Hi everyone. We are currently looking to purchase a multifamily property with a few equity partners. The partnership agreement is to hold the property for 5 years and then sell, and pay back each equity partner their original contribution, plus their percentage of equity.
What I am wondering, is there is a way to keep the property instead of having to sell? If we do a cash out refinance, approx. 25% of the equity would remain in the house. We would be able to pay them back their original contribution, but not all their equity (if any at all, depending on the market). Is it possible for us to "buy" the property from the LLC, and get a new mortgage so we get the full sale price, instead of refinancing? Are there any other options I am overlooking?
Thanks!
I will try to explain how we do it in relation to how you explained things.
We have a 3 way LLC that we intend to hold rentals in for the long run, but covered many of the situations on our OA that @Curt Smith mentioned above.
Each of us own 33.33%. We actually have several different LLCs for traditionally held properties, SDIRA held ones and SOLO401K ones. All the same but some with leverage and some just cash.
One the leverage ones it might look like this - say we purchased for 300K with 60K down and a 240K loan. We EACH but 20K down and all had to sign the loan. Fast forward 10 years and it might be worth 390K and we still own 180K, giving us 210K of equity, or 70K each.
If one partner, or their heirs, wants out, the remaining partners could likley refinance with a 300K loan, paying off the 180K loan, the 70K of equity to the departing partner with 50K left to split, or 25K each.
IF interest rates had gone up too much and we didn't *want* to refinance to buy the departing partner out, we would each have to come up with 35K from somewhere obviously.
This could from several sources;
1) cash from each of us
2) selling other real estate to cash out that equity
3) We could see if they wanted to 'carry a note' of 70K (the same amount of their equity) at a set interest rate. This would effectively act like a HELOC. We are actually going to be doing one of these in our partnership this year.
4)If *we* are not interested in buying this share somehow (highly unlikely) they would be able to sell it to someone else.
Hi Jaclyn, The adage of you can do anything amoung agreeing partners is in play. I decided to reply here since I've done 1 partnership to buy a commercial deal and it just sold and had a few problems we didn't have the insight to write into the LLC operating agreement.
#1 you will buy the property into a property specific LLC. You will need to find a local attorney who offers to create LLCs and write your Operating Agreement. Here in GA going cost for the LLC and Op Agreement is $695. You DO need a custom written Op Agreement!! You need to cover divorce, death, someone wants out, who can vote who's silent, when theres disagreements how it gets resolved, cash flow distribution and the good idea of having a management class of LLC stock who gets paid a percent of the net ren (NOI). IE be compensated for actually making a profit. 5% would be reasonable. All PMs charge 5% to 10% of the GROSS rent!!
#2 Hopefully you are the deal facilitator (organizer) and everyone else is a cash partner. Or you and your husband/partner are the facilators. When you are the facilitator you create the rules. My way or the highway. Deals are so few that cash partners have few deals to choose from, so just offer a good return, a decent property in a decent area and offer a decent business plan and no doubt your cash partners will put their cash in and (hopefully) be happy along the way and in the end.
#3 Whats typical if you read BP and other forums re syndicated bigger deals is that the cash partners are offered a prefered rate, a minimum rate they will earn on their money. Often its 8% +/-. You may decide to not to offer a prefered rate of return, that's your choice.
#4 You can include a buy out clause in the Op agreement. At the least you need to include a minimum rate of return. Figure at least 8% annual, compounded monthly. My thought is that the buyout be excersizable at the 5 yr point, but you can decide differently. Yes you ask, how will I (we) pay off 4 partners cash plus total gain at 8%? Now you will need to deep study how to "force appreciation" in your deal (and how difficult that is). Through higher value and appraisal you can REFI at 5 yrs (any time like you said, but you'll need to return a prefered return + principal regardless). You can work backward how much forced appreciation you'll need to achieve to result in sufficient cash out at a REFI at 75% LTV to pay off the partners.
