll need to dig deep to determine if the fundamentals of the project and the subsequent mortgage are strong.