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Updated almost 8 years ago, 02/27/2017
Forming an LLC or a Partnership and getting financing
Hello everyone,
Myself and 2 of my colleagues want to invest together, and we wanted to find out what is the best way to organize ourselves. Form an LLC or a partnership? Then also if we are all willing to get financing, we do that individually? can an LLC get investment financing?
Yes, an LLC can get financing. I have a couple of LLCs with different share structures for when I want to do partnerships with different people at different "levels". For instance, I have one LLC with a partner at a 90/10 split, and another LLC at a 50/50 split. We use primarily local community banks and credit unions, ie "portfolio lenders", and never have an issue securing financing.
As far as which form to use, it really should be part of a larger discussion IMO. It really cannot be answered with a single question. How do you want to file taxes? How much insurance will you carry (the other major component of your liability protection)? Will you do all subsequent deals together? At 50/50? There is a lot to consider and it may be helpful to discuss you investment strategy with a CPA and a good real estate lawyer. It may seem like an unnecessary expense, and some may agree with that. I do not. I told my lawyer and CPA exactly what I wanted to do and came away with much more clarit...and security, than before I discussed it with them. Cost of doing business in my book.
Thank you so much for your reply. It does help me a lot!
One more question: we are a group of 3 people and thought of forming an LLC and buy a property. And get a loan under LLC or under all 3 names. The mortgage broker is saying that it is not very smart to put all 3 names on the loan, but then if do not we may not have enough money individually to secure the deal. We are looking to buy 1-4 fam house (s) and looked to pull our funds together to do that. Looking for an attorney now as well.
Thank you.
What is their reasoning?
When we do it, the "borrower" is literally the LLC. No individual names are, other than who signs. That is determined by the Operating Agreement, primarily the share structure and title/power distribution (who is a managing partner, who can sign, who can distribute funds and under what conditions, etc). They will likely still want financials on all members that hold more than 20% of the shares in the LLC.
I would honestly say that I would need to strongly consider a deal where I alone signed a note for 75% of a property, and had two partners that "owned" equal thirds of said property. Someones going to end up with a pretty large owner equity contribution on the books. If that is how you end up doing it I would just make sure the share structure is fair to whomever assumes the risk of carrying the note.
It sounds like perhaps the mortgage broker may be guiding you to a process that works well for them. There is no reason to trust that they have your companies best interest in mind. I would suggest you speak with that attorney, and a CPA, and find what works best for you and your partners. I like creating LLCs for small groups of deals. I set up an LLC with a 90/10 split for a couple of properties, and perhaps another with a 50/50 split for another small group of properties. When I find a deal I talk to the partners and ask "where do you want to be on this deal, 50% or 10%?". I won't let too many properties pile up into a single LLC because that begins to erode some of the liability protection. I do not believe that each property needs its own LLC however. Good systems, thorough maintenance, and good insurance are the primary liability protection. The LLC simply prevent an end all disaster. If a partner decides he wants to be at 50% on a deal and we have an LLC set up at that share structure that can hold another proerty, we simply write equal checks for half of the down payment and make owner contributions to that LLCs checking account. Then we cut a check for the DP and get financing in the name of the LLC. The bank will ask for updated financial statements from the members since we are both >50 in shares, and we close 3 weeks later. We get liability protection, clean books, and a clear and equitable division of the ownership, debt, expenses, and everything else for that property (along with any others we own in the same partnership).
If this is the type of structure you are looking for, and your attorney and CPA support it...or at least make you comfortable with any benefits/risks/trade-offs, I would just continue looking for a lender that supports it. They are out there...I promise you. I work with them often. I would say that they exist in greater numbers in community banks and credit unions. Portfolio lenders will always be more flexible with working on unique situations.
Anna,
One question to ask yourself (and friends), is if you are investing in more properties later you may want to look at who all have their names on loans. For later loans it may help if different properties have different loan owners, but in the end I believe it is like Adam is stating above, that it has to be defined in your LLC (or even a Partnership agreement).
His reasoning behind it was that if something fails, it would not affect all 3 people and 2 people can still get loans later, which makes sense too. But you're correct about one person responsible for the majority of the risk. But he said maybe we can get loans, pull them into the LLC account and they accept that too. We are just going to talk to more people, I will check on the credit unions and local community banks - thank you!
Hi @John Laabs
We will have to set up the LLC agreement based on how much money every member will be able to invest ( cash + financing), but it will be more or less the same for all 3. We wanna start from something, so it could give us room to grow further.
You may already be doing this but, I would recommend you take into consideration investments of other kinds as well. Will one of you be a managing member? Meaning you spend a few hours a week on the books, showing properties, etc, etc? Will those duties be split? Identifying those roles in the Operating agreement is worth the time, and if the duties are split unevenly, they may be worth consideration when determining share structure. Deciding all of that upfront can avoid disputes later.
Hello and welcome to BP! It is my understanding the person who sets up a SD-IRA cannot benefit (monetarily) in any way. I agree that you need to know about anything upfront.