Should You Use Debt or Equity on a Private Money Deal?

by | BiggerPockets.com

Whether you’ve never raised private money before or do it regularly, you can structure that money as a loan (debt) or by giving the investor ownership in your deal (equity). Today, we are going to talk about when to use debt versus equity when you’re raising private money to fund your real estate deal. So, where to start?

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Self-Directed IRAs

Let’s talk about my favorite investment vehicle, self-directed individual retirement accounts (SDIRA). A self-directed IRA is a special type of retirement account, one that used to be a 401k belonging to an employee of a company. Once that employee leaves the company, it can be rolled into an IRA account and then moved to a company that allows them to operate it as a self-directed account. This way, they can place the money into assets of their choosing. They can invest their retirement account into many things, such as stocks, precious metals, real estate purchases, or as a loan to another person. When considering how to structure the deal, the first thing to think about is the source of the money. Let’s start with debt and when to use it. Debt is better for short-term deals, especially if sourced from a self-directed IRA. Many passive investors have SDIRA accounts that can be positioned into your deals. Be sure to watch the video for more on this.


Related: The 5 Best Investments in My Self-Directed IRA

Cash

Another very common investment vehicle is cold, hard cash. If the money is cash, then equity might be a better play. In this situation, cash can hold certain types of write-offs like depreciation of the asset being an owner. This can provide them great tax advantages that are only available to investors who invested with their own cash into the deal, not an SDIRA.

In the video attached, I get into other factors like investment timeline to determine which to use, debt or equity. Check it out to hear more!

What other factors need to go into evaluating which investment vehicle to use? What’s been your experience?

Please leave a comment below so we can have a conversation! Thanks for reading and watching and have a great and profitable week!

About Author

Matt Faircloth

In 2005, Matt founded The DeRosa Group along with his wife, Elizabeth. At the time, the two person company owned and managed two assets – a single family home and a duplex. Over the last nine years, they have grown the company to a 12 person team owning and managing over five million dollars in residential and commercial assets throughout the central NJ and Philadelphia area.

One of DeRosa’s mantras is “to make money while making a difference.”

7 Comments

  1. Brian Karlow

    Great video Matt!
    Would you mind expanding on the equity details a bit further… Such as:
    Does their percentage of ownership on the back end of the deal get derived from the percentage that their initial investment is equal to on the front end? (i.e. $100k in towards a $1,000,000 acquisition… 10% pay out at disposition?)

    • Matt Faircloth

      Hey Brian,
      Yes, their ownership has to do with how much cash they put into the deal. That ownership gives them a share of the cash flow and proceeds on sale. It’s not a direct relationship to the cash put into the deal though as the syndicator/operator of the project will get a share too. Let’s say you need $1,000,000 in equity for your project. You take 30% ownership for yourself and give 70% to your investors. If someone put in $100,000 they would have 10% of the investor ownership of the deal which equates to 7% ownership of the project.
      Matt

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