{"id":176634,"date":"2024-08-23T13:54:47","date_gmt":"2024-08-23T19:54:47","guid":{"rendered":"https:\/\/www.biggerpockets.com\/blog\/?p=176634"},"modified":"2024-08-23T13:54:49","modified_gmt":"2024-08-23T19:54:49","slug":"why-our-team-is-passively-investing-with-private-partnerships","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/why-our-team-is-passively-investing-with-private-partnerships","title":{"rendered":"Why Our Team Is Passively Investing With Private Partnerships"},"content":{"rendered":"\n

For several years now,<\/span> our passive real estate investment club has met monthly to discuss and vet hands-off investments.<\/span> Every month, we go in on a new passive investment together so we can each invest small amounts without becoming a landlord. <\/span><\/p>\n\n\n\n

While <\/span>we<\/span> historically focused on syndications, we\u2019ve <\/span>increasingly focused on private partnerships<\/span><\/a>. We go in on deals together with smaller investment companies that don’t raise capital from the public. <\/span><\/p>\n\n\n\n

These companies don\u2019t have podcasts or YouTube channels. <\/span>They aren\u2019t <\/span>out there<\/span> trying to build a brand for themselves <\/span>or<\/span> sell<\/span> courses <\/span>or<\/span> become \u201cgurus.\u201d<\/span> They <\/span>just<\/span> focus on earning consistently high returns on real estate investments.<\/span> Plus, private partnerships <\/span>allow non-accredited investors<\/span><\/a> since they aren\u2019t securities. <\/span><\/p>\n\n\n\n

Here\u2019s what our Co-Investing Club looks for when we explore private partnerships to invest passively in real estate deals. <\/span><\/p>\n\n\n\n

Asymmetric Returns<\/span><\/h2>\n\n\n\n

Ultimately, we want high returns with low risk: what fancy finance types call \u201casymmetric returns.\u201d<\/span><\/p>\n\n\n\n

On the return side, that <\/span>typically<\/span> means we look for 10% to 12% or higher for secured debt <\/span>investments,<\/span> and 15% or higher for equity investments.<\/span> Because otherwise, what would be the point? If I wanted to earn 7% to 10% on equities, I\u2019d just put all my money in the stock market. <\/span>If<\/span> I wanted 4% to 7% on debt investments<\/span>, I\u2019d invest in bonds<\/span>.<\/span> <\/span><\/p>\n\n\n\n

I invest in real estate for high returns, stable income, tax benefits, diversification, and\u2014here\u2019s the kicker\u2014low risk. <\/span><\/p>\n\n\n\n

Anyone <\/span>who\u2019s invested<\/span> in real estate long enough knows <\/span>that<\/span> you can earn asymmetric returns.<\/span> An investor\u2019s first real estate deal comes with enormous risk. But their 100th deal? If they\u2019ve done that many, they\u2019ve already learned all the expensive lessons. They know how to minimize risk while maximizing returns. <\/span><\/p>\n\n\n\n

Plenty of <\/span>passive real estate investments<\/span><\/a> target high returns. Some <\/span>of those<\/span> come with equally high risk, while others come with relatively low risk.<\/span><\/p>\n\n\n\n

Increasingly, we obsess over downside risk: protecting against losses. <\/span><\/p>\n\n\n\n

Why We Focus on Risk<\/span><\/h2>\n\n\n\n

Rock star investor Warren Buffett famously said, \u201cRule No. 1 is never lose money. Rule No. 2 is never forget Rule No. 1.\u201d The longer I invest passively in real estate, the more I appreciate just how right he is. <\/span><\/p>\n\n\n\n

When you invest in enough deals (<\/span>and this<\/span> is why our Co-Investing Club <\/span>invests every month<\/span><\/a>), returns on real estate investments follow a bell curve. Some investments will underperform, some will overperform, and most will fall somewhere in the middle of the curve. <\/span><\/p>\n\n\n\n

Picture the bottom far-left corner of that bell curve\u2014deals that underperform so <\/span>badly<\/span> they lose money. That\u2019s what we aim to eliminate with our risk analysis. <\/span><\/p>\n\n\n\n

If a deal underperforms and I earn 5% instead of 15%, I\u2019d shrug my shoulders and say, \u201cI\u2019ll make it up on the next one.\u201d If I were to invest in a deal and lose 100% of my capital? <\/span>Let\u2019s <\/span>just<\/span> say I wouldn\u2019t be so philosophical about it.<\/span> <\/span><\/p>\n\n\n\n

In real estate investing, downside risk is everything. You have endless investment opportunities that target 15% or higher returns. The trick is spotting the ones with <\/span>extremely low<\/span> downside risk. <\/span><\/p>\n\n\n\n

