Does your bookkeeper really understand waterfalls and their impact?
Waterfalls...do you actively manage them?...
Most don't. This isn't a criticism of them, it's a structural problem.
Most real estate syndicators hire a general bookkeeper to handle the day-to-day. They're good at reconciling bank accounts, coding expenses, keeping QBO clean.
But they've never:
- Modeled a preferred return.
- Tracked an investor's unreturned capital through a refinance.
- Calculated a GP promote at exit.
So what happens?
The waterfall lives in a spreadsheet. Usually yours. Usually disconnected from the actual numbers. Updated manually, if at all. Reviewed by no one....and NEVER reconciled to what is actually happening.
We've seen this go wrong in various ways:
1. Distributions are paid out of the wrong account and the capital account is never updated. Investors get the right check, but the books are wrong...and when does it show up? When the K-1 comes out, not good.
2. Accrued pref isn't being tracked at all. You think you owe investors $150K at exit. The actual amount is $200K because the difference (3 years of compounding preferred returns) was not being recorded.
3. The promote is calculated on the wrong base. GP takes their cut and it's technically right based on the operating agreement, but nobody can tie it out to anything. What happens next? An investor starts asking questions and you can't answer them.
Now, none of this was done underhandedly. Nobody was intentionally doing anything nefarious. It's just sloppy accounting in a business that relies on an industry specific processes and real time accuracy for every transaction that takes place.
What's the fix?:
Your waterfall needs to live in your books, not a spreadsheet. Capital accounts should be reconciled quarterly (at the very least).
Every distribution should tie to a calculation that has an accurate audit trail.
If you're not sure whether yours does, it probably doesn't.
We offer a free 15-point back-office audit for syndicators. If you think that could be helpful or you've had concerns in the back of your mind, let's talk. .
