Buy & Hold deal analysis

7 Replies

Hello Fellow Investors

I am considering investing in a buy and hold with a friend. The details are below, please let me know if there are any legal or financial issues that I am missing.

1. My friend is buying a SFH with 15% down payment.

2. After closing, he will transfer the SFH to an LLC where he will hold 51% stake and I will hold 49% stake.

3. I will take this 49% stake by investing from my IRA (my IRA will be the member).

4.I will be managing the rental and all the fun that goes along with it. 

5. The income and expenses will be split as per stake in the IRA.

Do you see this as a workable deal from legal point of view. The IRA custodian I am planning to use is Real Trust IRA out of Washington state.

Thanks for your insight.

Inder

@Inderpal Chadha  

I see a potential problem with Item 2, wherein your friend transfers the SFH to an LLC. This will probably trigger the Due on Sale clause in the mortgage or deed of trust. A due on sale clause basically says that if the borrower transfers title to the property, then the note holder has the option to call the entire loan due. Here's an example of a due on sale clause:

"18. Transfer of the Property or a Beneficial Interest in Borrower. As used in this Section 18, "Interest in the Property" means any legal or beneficial interest in the Property, including, but not limited to, those beneficial interests transferred in a bond for deed, contract for deed, installment sales contract or escrow agreement, the intent of which is the transfer of title by Borrower at a future date to a purchaser. If all or any part of the Property or any Interest in the Property is sold or transferred (or if Borrower is not a natural person and a beneficial interest in Borrower is sold or transferred) without Lender's prior written consent, Lender may require immediate payment in full of all sums secured by this Security Instrument. However, this option shall not be exercised by Lender if such exercise is prohibited by Applicable Law. If Lender exercises this option, Lender shall give Borrower notice of acceleration. The notice shall provide a period of not less than 30 days from the date the notice is given in accordance with Section 15 within which Borrower must pay all sums secured by this Security Instrument. If Borrower fails to pay these sums prior to the expiration of this period, Lender may invoke any remedies permitted by this Security Instrument without further notice or demand on Borrower."

I've seen forum posts by experienced investors in which they state that note holders rarely, if ever, exercise their option to call the note due. However, you need to be aware of the risk posed by the due on sale clause and you need to make your own decision. You might try searching "due on sale" in Biggerpockets and reading more about the subject.

I would talk to a local real estate attorney.  It might be safer to transfer to a trust and assign beneficial interest or to use a land contract that is not recorded.  A master lease is another option where his portion is the lease amount.  Some combination of master lease and contract for deed may be possible if it's done silently.

Originally posted by @Inderpal Chadha:

Hello Fellow Investors

I am considering investing in a buy and hold with a friend. The details are below, please let me know if there are any legal or financial issues that I am missing.

1. My friend is buying a SFH with 15% down payment.

2. After closing, he will transfer the SFH to an LLC where he will hold 51% stake and I will hold 49% stake.

3. I will take this 49% stake by investing from my IRA (my IRA will be the member).

4.I will be managing the rental and all the fun that goes along with it. 

5. The income and expenses will be split as per stake in the IRA.

Do you see this as a workable deal from legal point of view. The IRA custodian I am planning to use is Real Trust IRA out of Washington state.

Thanks for your insight.

Inder

As John said, number 2 might trigger the due on sales clause, but I've seen individuals do this and then deed the property over to a partnership before, so you should be OK. But yeah, talk to a lawyer first.

If you are investing from your IRA, I'm not sure you can manage it as well; that might be a prohibited transaction.

Thanks everyone for the insights.

Inder

Hello there, 

Since Dawn brought up the point of investing from IRA and managing can become an issue, I had discussed with a friend this following option. But have not done it yet.

I buy a home using my IRA in which my friend lives-in. My friend buys the house I live in using his IRA. What are the possibilities that this may cause an issue?

Thought has been lingering, but not implemented it. Would love to hear feedback from others. 

Thanks, 

Naveen.

Naveen,

I would strongly recommend against this. Such a quid-pro-quo deal is simply inserting someone who is not a disqualified party to your IRA as a means to indirectly use your own IRA capital to benefit yourself. The IRS could easily see this as a transaction by each of you designed to benefit yourself, and therefore disqualified to your respective IRA accounts. The risk they find out is low, but the penalties are so severe if they do that it is simply not worth it.

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