Contractor Partnerships Fair Profit Split

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Contractor Partnerships Fair Profit Split

Kira Volpi
Real Estate Investor · Leawood, KS · Member since 2013 · 14 posts · 1 vote

I have read several posts on this subject but none I could find that spell out my potential situation. Here it is:

I'm contemplating a partnership with a contractor.

I would provide 100% of financing and rehab cost of materials.

He would provide finding property

Rehabbing the property

However, I would have to pay him for his labor and his crews labor.

I know that isn't ideal for me as a funding partner but here is what I think he can offer me at least for the short term since I am new to this area and don't have a team or knowledge of areas to invest.

He can find properties that he has been doing as an investor himself. He can, if he is forthcoming about his true costs, provide better prices on materials etc.

I am weary about him not having any true skin in the game but it is a risk I'm willing to take since the property will remain in my name and the price of the properties could be potentially low enough so if I loose it won't be huge money.

Looking for input and suggestions of what a "fair to him and to me" split would be.

All input will be greatly appreciated and "YES" I would love to hear from contractors as well.

Thanks!

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J ScottPro Member
Moderator
Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
12y

Personally, I think this is a horrible idea. Some (too many, in my opinion) contractors aren't very skilled, aren't very reliable and aren't very efficient (not putting down contractors, just stating the obvious). The good part is, they're easily replaceable should they turn out to not be a good fit for your project or not have the qualifications to get the job done.

But, if the contractor is a partner, it makes it very difficult to fire him and hire someone else. Meaning, if your partner/contractor isn't very good, the likelihood is that you'll lose money. It's even worse when the contractor/partner has no skin in the game.

Now, in your particular scenario, the contractor is finding the deal and doing the work. But, he's getting paid to do the work (just like any other contractor). So, really the only thing he's doing to provide additional value over and above any other contractor is finding the deal. Is that really worth giving up 50% (or however much) of the profit? Not in my opinion.

If your contractor wants to help you find deals, let him wholesale the deals to you for a fee, and then hire him (or don't) to do the work. That way, you're not giving up an excessive amount of equity to someone just for finding the deal PLUS you'll still have the flexibility to use other contractors should he not work out very well.

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  • Jeremy Dyer
    Involved In Real Estate · Atlanta, GA · Member since 2013 · 25 posts · 8 votes
    12y

    Kira,

    I have seen Contractor partnerships recently here in Atlanta. The investor is finding the deal and funding 100% of the purchase and rehab. The Contractor is doing all the work and covering all their labor costs. They are splitting the profits 50/50, this ensures that the contractor does a good job in order to sell quickly at highest market value.

    1Reply
  • David T.
    Specialist · Las Vegas, NV · Member since 2013 · 639 posts · 176 votes
    12y

    Kira, the 50/50 arrangement is a normal deal. We have many Investors who like this arrangement. I would just say the contract is very important as are progress reports and accountability. Your prospective partner must be open and willing to provide referrals before you start anything and don't be afraid to check these out or get a second opinion on any information you're being given. Hands on is good and never let your guard down

    If you find an honest partner, this can be a very profitable and informative relationship.

    Good luck!

    0Reply
  • Duncan Taylor
    Real Estate Investor · Member since 2013 · 866 posts · 487 votes
    12y

    50/50 split of the profit is fine if you are NOT paying him for his hours. Those of his employees and subs is a different story. But his upside should be the same as yours to keep your mutual goals aligned.

    1Reply
  • J ScottPro Member
    Moderator
    Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
    12y

    Personally, I think this is a horrible idea. Some (too many, in my opinion) contractors aren't very skilled, aren't very reliable and aren't very efficient (not putting down contractors, just stating the obvious). The good part is, they're easily replaceable should they turn out to not be a good fit for your project or not have the qualifications to get the job done.

    But, if the contractor is a partner, it makes it very difficult to fire him and hire someone else. Meaning, if your partner/contractor isn't very good, the likelihood is that you'll lose money. It's even worse when the contractor/partner has no skin in the game.