That raises the critical question: How do you identify <\/span>low-risk real estate investments<\/span><\/a>?<\/span><\/p>\n\n\n\n

Risks We Scrutinize and Minimize<\/span><\/h2>\n\n\n\n

When we look at deals, we <\/span>try to<\/span> look at risk from as many angles as possible.<\/span> These are the main ones we look at first.<\/span><\/p>\n\n\n\n

Partner trustworthiness<\/span><\/h3>\n\n\n\n

Every investor who\u2019s done enough deals has lost money occasionally. We love to talk with investors about the deals that have gone sideways on them. What went wrong? How did you handle it? Did your partners or financial investors lose money?<\/span><\/p>\n\n\n\n

The better answers focus on the lessons the investor learned\u2014and how they <\/span>then<\/span> took a loss personally <\/span>in order to<\/span> make their investors or partners whole.<\/span> <\/span><\/p>\n\n\n\n

Trustworthiness is <\/span>actually<\/span> the hardest thing to measure about a partner or sponsor. There\u2019s no formula, no numbers you can run. <\/span>You <\/span>simply<\/span> have to talk to the person <\/span>again and again and again<\/span> until you feel 100% confident in them.<\/span> And if you don\u2019t <\/span>feel<\/span> that total confidence, pass on their investments until you do (or <\/span>just<\/span> move on).<\/span> <\/span><\/p>\n\n\n\n

The bottom line:<\/span> It doesn\u2019t matter how skilled or experienced an investor is if they take all your money and run off to the Caymans. <\/span><\/p>\n\n\n\n

Partner experience<\/span><\/h3>\n\n\n\n

If someone says, \u201cI\u2019ve never lost money on a deal,\u201d I <\/span>immediately<\/span> want to know how many deals they\u2019ve done. It probably isn\u2019t enough to make me confident in their experience. <\/span><\/p>\n\n\n\n

Consider a case study of an investor we\u2019ve partnered with on a few investments. He\u2019s not a sponsor or public figure<\/span>, he\u2019s<\/span> a private citizen, so I\u2019ll call him Casey. <\/span><\/p>\n\n\n\n

Casey <\/span>flips<\/span><\/a> 60 to 90 houses a year\u2014some standard fast flips, some longer-term flips with lease-buyback deals. Additionally, the company keeps some long-term rental properties. Casey runs a team of 10 people, with some in-person and some virtual assistants. <\/span><\/p>\n\n\n\n

With roughly 300 properties in the rearview mirror, suffice it to say that Casey knows what he\u2019s doing. As his volume has grown, he\u2019s expanded beyond his home city, but only within a few hours of it. He doesn\u2019t hop all over the U.S. looking for the latest hot housing market. He sticks with what he knows and only expands cautiously. <\/span><\/p>\n\n\n\n

Debt<\/span><\/h3>\n\n\n\n

Leverage adds risk<\/span>. Hard<\/span> stop.<\/span><\/p>\n\n\n\n

Yes, I understand that leverage can increase your return on capital. <\/span>We don\u2019t avoid leverag<\/span>e\u2014b<\/span>ut <\/span>we do<\/span> want to keep it modest and manageable.<\/span> <\/span><\/p>\n\n\n\n

Casey\u2019s company owns around 110 properties worth around $15.1 million. Those properties <\/span>are collectively leveraged<\/span> at 62.2%. <\/span><\/p>\n\n\n\n

At one point, our Co-Investing Club signed a private note with Casey at 10% interest. He provided us with three protections, starting with a lien in <\/span>first<\/span> position against one of his free-and-clear properties. That lien was under 50% of the property value (under 50% LTV). <\/span><\/p>\n\n\n\n

Personal and corporate guarantees<\/span><\/h3>\n\n\n\n

We don\u2019t always get a personal guarantee from the principal. But it sure does make me feel better about the risk when we do. <\/span><\/p>\n\n\n\n

The other two protections Casey gave us on that note <\/span>was<\/span> a personal guarantee<\/span> and<\/span> a <\/span>corporate <\/span>guarantee<\/span> from his company that owns all the properties.<\/span> If he defaulted, we could not only pursue all of those 110 properties and their millions in <\/span>equity,<\/span> but also his <\/span>personal<\/span> assets. <\/span><\/p>\n\n\n\n

As you can probably guess,<\/span> Casey has paid our monthly interest payments like clockwork.<\/span> <\/span><\/p>\n\n\n\n

Property management risk<\/span><\/h3>\n\n\n\n

I particularly love investments with no property management required at all. <\/span>For example, <\/span>the latest investment we made<\/span> with Casey was a partnership for several flips.<\/span> These are classic short-term flips, where Casey\u2019s team <\/span>simply<\/span> renovates and sells the properties within a few months\u2014no tenants, <\/span>no leases, no<\/span> rent default risk.<\/span> <\/span><\/p>\n\n\n\n

