Fair Equity % For Capital Raise, Acquisition, Rehab, & Management

4 Replies

I've created a small portfolio of 1-4 family properties, where I've found, purchased, project managed a team of contractors through rehab, financed, refinanced, and managed the properties independently. 

I've now been approached by investors through my personal network, and I can see the opportunity associated with taking on investor capital; however, what is the best way and structure to take on the additional capital? 

My thoughts are - use the capital to gain an equity stake in the company without investing any of my own capital, use the capital and provide capital of my own and take a percentage equity stake, use the capital and pay a fixed rate of interest (approx. 10%). 

If I do go the equity route - such as taking 10% initially in additional capital for my services, should I also charge management fees down the road - or should these two activities be separate? 

It's a lot easier to figure out going the fixed interest rate route; but it would also depend on the requirements of the investor (whether they want equity, or a fixed rate of return). 

In the lending scenario, are they getting a trust deed and promissory note as security or just a promissory note? ie is that the money you're using to buy the house with or are you using it as a down payment + rehab + carrying costs?  

So I guess what I'm asking is; walk through a hypothetical deal, roughly how much money are you getting from how many parties and what are you using the money for?  Then 2-3 options on how and when the investors money might be paid back. I think your answer is in those two questions. 1 What is your investors risk/security? 2 When and how would they like to be paid and does that mesh with how you'd like to be paid? If you answer those you have a pretty good starting point for structuring the deal. 

Thanks David. 

I've yet to go down the borrowing investor money route - so I'm definitely looking for information on the best way to structure this.  My understanding of those types of deals is very limited, essentially an investor provides cash, and I provide a rate.  As far as the mechanics behind the scenes (promissory notes / assurances on the obligation) - I don't know the specifics.  I've also heard interesting things about a "real estate hedge fund" - essentially raising money to acquire real estate and paying a fixed rate of interest. 

The other route that I've explored a bit more is to take on an investor as an equity partner.  An investor would commit x amount of capital (for a specific deal or for the purpose of acquiring properties), and then I would take a portion of the equity for finding, rehabbing, and managing the properties.  So what I'm wondering is what is the initial % of equity that is fair for this type of transaction.  For my first deal or so I'd envision contributing the due diligence on the acquisition, performing all project management of the rehab (while paying contractors at an arm's length), refinancing / financing the property and then performing the subsequent management.  This system will work until I get to full capacity with managing the properties, but I'd like to initially do this until I reach critical mass, and as a way of gaining additional equity in a transaction.  So if an investor provides 250k for me to buy 1-4 family properties, or small mixed use properties - is taking a 15% stake reasonable or excess to perform the described functions (assuming investor agreement).  I think 15% is reasonable if I am not charging property management fees, but is it also reasonable for finding the properties (working through multiple realtors), performing the due diligence, and project managing the rehab - or is 10% more appropriate, and then charge a fee for Management down the line. 

For identification, acquisition, project mgt, sale/rent and property management, I would ask for at least 25% if not more.

I was on the investor side for the first deal I did (mainly for experience), where I funded the purchase (cash) and my partner found the property, did project mgt and a little property mgt and paid for the rehab (about 20% of overall cost). When it was time to sell, I sold it (mainly because I wanted to go the fixed fee MLS route). We split the profits 50%-50%.

Not sure I would do a 50% split anymore, especially on larger projects where there is more risk.

Joel, 

Sorry I didn't see when you replied because I didn't follow the post. Any strategies developing for you? There are as many ways to partner as there are deals to do.  I really believe that if done correctly both sides will feel like they got a really great deal. That's what you should aim to achieve. 

As a buy & hold I would try to work out a percentage around 50% or if it's significantly less equity, I'd want a management fee that is at market rate for your area. That way you are compensated fairly for that role.  If/when you don't want to manage the rental anymore it is already budgeted for. 

The reason why I asked what you were doing with the investors money and what their needs for repayment are is that it's important to understand what makes the deal attractive for your investor. You have to make it good for them but not so good it de-incentiveizes you. For example, let's say that you own 10 rentals, 8 of your own and 2 you own 15% of. Now which one is going to get your best efforts and which one will be a nuisance? That's why it's important that you don't give too much of the deal away. It's fair to everyone that you keep things as fair as possible. 

When a person lends me money, I give them 1% interest per month for no less than 6 months even if I sell early. I give them the first position on a loan to value ratio of 50%. I already know where the income for the payment is coming. I talk to them about all the scenarios including the worst case scenarios. I  guess I treat those debts as serious or more serious than a bank loan.I feel like I am the more experienced person and I should treat them like I'd like to be treated. 

I make alot of money using their money and they get good passive income. It's a win/win with a good balance of  risk/reward.