    Now, in your particular scenario, the contractor is finding the deal and doing the work. But, he's getting paid to do the work (just like any other contractor). So, really the only thing he's doing to provide additional value over and above any other contractor is finding the deal. Is that really worth giving up 50% (or however much) of the profit? Not in my opinion.

    If your contractor wants to help you find deals, let him wholesale the deals to you for a fee, and then hire him (or don't) to do the work. That way, you're not giving up an excessive amount of equity to someone just for finding the deal PLUS you'll still have the flexibility to use other contractors should he not work out very well.

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  • David T.
    Specialist · Las Vegas, NV · Member since 2013 · 639 posts · 176 votes
    12y

    @J Scott has a point, competent G.C.s are hard to come by. However, many investors are happy to allow someone else make all the running on a project and split the profits 50/50. This is an alternative to working with HMLs and there are many people here on BP who prefer this method of funding their deals.

    It's also a great way for someone new to the business to acquire experience via on the job training. J will also accept that there are an awful lot more "Proteges" than Mentors out there.

    As pointed out in my previous post, Diligence on the prospective partner before getting into anything is most important.

    2Reply
  • Ophelia Nicholson
    Involved In Real Estate · Hyattsville , MD · Member since 2011 · 298 posts · 256 votes
    12y

    I agree with @J Scott I would not enter into this partnership not worth it. What is your partners contribution except finding the property. Finding the property is not enough to give up 50%. Do some research, figure out what works and find your own property. Find an investor friendly agent and do comps and put out some contracts.

    It seems as though the contractor is getting way more than 50% afterall they are getting a salary plus 50% and they have nothing invested. Its like if you pay a group of guys by the hour how long will it take to complete the task. If you pay them by the job how long will the same task take them to be completed.

    People need incentives in life. What's his incentive to get the job done on time and under or at budget? Nothing because he will still get paid even if its a bad deal, if it's a good deal he gets paid twice. The only one losing is you.

    2Reply
  • Tony Reale
    Franklin, TN · Member since 2013 · 39 posts · 15 votes
    12y

    Seems like all he is doing outside of a normal contractor/investor deal is finding the property. If you are funding 100% of everything why don't you just get a quote from him to do the work and hire him? I wouldn't do this if I were you.

    I am a contractor who invests with a partner who funds me, and our arrangement as followed.

    We have an LLC formed and buy all the properties under it (which may or may not work for others) in both of our names 50/50. Small bank and he has a great relationship with them.

    On a flip he will fund the rehab and take it back upon sale of the house. Everything after that is profit split 50/50. I can write checks for subs but I make no money for any work I do until the house sells. I typically sub out what I can get done cheap and move my efforts to what will save us the most money.

    On any buy and holds or flips we buy....if I can't come up with half of the 20% down or whatever it is, he will cover it and I have to pay him back, what I am lacking, at 5% interest on whatever terms I choose. short term, long term, he doesn't really care or hasn't yet. He basically acts as my bank, which I will mostly pay him back lump sum off of a flip within a few months unless we tackle a large project.

    other notes if interested

    He set up the LLC, I find all of the properties. I manage everything except accounting (his wife is an accountant) Next month I am funding my classes to get my real estate license but he has agreed to pay half of all expenses it costs for me to keep it in the future. We have known each other over 20 years and have a lot of mutual respect and trust.

    we try to make our arrangement win/win or loose/loose even if I don't have skin in the game. What you originally posted looks like he can't loose.

    Over budget: he gets paid you loose money.

    Over time: he gets paid you loose money

    I don't like it for you but love it for him! A bit one sided I'm afraid. Hope that helps.

    3Reply
  • Kira Volpi
    OP
    Real Estate Investor · Leawood, KS · Member since 2013 · 14 posts · 1 vote
    12y

    Grant it. It isn't the BEST scenario and I know that, and stated that above in my first post. But it is what I'm willing to do.

    I am getting a lot of the opinion a good split is 50/50 if he does work at his expense but no opinions of what a split should be if it isn't.

    Yes I will be paying him and his crew. So keeping that in mind does someone have an idea of what a good split should be that is fair?

    I do appreciate your input regarding my risks. I've weighed them and have calulated an alternative if he doesn't follow through.