Likewise, we\u2019re investing with a land flipper who buys large lots for 25 to 40 cents on the dollar, then subdivides and sells the smaller lots for a hefty premium. He further protects against downside risk by getting approval to subdivide before he buys. <\/span><\/p>\n\n\n\n

That said, we do often invest in properties that require management. <\/span>When we do, we look at how many properties the sponsor or partner has <\/span>worked with together<\/span> with the property manager <\/span>before<\/span>.<\/span> We like to see partnerships going back years for many different properties. <\/span><\/p>\n\n\n\n

Construction risk<\/span><\/h3>\n\n\n\n

I love the partnership with the land flipper because there\u2019s no construction risk at all. <\/span><\/p>\n\n\n\n

But<\/span> with Casey, for example, there is rehab risk.<\/span> So when renovation or construction is involved, we ask the same question: How many properties have you worked on with this contractor team? <\/span><\/p>\n\n\n\n

\u201cNone\u201d is a terrible answer. \u201cThree dozen\u201d is a much better one. And Casey\u2019s been working with his team for years, flipping hundreds of houses. <\/span><\/p>\n\n\n\n

Regulatory risk<\/span><\/h3>\n\n\n\n

Tenant-friendly states and cities<\/span><\/a> keep passing more aggressive laws regulating residential rentals. And that risk has started spreading to the federal level, with <\/span>presidential candidates <\/span>talking about<\/span> nationwide rent stabilization laws<\/span><\/a>.<\/span><\/p>\n\n\n\n

These risks apply to residential rental properties\u2014and nothing else. It doesn\u2019t apply to flipping houses, short-term vacation rentals, storage facilities, retail, industrial, or anything else. It certainly doesn\u2019t apply to raw land, which is one reason <\/span>I\u2019m so stoked<\/span> to partner with that land investor. <\/span><\/p>\n\n\n\n

Key principal risk<\/span><\/h3>\n\n\n\n

The <\/span>greatest<\/span> risk to partnering with a small real estate investing company is that something happens to the <\/span>key<\/span> principal. <\/span><\/p>\n\n\n\n

If Casey gets hit by a bus tomorrow, it <\/span>would<\/span> take a while for his estate and company to sort out the wreckage. I\u2019m confident we\u2019d get our money back, but it would still be a mess. <\/span><\/p>\n\n\n\n

A 150-employee real estate syndication firm doesn\u2019t come with that same risk. If one of the managing partners kicks the bucket, enough other people stand poised to take over. <\/span><\/p>\n\n\n\n

How do you protect against <\/span>key<\/span> principal <\/span>risk<\/span>? You ask about the contingency plan if something happens to them. Who takes over? Are they qualified to do so? Do the assets go straight to probate for your estate, or do they go directly to a partner for disposition or continued management? <\/span><\/p>\n\n\n\n

The risk of a healthy 40-year-old man like Casey croaking tomorrow is slim. I\u2019m willing to accept that risk. But that doesn\u2019t mean you should ignore it entirely. <\/span><\/p>\n\n\n\n

Final Thoughts<\/span><\/h2>\n\n\n\n

Some months, our Co-Investing Club vets and invests in real estate syndications. Those have mostly gone well for us, giving us the benefits of ownership (passive income, appreciation, tax advantages) without the headaches of becoming a landlord. <\/span>But increasingly, <\/span>I find<\/span> the risks lower with private <\/span>partnerships,<\/span> and the returns just as strong.<\/span> <\/span><\/p>\n\n\n\n

Every day, we learn about new passive real estate investments. <\/span>We look at them through the lens of the <\/span>risks <\/span>above,<\/span> and many more besides<\/span>.<\/span> But as I get <\/span>closer to financial independence<\/span><\/a>, I increasingly fixate on downside risk\u2014without sacrificing returns.<\/span><\/p>\n\n\n\n

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\n \"\"\n <\/div>\n <\/div>\n<\/div>","protected":false},"excerpt":{"rendered":"

Brian’s team is shifting from syndications to private partnerships, focusing on high-return, low-risk opportunities by vetting partner trustworthiness, leverage, and regulatory risks.<\/p>\n","protected":false},"author":158586,"featured_media":176629,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[7353],"tags":[],"class_list":["post-176634","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-real-estate-partnerships"],"acf":[],"comment_count":0,"_links":{"self":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/176634","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/users\/158586"}],"replies":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/comments?post=176634"}],"version-history":[{"count":0,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/176634\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media\/176629"}],"wp:attachment":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media?parent=176634"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/categories?post=176634"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/tags?post=176634"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}