Financing questions from a beginner

[Collin Sparks]

Let me start by giving some background information. I have been researching real estate investing and am in the process of starting a LLC. I have owned a landscape installation company for 9 years. This company generates enough income finance and allows me enough time to dedicate to real-estate investing. I am interested in buy and hold properties only for right now. All of the income generated from this company will be put back into new properties. Through the experience gained in my landscape design/build company I have knowledge, and a good network of contractors for any range of repairs or maintenance.

I have a goal of investing in 2-3 properties with 2-4 units each before the end of the year. I have 2 investors that would like to invest in these same type of properties. The problem that I have run into is; the investors would like to invest for the same reasons that I am, cash flow. They have no interest in taking draws and would just like to invest to diversify, have something of value, and protect themselves from inflation. So how would you set things up with these investors? I have a couple ideas but would like input.

One way for them to invest would be the easiest to track and much more simple than the other option. In this method I would come to one of them once I find a property and offer them a % return on the privately loaned amount. I would give them payment terms and they would hold the 2nd mortgage if they cover part of the large downpayment and the rest is financed through the bank. I plan on placing large down payments, or possibly paying cash, on these properties with my money and private investors money to have greater positive cash flow and help to adjust for the learning curve I am bound to encounter.

Option 2: Since my investors want to invest for cash flow, is there a way of splitting the profits on each individual property between investors. Ex. In the Dayton, OH area there are duplexes readily available for $25k. If I was to find a property, and ask one of the investors to put up $15k and I put up the other $10k, then every quarter split the positive cash flow between us at some pre-determined percentage. What percentage would be fair to compensate for my time and risk involved, and for the investors money? Is there a way to do this without having the investors as partners? Since each investor has expressed that they would like to keep the income they generate in the company and new properties, is there a way to keep everyones money separated? Without having it taxed fro leaving the company back account or having several bank accounts just for this company?

I apologize for being so long winded. I am learning this business so any advise would be greatly appreciated.

[Jon Holdman]

Do these investors have enough cash to simply hold the mortgage on these properties? That is by far the simplest. For example, you buy one of these $25K duplexes. I'm going to assume it generates something like $800 a month in gross scheduled rents. That is, you would say each unit rents for $400. You borrow, say, $20K from an investor. You put in the rest of the cost, the closing costs, and any rehab expenses. You negotiate an acceptable rate with the lender. Say, 8%, amortized over 30 years, due in five years. That makes the payment to your lender (investor) $146.75 with a balloon payment of $19,013.97 after five years. Your gross rent is $800, less $400 for expenses (read about the 50% rule in the Rental Property forum), less the $146.75 payment gives you $253.25 in cash flow. That's $3,038.97 a year.

If you have them do seconds and you get a first from the bank, you're going to have to qualify for the loan. Being self employed makes that more challenging. Banks will still want you to have some of your own cash in the deal.

Having them invest into your company and then splitting the proceeds is even more complex.