    Now it's just a matter of fair numbers.

    Any thoughts?

    0Reply
  • J ScottPro Member
    Moderator
    Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
    12y
    Originally posted by @Kira Volpi:

    I am getting a lot of the opinion a good split is 50/50 if he does work at his expense but no opinions of what a split should be if it isn't.

    Yes I will be paying him and his crew. So keeping that in mind does someone have an idea of what a good split should be that is fair?

    So, you're asking how much he should get to find the deal(s) for you?

    I'd say $5,000 per deal is a fair amount for that service.

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  • Tony Reale
    Franklin, TN · Member since 2013 · 39 posts · 15 votes
    12y

    80/20

    Without knowing any of you or your situations, but coming from a contractor's point of view, you need to think like him. I assume he remodels homes. He puts a bid in, does the work, moves on to the next. At 80/20 you are basically giving him a free raise and he should love it. If he doesn't, walk away from him because he is trying to pull one over on you. I would even start at 90/10. You are giving him free money either way.

    1Reply
  • J ScottPro Member
    Moderator
    Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
    12y

    Another thing to remember is that he has absolutely no incentive to bring you good deals, as he's getting paid for his work either way. Certainly, he makes more if you make money, but if he's just looking for work, he's going to be perfectly happy even if you lose money (since he's getting paid for his time).

    So, if you're going to do this, ensure that YOU know how to evaluate a deal, do your due diligence and don't let him convince you there's a deal if you don't believe there is (and he will try).

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    1Reply
  • David T.
    Specialist · Las Vegas, NV · Member since 2013 · 639 posts · 176 votes
    12y

    Kira, I would look at the profitability of the transaction. For example, if you're putting up $100k you need to see a profit of $10k with a decent shot at wrapping up the closing at the flip end within 120 days.

    Also, you should make a point of getting both your copies of J Scotts' books http://get.biggerpockets.com/flippingbook/ - and NOT just for reading, but also use for referencing as you go. Even for a salty old dog like me, they're invaluable.

    Also, before you start, make sure you have a competent scope of work, a formal quote from your contractor and perhaps a couple of quotes from other contractors, preferably not referred by your prospective partner.

    Make sure you have a clear exit written into your deal if the contractor does not deliver.

    Let me also make this point about investing in property of any kind and I think you get this already, BTW. Money & Funding are just one component of any deal. There are other components just as important such as control, acquisition, competence, execution, strategy, the actual rehab and marketing to mention a few.

    Best of luck with it, I sincerely hope you make a bundle!

    2Reply
  • J ScottPro Member
    Moderator
    Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
    12y
    Originally posted by @David T.:

    Money & Funding are just one component of any deal. There are other components just as important such as control, acquisition, competence, execution, strategy, the actual rehab and marketing to mention a few.

    Excellent point that everyone else has ignored...

    The contractor is bringing the deal and doing the work. The OP is funding. But, there is a WHOLE LOT MORE to a successful transaction (all of David's points above), and it's not clear who is going to be handling all that stuff...

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    1Reply
  • Kira Volpi
    OP
    Real Estate Investor · Leawood, KS · Member since 2013 · 14 posts · 1 vote
    12y

    Thank you all for being so protective and that is what I'm getting here. You are really looking out for me and I really appreciate every bit of this input.

    I've gotten a lot out of these posts and have come to the conclusion that I should and would rather have him put skin in or just pay him a bird dogging fee and hire him. You all have brought me to this conclusion and although I really was hoping to hear something else I kind of knew this was the intelligent thing to do.

    David, thank you for your objective opinion and referral to J Scotts book.

    J Scott thank you for playing devils advocate.

    Tony Reale thank you for a terrific analysis and a contractors point of view.

    Thank you all. I'm so impressed with this community and grateful to be a part of it.

    In closing, if anyone knows a contractor in the Kansas City Missouri or Johnson County area Kansas that is looking for a "true" partnership, please feel free to refer them to me.

