When reading about investment opportunities, you may have come across the term "preferred return", or "pref." A preferred return is a predetermined rate of return that's paid to investors before any profits are distributed to the general partners or sponsors. In other words, it's a profit-sharing arrangement that ensures that investors receive a certain minimum return on their investment before the sponsors receive any compensation.
Preferred returns are commonly used in multifamily real estate investing and their importance cannot be overstated. For investors, it provides a level of protection against potential losses by ensuring that they receive a guaranteed minimum return on their investment. This is particularly important in the case of investments with higher risk profiles, such as those involving new construction or value-add projects. Preferred returns help to mitigate some of the risks associated with these types of investments and provide investors with greater confidence in the potential success of the project.
For sponsors or general partners, a preferred return can also be beneficial as it helps to attract investors by providing them with a higher level of security and confidence in the investment opportunity. Additionally, a preferred return can also help to align the interests of the sponsors and investors, as it gives the sponsor an incentive to maximize how well the property performs, making it a win-win for both limited and general partners.