Attracting investors to residential development, LLC and risks

[Kevin Z.]

Looking for some tips and general advisement, especially on risks and holes in my plan.

I am a realtor who wants to form an LLC with various investors whom I have not found yet. Purpose is to buy old property to demolish and build new to sell. I would serve a management role and be responsible for selling the house. Each property will require about 1.6 to 1.8 million dollars start to finish... 800k-900k purchase, 720k construction cost. Finished house normally sells for 2.4 to 2.6 million. (I know of one house this month that cost 1.6, and sold for 2.7 within 2 weeks! Obvious cheap materials usage, but still sold because buyers didn't know better ) The plan is pretty safe in my opinion, even if you couldn't make a $1 million gross profit.

Finding people with cash is easy. Persuading them to invest in development is going to be much harder.

How would you make a total stranger more likely to agree to invest in this strategy with other total strangers?

Brandon just wrote a blog about security in investment. LLC, builder's risk insurance, nearly guaranteed profit.... is that enough security?

The risk to reward ratio is low. I would be hiring a reputable general contractor. I would charge a small management fee, making most of my money off commission from sale of the home. Profits will be returned proportionally to the investors. As a realtor, obviously I don't have the cash nor can I borrow from banks, but I'd chip in $50k (drop in the bucket) just to have some skin in the game.

I am hoping to make some high-net-worth people into this kind of investor. I have seen some stupid purchases recently made by these people, e.g. buying a $2.7 million old ranch house to rent out for <$4500 per month. After property taxes, they're making almost nothing! I want to convince them that there are bigger profits to be made in development.

Currently, a handful of small developers are building one or two luxury homes at a time. From my mls and title research, these guys are buying old homes under an LLC, then somehow getting construction loans that cover the full cost of construction. They sell at a big profit, pay back the loan, and pocket the difference.

[Karen Margrave]

@Kevin Z. I don't want to rain on your parade, but had to respond. "the risk reward ratio is low" nothing could be further from the truth. You want to do "new construction" meaning there is NOTHING securing the investors money until it's completed. You have NO experience in developing projects. You aren't a licensed contractor, nor a construction project manager, meaning you will be dependent on others for everything except the real estate sales and listings. Without real experience you have no idea of what you are looking at, if prices are high or low, design is affordable or not, etc.

The numbers you throw out are based on nothing concrete, only assumptions, and they don't make sense. "Each property will require about 1.6 to 1.8 million dollars start to finish... 800k-900k purchase, 720k construction cost. Finished house normally sells for 2.4 to 2.6 million. (I know of one house this month that cost 1.6, and sold for 2.7 within 2 weeks! " What does that mean? Do you mean you are buying the lots for $800-900? Are there utilities, etc. to the lots, are they finished lots? Do they need curb/gutter/sidewalk? How big will the houses be? How big are the lots?

Believe it or not, developing and building projects isn't as simple as you think it is. The profits you imagine aren't there.

The question any investor is going to ask is "What experience do YOU have?" and "What value do you add to the deal" Everything on a project has value, and you have to be able to assign a number to it.

Most investors are sophisticated, and didn't have their money fall out of the sky. They aren't just lining up to hand it over to inexperienced builder/developers. Even with years of experience, being in a great area for appreciation, etc., it's hard finding people wanting to fund new construction, and we add real value. (We are licensed general and electrical contractors, draw our own architectural designs and renderings, draw site plans, manage projects, we are licensed brokers, and have real on the job experience, plus administrative experience, and 30 years experience, plus much more, etc.)

Then, if you are able to find investors, you had better have things in place to protect their investment as far as how funds are withdrawn, amount out at any given time, regular inspections, etc. Being so caviler about others money is a huge mistake. You should always have the attitude that your investors money and them being paid back is THE priority, and getting subs/materials suppliers paid, etc. comes far ahead of management fees! Get the job done on time and within budget (based on real world costs) and then if you were correct in your cost estimates, etc., (and if you're experienced you should be) you will make a good profit. But... it takes real work, it's not something to do on the side.

If you want to get into developing, learn the business! Good luck.