Inevitably if you’ve been around real estate investing for very long, you’ve heard about the potential of partnering with other people for investment deals.
Partnering can introduce considerable benefits to an investment deal. However, it can also introduce considerable headaches. There is nothing wrong with partnering, but just be smart about your decision to do it!
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When to Use An Investment Partner
Whether you should use an investment partner or not really depends on a few different factors. These can range from:
- The size of the deal. If we are talking about a small single-family rental property (buy and hold only, no flipping), an investment partner might be more of a pain than not. But if we are talking a multimillion dollar commercial deal, then I would think it to be rare not to use an investor partner (if not use several). I can’t personally speak for the latter, but it makes total sense to me why partnering in those cases is much more common.
- Returns on the deal. More specifically than the size of the deal and when the size really matters is the returns. That small single-family home, if it only produces $200/month in cash flow, splitting that with a partner might make profits a little skimpy when it would be better to just use your own money instead and keep the cash flow for yourself.
- Why you need the partner. Are you using an investment partner because you really need one or because it sounds fancy or you just want your buddy in on a deal with you? Are you trying to lessen risk by using a partner? You’d be surprised at how many people I hear talking about using investment partners when they really don’t need to. No harm necessarily, but figure out if you actually need a partner first.
The Absolute Best Time to Use an Investment Partner
Ooh, ooh, when, when?!
When you couldn’t otherwise do the deal.
Maybe you don’t have enough cash, or maybe you can’t get the financing under your name, or whatever the circumstance may be… assuming it’s actually a good deal, don’t miss out on it just because you are missing something required to buy into it.
Always do what you need to do to make the deal happen. However, if you can get away without using a partner, I recommend that instead (unless we are back to talking about big commercial deals where partnering greatly increases the returns for everyone). Why do I recommend not using a partner if you don’t have to?
Risks with Using An Investment Partner
Okay, I can hear you already saying you already know the risks associated with using an investment partner.
A couple of them are obvious, for sure, but a couple may not be so obvious. So hear me out and be sure to consider all of these before you partner with anyone.
- Improper Structuring. If the partnership isn’t thoroughly defined in the beginning, likely through legal paperwork, you run a major risk of an unexpected event coming up and no one knowing how to deal with it or a partner losing out on something. Like what if one of the partners sees an untimely death…. Is it certain that the remaining partner will gain full ownership? If that isn’t defined ahead of time, whoops! Not good. Or what if you didn’t define a certain situation and that situation happens and the partners all have different opinions on how to resolve it? Not having a defined solution ahead of time could make for some nasty fights between the partners and potentially ruin the relationship and/or partnership.
- Getting Conned. Not sure if that is the appropriate term, but depending on the type of partnership, make real good sure you are partnering with someone you know (in addition to having legal paperwork in place) so you don’t end up partnered with someone who somehow robs you blind. Especially if you are the one putting up the money, be smart about how you are doing that and with who.
- Headaches. Sometimes no matter how well you think you know someone, you may not really know how they are in business. It’s like roommates. I love a lot of my friends but I would never want to be their roommate because how people are in their own home can be much different than how they are outside of it. Living with someone is very different than being friends with them, or whatever the relationship might be. Do you know that the person you are partnering with won’t become a complete thorn in your side? What if they unexpectedly become a controlling nutbag or what if you didn’t realize beforehand that their basis for decisions doesn’t align with yours, or what if they disappear on you and don’t help you when they are supposed to yet they still collect their share? There’s really no way to guarantee any of these things won’t happen, whether you know the person or not, but keep it in mind as a possibility.
- Guilt. What if you are the instigator of the partnership, even though your partner was the one who ultimately decided to go in on it with you, and the deal goes sideways? What if the returns never happen or you end up with a loss? If you have a conscious, you might end up with mega guilt over your partner losing the money! Even though it’s not your fault because nothing is guaranteed in real estate investing, but I doubt that you won’t feel at least a little bad. What if your grandmother gave you her retirement money to invest and it got lost? You can’t tell me you wouldn’t be crushed about destroying grandma. Even a friend, or family member, or if you are a really conscious person, you might even feel guilty if the partner was a stranger!
- Liability. Speaking of deals going sideways, and relating back to the original point about structuring, you better make sure you can’t be held liable in some unexpected way should something go haywire. Like I said about never knowing how people can be sometimes, what if you lost all of grandma’s money and then grandma gets irate and tries to sue you despite you being her favorite grandkid? Is the structuring in place ahead of time to protect you in that situation? Or what about tenant liability or financing liability? Whose name is on the legal documents and who is assuming the risk in the deal, i.e. who can be held liable for something?
As with any investment situation, make sure you are being smart when it comes to liability, risks, realities, and benefits. Don’t be naïve to the possibilities of what can happen, or swear that your grandma would never turn on you, because you really just never know. On the flip side, don’t over-structure partnership either.
Legal protection is always good, but it’s also very easy (and common) to overdo it. Just like forming entities for properties, a lot of time it is overkill when there are easier, cheaper, and more simple solutions.
When you seek legal counsel for a partnership, make sure you are working with someone who specializes in real estate investments so they can most accurately advise as to what the best solution might be, not just what will put the most money in their pockets.
A Real-Life Partnership
I have an investor partner on some of my properties.
At the time I bought them, I didn’t have enough cash to buy the properties myself but he had loads of cash. He was also trying to minimize how many mortgages he had because he would eventually hit the 10 limit after so many properties.
It worked perfect because I took the mortgage (saved him a mortgage he could use for himself later) and he provided the cash for the deal (he had gobs of it to spare). So he provided the down payment and closing costs and I took the mortgage, essentially assuming the risk, and did all of the work. In return, we split the net profit (or loss) 50/50.
This partnership worked great because my partner didn’t want a mortgage, I didn’t have the cash, and at the time the returns on rental properties were extremely high so splitting the cash flow still leaves a pretty penny in our pockets each month.
A partnership for the same type of rental property now might be a little harder since the general market has jumped in price, meaning the returns are now less than before and could yield much more minimal returns for each partner, but it’s always an option.
I’ll tell you what though, something I never would have realized would happen had it not- when some of our properties experienced some drawn-out problems, I felt horrrrrrible for my investor partner.
I could have cared less about losing my own money (as much as one could not care about that), but knowing he wasn’t getting return?
I can’t even tell you. No matter who told me it wasn’t my fault, there was nothing I could have done different, and he was the one who offered to go in with me… I couldn’t help but feel bad, and it was a bad feeling that I hated. There was a big downside for me.
Have you partnered for investment deals before?
If so, how was it structured and did it pan out as expected? Any pitfalls?
Be sure to leave your comments below!