Fair terms - how do you split with money only partners?

9 Replies

There are a million examples and a million different answers, what has worked for you? Or what hasn't worked?

For me, I have a partner interested in investing with me on a property. I was talking about another REI deal out of excitement (as I do) and mentioned this one as well when he asked if I was looking for an investor. Outside of owning his condo, he doesn't have real estate experience or expertise, but was looking to get a return on his money. He's also out of state (in Chicago, I'm in Charlotte)

The property is a buy-and-hold deal that would require $48k cash up front, and after all expenses would net $416 in CF for a COCROI of 10.4% (on the conservative side) with roughly $55k in equity. Traditional financing would be used, and because we're both contributing to the down payment we'd both be on the mortgage. 

Financially, we'd split the equity, cash flow, expenses (except down payment, see below), everything 50/50. We'll be using a property manager and I won't be managing the tenants directly, but due to proximity and his lack of experience/expertise, I'll be doing nearly all the work now and going forward. This includes everything required to close the deal such as finding it, arranging funding, etc., and everything thereafter to include coordinating immediate updates/repairs, finding and bringing on a good property manager, and really managing anything needed with the property. He'd essentially be providing up front cash, his name on the mortgage, and an opinion on execution.

I'm leaning towards suggesting either a 60/40 or 70/30 split on the up front cash, which would essentially mean that he's paying between a $4,800-9,600 premium for me doing the work. Does this seem like a reasonable agreement? Do you think I'm over/undervaluing roles?

Looking forward to hearing what others have to say!

It appears you don't have a lot of experience with partnerships. Being involved in a partnership is more difficult to manage than a marriage. Regardless, of how much planning you do and even with what you think is the perfect partnership agreement there is almost always serious problems and the same pain as getting a divorce. Especially, since you said your would-be partner is only a brief acquaintance.

I think most states have very specific legal requirements. The IRS also has many requirements for tax reporting.

When you have a partnership you have to answer for every penny spent. This requires a lot of paperwork and possibly arguments should the deal go south, or should the ROI not meet expectations.

I did about 20 partnerships and everyone ended in a disaster. Many partners were paranoid and they could not trust decisions, or your accounting. Partners promise to stick with a deal for the long haul and then they want out because they decided they wanted to use the money for something better like for a new car, or whatever. This means you will work your butt off to get rid of your partner while he complains about it taking too long.

In your situation, the best thing to do is a syndicated partnership where you are the general partner and your acquaintance is a limited partner.  Again, the problem with syndicated partnerships is there are many legal requirements and the cost for an attorney makes a 1-house deal not feasible. Over the course 10 years you will have more than 1,000 legal forms and accounting records.

As for the fair percent to give your partner, my answer is 10% to 18%. I derived with this number by comparing with the average ROI for syndication partnerships for limited partners who are not active in the business. Also, since your partner is not active in the business you have to consider what he would earn with his money by investing in any other passive investment i.e. cd's, stock market, etc.

To prove a point, if you are good at investing, willing to do all the work and pay 40% of the profit you can invest all my money and I will retire. With that payoff you should have millions of investors throwing their money at you.

@Jack Orthman you’re absolutely right, i have no formalized experience with a business partner yet. You’ve provided a lot to think about, i appreciate the insight. Let me digest and respond in the morning

I would pay them a cash on cash return of the money invested (8%). For signing on the loan, you can give him a percentage of the deal or an upfront fee at closing. Typically, the person signing on the loan gets anywhere from 10% to 30% of the GP which is usually only 30% of the overall ownership, so that would be 3% to 10%. So I'm pretty much in line with Jack.

Originally posted by @Patrick Menefee :

@Jack Orthman you’re absolutely right, i have no formalized experience with a business partner yet. You’ve provided a lot to think about, i appreciate the insight. Let me digest and respond in the morning

How much property investing experience do you have? 

Originally posted by @Patrick Menefee :

@John Corey this would be my second investment property

You are not the most experienced. Given the other investor approached you, you are at least sharing in a useful way. Be very careful about what you do not know you do not know. Investing and working with investors. 

We all started with zero and built from there. Your main job when starting is to avoid mistakes which will blow you out of the game. You will make loads of mistakes. They just need to be small enough you can recover. MVP. Faster is better so you learn faster. 

@John Corey I’m certainly not very experienced, couldn’t agree more. That’s why I’m here 😊 that said, between me and him I’m the only experienced real estate investor. Luckily this is small like you suggested, so the impact would be minimal regardless.

Let me add a little detail as there have been some changes since i first posted, and I’m curious how you would think about this. Purchase price will be $140k, 15% down (was previously expecting 25%), $360 CF after conservative expenses. Roughly $11k in closing costs and immediate repairs, making for $32k upfront cash.

I found a mortgage allowing me to use a loan for part of the down payment, meaning the partner wouldn’t need to be on the loan.

What I’m looking for is one main thing, possibly a second: cash to cover a 50-75% of the down payment so I can retain capital, and possibly a partner to spread the downside risk if there are problems, expenses, etc.

The first part amounts to a variation personal loan, in which I’d be best to choose an option based on his goals-either provide a lower rate of return paying intetest only until we sell, or a true short term loan with a competitive rate.

The second would be a true partner, in which case the only skin in the game for him is the portion of the down payment. Same percentage for down payment, but no more than 10-15% split on CF/equity/expenses/etc.

The second option seems to make more sense to me, otherwise I’d just get a personal loan and be stuck with the same balloon at the end...

To sort of dodge your question for a minute ...

What do you want to accomplish with this deal?

Second, if you could look out 5 years, where do you expect to be. This deal is a stepping stone to that future. As such, how should you set up the deal to move things along? It might be more important to test out a partner, to figure out the legals or something else. The economics of the specific deal might be less important to the long term future. If that is true, you will pick the structure or solution which gets you closer to your goal vs just maximizes the short term cash flow.

@John Corey fantastic point on everything you said. Just in answering the first time I deleted a few times as I thought about it more. So thanks for being a sounding board.

I think you’re absolutely right, long term (or even in 5 years) the numbers on this property won’t matter. Think the experience of working with a true partner makes sense on a deal like this that has good enough margin and is a small enough impact. The experience will be far more valuable than the money from this deal.

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