I am working out a deal with a private lender. Initially she was going to fund my flips using IRA funds and we would split profits 50/50. Now she would like to borrow funds secured from her brokerage account @ 4.75%. Should this interest be figured in my expenses before we split profits or should the loan interest be paid out of her portion of the profits?
I am new to flipping so I want to make sure I structure this deal right from the get go. Any advice would be appreciated!
You would have to talk to her but perhaps she is on!y wanting the 4.74% on her money since her brokerage account is probably less than 1%.
No. She brings the money you bring the well it should be expertise...
Allow me to expand on that answer a bit. There are basically two parts of this partnership, 1) flipping 2) money. The flipping involves everything from finding the property, negotiating the deal, determining what needs to be done to the property, dealing with the renovation planning to include getting it approved by the local authorities, performing the work on the property or finding and supervising the contractors or employees who will do the work on the property, paying all associated bills for the property to include HOA fees, utilities, insurance, and taxes, coordinating all aspects of the rehab which goes beyond just hiring contractors, passing all inspections, staging the property, determining sales price at completions (which may be different than initial ARV projection), staging the property (if desired), finding and supervising the realtor selling the property.
The money- means every dollar spent on the project to include all purchase costs, all rehab costs, all staging costs, and all carry costs.
Every partnership has these two aspects in a vast variety of combinations as to what each partner will contribute. I believe the money is worth approximately 50% of the profit and the flipping the other 50%. That is obviously open to discussion in every partnership and every deal. But it is at least a good starting point. I have done deals where I have put up 50% of the money and have gotten 25% of the profits. I have done other deals where I put up 100% of the money and taken 50% of the profit.
The money/flip split which you asked about, I personally consider a good deal for both myself and my partner. It is a good deal for me because I have someone I trust working on the deal and I know beyond a shadow of a doubt they are dang good at what they are doing. I believe it is good for them, because they have limited risk, basically their time and their reputation (contractors can get pretty snippy if the money person doesn't pay the bills).
Let's look at a typical deal. Purchase price is $160K arv is $265K. Repair costs are about $35K and closing costs are about $25K. Throw in another $5k for staging and carry costs such as utilities and insurance. Profit is about $40K. Unless a project has some major unexpected issues, the flipper will probably spend something like 80-120 hours coordinating and supervising the project. I'm certain it will seem like more, but when you really get down to it that is probably a good estimate of actual time spent on a modest rehab project. This presumes that you have an established and trusted list of contractors who can work on the project. So basically the flipper is making $20K for 80-120 hours worth of work. Even if turns out to be 200 hours that is a $100 an hour.
As for my part, I am responsible whether via loans or cash for the entire cost of the project. So in this case basically $200K. So that would be a 10% return on my money (it is a higher return if there is borrowed money involved). If the project is completed and sold in 4-5 months that makes for an excellent annualized return on the money.
Downsides of this partnership for the flipper are basically if the project runs over budget and/or the sales price is much lower than anticipated to the point that they are making very little if anything for all the time invested in the project, also if the money doesn't pay the contractors, a bunch of upset contractors and severe damage to their name. For the money worst case is obviously losing everything, but that is pretty unlikely, unless you are greatly overleveraged. The money is at risk of losing if the arv is too high, prices drop while the project is ongoing. the rehab estimates are too low or a combination of all three.
So as mentioned one side is at risk of losing the value of their time or their reputation and the other side is at risk of losing money. Makes a lot of sense to carefully examine a project very carefully before you pull the trigger and to work with a partner you know and trust fully!
It is great you are asking this question before you get into the deal. Make sure both parties understand the money and where it goes. Cal makes some great points - most partnerships fall apart because the upfront expectations for both parties were not clear. Example: are you getting a salary for the flip or is your time being compensated only in the profit at the end? How about tools you have or have to buy? Should the cost of her money affect your profit? It really doesn't matter how you decide to go as long as you both agree to the same terms and document it. Part of something is better than a 100% of nothing. What do you both want to make and can you agree? Some people are happy with 12% on their money and you don't have to give up 50% of the deal and if it takes 6 months then it only costs 6% overall.
Make the terms clear to all involved no matter which way you go. Be fair and honest as you hopefully want this relationship to grow and continue to work over time so both parties make money.
Thank you all for the input.
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