#5 what about "cash calls"? IE fix up cash above what you net from rents? Yes its true! Some years a deal eats more cash then it throws off. You WILL need to have a plan. I suggest that the operating partner often the facilitator have reserves and that YOU put in the needed cash if the need arrises. You will need to account for cash calls in the Op agreement and your ratios of input may change during the ownership period.
Have you run an apartment building before? Do you know how to negotiate a commercial deal? You may assume that the seller and sellers agent have to disclose all defects or even tell the truth?? That would be true for a SFH, but this is not required in the wild west of commercial deals. Its a buyers beware (and due dilligence) in commercial. IE I would NOT buy any commercial property without an extensive inspection including scoping the sewer line. Find an apartment building inspector. You may pay at least $500 + $300 to $500 to scope the sewer line. You may back out after having >$1k into due dilligence. This is something the partners have to be up for.
It sounds like it could get messy if you don't split up the transactions. I believe the cleanest way to do this would be to have the property appraised at that point and purchase it from the LLC. The original partners, including yourself, would be paid back all investment & equity. You would be purchasing at fair market value.
@Curt Smith can you please expand On what it means In #1 by. " having a managment class of LLC stock" ? Thanks.
I will try to explain how we do it in relation to how you explained things.
We have a 3 way LLC that we intend to hold rentals in for the long run, but covered many of the situations on our OA that @Curt Smith mentioned above.
Each of us own 33.33%. We actually have several different LLCs for traditionally held properties, SDIRA held ones and SOLO401K ones. All the same but some with leverage and some just cash.
One the leverage ones it might look like this - say we purchased for 300K with 60K down and a 240K loan. We EACH but 20K down and all had to sign the loan. Fast forward 10 years and it might be worth 390K and we still own 180K, giving us 210K of equity, or 70K each.
If one partner, or their heirs, wants out, the remaining partners could likley refinance with a 300K loan, paying off the 180K loan, the 70K of equity to the departing partner with 50K left to split, or 25K each.
IF interest rates had gone up too much and we didn't *want* to refinance to buy the departing partner out, we would each have to come up with 35K from somewhere obviously.
This could from several sources;
1) cash from each of us
2) selling other real estate to cash out that equity
3) We could see if they wanted to 'carry a note' of 70K (the same amount of their equity) at a set interest rate. This would effectively act like a HELOC. We are actually going to be doing one of these in our partnership this year.
4)If *we* are not interested in buying this share somehow (highly unlikely) they would be able to sell it to someone else.
@Jaclyn P. - Good questions. Like @Curt Smith and @Daniel Dietz noted, there are a number of ways you can potentially keep the property after the end of your scheduled hold period.
Personally, I'm a fan of a buy-out of a member's LLC interest. This is #4 in Curt's list. Buy-outs can be structured in a number of ways (members could be granted ROFO/ROFR options, or put/call options), so speak to your attorney about options. One thing to keep in mind is whether any partner who is likely to want out will be signing on or guaranteeing any portion of the loan. If so, that partner can't get out without lender's consent, which would likely be subject to lender approving a replacement guarantor.
@Ali Horbach - Curt means that the property owning LLC will have to classes of members - let's call them Class A and Class B. Class A membership interests are determined by their proportionate contributions. Assuming Jacyln has 5 equal equity partners, each puts in 1/5th of the capital and gets a 20% Class A membership interest. Class B membership interests, however, are not linked to capital but are instead allocated to managers. Being in Jaclyn's corner, we want her to have all the Class B membership interests. You might then expect the OA to say either (i) all management decisions are decided by the Class B members (i.e., Jacyln has complete control regardless of the fact she only OWNS 20%), or (ii) Class B members decide most management decisions, but Class A vote on certain listed actions (often called "major decisions) (i.e., Jaclyn gets to decide everything except when to sell, when to refi, when to undertake major renovations, when to change the business plan, and other major items).
@David Gotsill thank you for that explanation.