    0Reply
  • Phil Z.
    Real Estate Broker · Orange, CT · Member since 2013 · 951 posts · 218 votes
    12y

    Break it down into sections:

    - What is a contractor worth? (i.e. the cost of the labor)

    - What is your money worth? (i.e. current hard money rates)

    - What is finding a deal worth? (i.e. buyer agent commission / 2.5% of the purchase price?)

    To split the risk and get a better ROI, maybe you can also use a Hard Money Lender.

    0Reply
  • Jeffrey Charter
    Investor · Waldorf, MD · Member since 2013 · 21 posts · 3 votes
    12y

    This is done all the time. Joint Ventures. Each partner brings something to the table.

    Example: The equity partner owns vacant land and has the funds to develop the land, but doesn't have the construction or developement background.

    The other partner has experience in development/construction, repositioning and dispositions.

    50/50 might be to large of a risk as there is no incentive for the contractor to put foward his best effort.

    If I had this opportunity I would set it up where I would get an preferred return of 8% and a 75/25 split.

    Have the contractor also add funds into the project for materials and labors.

    and having all the terms spelled out and agreed to before forming the partnership.

    A suggestion on setting up the partnership payout.

    http://www.ccim.com/cire-magazine/articles/splitting-profits

    2Reply
  • Kira Volpi
    OP
    Real Estate Investor · Leawood, KS · Member since 2013 · 14 posts · 1 vote
    12y

    great article. Thanks Jeffrey!

    0Reply
  • Mike D'ArrigoPro Member
    Turn key provider · San Jose, CA · Member since 2010 · 4k+ posts · 3k+ votes
    12y

    I agree that it's not ideal, but on the other hand, if you know the contractor and can trust them, it could work out. You might want to consider a turn key however if you don't have a good team in place.

    Best of luck,

    Mike

    0Reply
  • Ellis San Jose
    Specialist · Westlake Village, CA · Member since 2010 · 1k+ posts · 781 votes
    12y

    @Kira Volpi

    @Jeffrey Charter

    Great discussion.

    Make sure an attorney assists you in the drafting of the specific language & giving you specific advice.

    It may make sense in your agreement with the contractor/builder to have a penalty clause that severely reduces his participation percentage if the project is not on time or over budget. You could also forbid him from taking on any other projects (the reasonability of this request would of course depend on the size of your joint project) until the project is completed. That could address the incentive issue.

    It would be ideal to keep control in mind. Proposing periodic milestones of completion, that would give the option to buy an increasing amount of participation. Heavy emphasis on 100% completion would be ideal in my eyes.

    1Reply
  • Dustin Oaks
    Real Estate Investor · Greenwood, AR · Member since 2013 · 36 posts · 3 votes
    12y

    Great information. I was wondering the same ordeal and was pondering ensuing in the same direction for a piece of land in the bahamas.

    Thank you guys

    0Reply
  • Derreck WellsPro Member
    Specialist · Pelham, NH · Member since 2013 · 544 posts · 269 votes
    12y

    I've been looking for an investor in MA or NH to set up a similar scenario. Here's the arrangement I came up with...

    Investor funds the flip and rehab. I find the deal and rehab it and get it sold. Basically the investor only has to put up the money. I'll do the rest.

    The house goes into both of our names with the clause that if I don't have the house rehabbed and sold in 6 months, my name comes off the deed.

    I draw a check for labor weekly, but the total paid to me during the rehab gets deducted from my half of the profits (see below). I have a family to support and can't go a month without getting a check. I'm a single dad with custody of 2 kids, they have to eat! If I'm not getting paid on this house, I'd have to be taking on other projects and speed and quality of the flip would suffer.

    It looks like this...

    Acquisition: $100,000

    Rehab (including my salary, say $6000): $50,000

    Sale: $225,000

    Investor gets $150,000 back (all out of pocket expenses). For round numbers, lets say $25,000 in holding costs, Realtor commissions, taxes, etc. which leaves $50,000 profit. Investor gets $31,000 and I get $19,000. (My $25,000 of a 50/50 split, less the $6,000 I already got paid.)

