On May 24, 2017 David Lerner Associates (“DLA”) signed a consent order with the New Jersey Bureau of Securities involving the company’s sales of non-traded REITs. DLA is a broker-dealer with offices in New York, New Jersey and Boca Raton, Florida. Since 1992, DLA has been the underwriter and sole distributor of 10 Apple non-traded REITs.
REITs are popular investments for people looking to invest in real estate. REITs purchase and/or manage income producing real estate, such as hotels, office buildings or apartment buildings. REITs are similar to mutual funds in that they trade on major exchanges and are liquid. They may provide tax benefits and offer favorable dividend yields.
Non-traded REITs (also referred to as non-publicly traded REITS) are very different investments. Non-traded REITs do not trade on securities exchanges. Their upfront fees are very high (the Apple non-traded REITs involved in this investigation paid a 7.5% commission and a 2.5% marketing expense allowance, both paid from offering proceeds). Since they are not listed on any exchange, they are very illiquid and meant to be held for several years. Early redemption of non-traded REITs is often very limited and, if available, usually well below the purchase price.
Lastly, unlike REITs, the returns paid on non-traded REITs can be subsidized by borrowed money and can also include the return of principal.
Based on complaints received from customers in late 2012, the New Jersey regulators commenced an investigation of DLA and sales of its non-traded Apple REITS to New Jersey customers. Specifically, sales of three separate non-traded REITs, Apple 7, Apple 8 and Apple 9 were reviewed. The sales occurred between 2006 and 2010 (the three non-traded REITs were merged in 2014 and began trading in 2015 on the NYSE, symbol APLE).
DLA had established procedures re: transactions in non-traded REITs, including suitability requirements (minimum income and net worth) and required a subscription agreement and risk disclosure document to be signed by purchasers.
The New Jersey regulators discovered that 15,748 New Jersey accounts purchased the three non-traded REITs. 282 of those accounts either did not meet the suitability requirements or DLA could not demonstrate that the accounts met the requirements. Additionally, many of the 282 accounts did not have the required signed subscription agreement or risk disclosure document.
DLA was fined a total of $650,000. The substantial amount of this fine reflects regulators’ concerns with the marketing and sale of non-traded REITs. As described above, non-traded REITs are substantially different from REITs. They are clearly not suitable investments for many investors. While the purchase of a REIT may be appropriate for many investors, non-traded REITs are a much more complex product. Potential purchasers of non-traded REITs should make sure that they completely understand how these products are designed and the risk factors associated with them.
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