    This way, the investor (you know that person I can't do this without) actually makes more money then I do. $6000 more in this example. Plus, if I can't get it sold in the alloted time, yes, I still get paid for the work I did on their house (my kids still get to eat), but the investor still gets the finished product. By removing my name from the deed, the sale price can be immediately dropped by $25,000 and the investor won't lose a dime on the sale, they'll still make $31,000 profit!

    So with all that being said, if there are any locals that would want to get in on it, I'm listening and looking for work! :)

    2Reply
  • Jason Eyerly
    Real Estate Agent · Charleston, SC · Member since 2013 · 424 posts · 99 votes
    12y
    Originally posted by @Derreck Wells:
    I've been looking for an investor in MA or NH to set up a similar scenario. Here's the arrangement I came up with...

    Investor funds the flip and rehab. I find the deal and rehab it and get it sold. Basically the investor only has to put up the money. I'll do the rest.

    The house goes into both of our names with the clause that if I don't have the house rehabbed and sold in 6 months, my name comes off the deed.

    I draw a check for labor weekly, but the total paid to me during the rehab gets deducted from my half of the profits (see below). I have a family to support and can't go a month without getting a check. I'm a single dad with custody of 2 kids, they have to eat! If I'm not getting paid on this house, I'd have to be taking on other projects and speed and quality of the flip would suffer.

    It looks like this...

    Acquisition: $100,000

    Rehab (including my salary, say $6000): $50,000

    Sale: $225,000

    Investor gets $150,000 back (all out of pocket expenses). For round numbers, lets say $25,000 in holding costs, Realtor commissions, taxes, etc. which leaves $50,000 profit. Investor gets $31,000 and I get $19,000. (My $25,000 of a 50/50 split, less the $6,000 I already got paid.)

    This way, the investor (you know that person I can't do this without) actually makes more money then I do. $6000 more in this example. Plus, if I can't get it sold in the alloted time, yes, I still get paid for the work I did on their house (my kids still get to eat), but the investor still gets the finished product. By removing my name from the deed, the sale price can be immediately dropped by $25,000 and the investor won't lose a dime on the sale, they'll still make $31,000 profit!

    So with all that being said, if there are any locals that would want to get in on it, I'm listening and looking for work! :)

    Wish I had you around here. I like that a lot!

    0Reply
  • Derreck WellsPro Member
    Specialist · Pelham, NH · Member since 2013 · 544 posts · 269 votes
    12y
    Originally posted by @Jason Eyerly:

    Wish I had you around here. I like that a lot!

    Thanks. I can't come up with a more fair arrangement.

    The absolute worst case scenario is that the house doesn't sell. In which case I still got paid for my labor, and the investor has a fully rehabbed house to sell or rent. I'd have the house originally priced $10,000 or so below comps for a quick sale. If I had to drop off the deed, just cutting my half the profit off the price would put it $30,000 to $40,000 below comps. I can't see it not getting sold quick at that point. Technically, at that point they could lower the price on the example house by $40,000 and still make a $15,000 profit, so really, I can't see a way that anyone loses.

    0Reply
  • Derreck WellsPro Member
    Specialist · Pelham, NH · Member since 2013 · 544 posts · 269 votes
    12y

    And as an added benefit, around here, a homeowner can do almost anything on their own house. You don't need to be a licensed plumber to work on your own plumbing. You can save a fortune in labor if you know what you're doing! (And it just so happens, I do!)

    0Reply
  • Kira Volpi
    OP
    Real Estate Investor · Leawood, KS · Member since 2013 · 14 posts · 1 vote
    12y
    Originally posted by @Derreck Wells:
    Originally posted by @Jason Eyerly:

    Wish I had you around here. I like that a lot!

    Thanks. I can't come up with a more fair arrangement.

    The absolute worst case scenario is that the house doesn't sell. In which case I still got paid for my labor, and the investor has a fully rehabbed house to sell or rent. I'd have the house originally priced $10,000 or so below comps for a quick sale. If I had to drop off the deed, just cutting my half the profit off the price would put it $30,000 to $40,000 below comps. I can't see it not getting sold quick at that point. Technically, at that point they could lower the price on the example house by $40,000 and still make a $15,000 profit, so really, I can't see a way that anyone loses.

    0Reply
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