Investing with a Sibling/Best Friend ... LLCs... Considerations ?

Question

Hello, BP Community!

"Long time listener, first time caller" hardy har har... I really look forward to hearing what you all have to say about this one.

The backstory: My brother and I are best friends and great business partners in general, when it comes to most things. We want to begin acquiring rental properties under a joint LLC that we both go 50/50 on. He lives in New York, I live in Florida.

I've already spoken to a number of Lenders (e.g. Wells Fargo, Watermark...) who tell me that I cannot purchase an investment property into an LLC at the time of Closing, and that it during closing my name, not an LLC name, must be on the Loan/Contract. These lenders also tell me that while I can move it to an LLC after the purchase, however, they technically could call the loan from me and require it to be paid off in full or moved back under my personal name. This is unlikely, they each said, and likely my only way of doing this.

So my questions! :

How are LLCs acquiring rental properties with Financing?

Or, are they buying them cash without Financing?

Do any of you have any experience going into Rental Property Investing with a Partner, and setting up the Framework for success? PLEASE PLEASE share your recommendations before we get seriously underway!

Thank you, and sorry for what I'm sure is a seemingly basic question.

-Justin

Miami, FL

Daniel Reyes · Answer

Hi Justin,

Thank you for posting! Maybe a seemingly basic question, but a good one nonetheless! :)

Lenders will require a personal guarantee when signing for a residential (full recourse) property loan (4 units and under). This requirement changes when you are seeking to purchase 5 units or greater, valued somewhere between $1M and $1.5M, and borrowing from an agency, Fannie Mae and Freddie Mac. These loans are generally non-recourse loans. In other words, there is no personal guarantee.

The LLC structure is used often when purchasing real estate investments. Of course, you might consider consulting with an attorney and/or CPA specializing in real estate prior to moving forward.

The last thing a lender wants to do is call a loan, unless necessary to protect themselves from losses. As an investor, your job is to win their trust and make it easy for them to finance the deal.

Each scenario is different; general rules are helpful, but the best solution is specified to the overall investment profile (asset, your record, capital structure, etc.)

I'm interested in the follow up to this scenario, keep us posted. And please feel free to reach out to me if you have any questions. I wish you the best, Justin!

Daniel Reyes

Daniel Reyes · Answer

@Jason Behrens

Hi Jason,

Yes, great question.

One of the primary purposes of an LLC is to limit your liability. And, one of the primary ways our economy grows is by leveraging credit responsibly. As such, and in order to maintain the ability to continue lending, lenders also limit their liabilities by requiring a personal guarantee on investments they deem risky and are extending credit to. So an LLC is disregarded when the lender is underwriting and assessing risk to make a yes/no decision on providing capital. For various reasons (mostly economic and industry-driven), a single-family home is in general a riskier bet to a bank than a 300-unit multifamily community.

An investor can (and if you stick around long enough, probably will) get sued by a tenant. Being sued by a tenant and financing are distinct from each other and as such should be treated accordingly (apples and oranges, or apples and gorillas).

The LLC structure has many benefits in real estate investments. From a lending perspective, the risk is just inherent in the single-family home investment. The single-family home financing will require a "full recourse" loan, meaning the lender has rights to assets beyond the real estate collateral, regardless of the LLC. In a "non-recourse" loan, the lender has no rights beyond the real estate collateral, whether owned by an LLC or not.

A scrupulous attorney can also pierce the "corporate veil" of an LLC too, so even this is not 100% liability free.

I wish you well!

Daniel Reyes

Anthony Wick · Answer

@Justin Kushner

Pretty much what everybody else said. Myself and two unrelated partners are buying duplexes in our LLC. All three of us filled out financial paperwork, credit checks, etc that you would normally do as a single buyer. The loans are given as personal guarantees to our individual assets. If we default, all three of us are personally on the hook to pay those mortgages back. But the properties are purchased and in the name of the LLC.

The latest terms we have gotten from a local small bank are: 20% down, 5% interest amortized over 25 years, 7 year balloon.

Marsha F. · Answer

@Daniel Reyes Ahh I see. Thanks for the clarification!

Daniel Reyes · Answer

@Marsha Fils

Hi Marsha,

Thank you for the question. This is essentially the same as if you sign for student loans or a car note; you are agreeing to pay the lender back or be foreclosed, repossessed or garnished, etc. For the full recourse, or normal home mortgage, your qualifiers are your credit, income, down payment and signature on the loan.

Please let me know if I can assist you further.

Daniel Reyes

Marsha F. · Answer

@Daniel Reyes Does this Personal Guarantee come in the form of cash or is it other assets that you personally own that the bank can use as collateral? I want to understand this but I don't think I am quite getting it. Does this mean you are on the hook for 160k if the loan goes into default?

Jason Behrens · Answer

@Daniel Reyes appreciate the break down Dan!

Caleb Heimsoth · Answer

@Justin Kushner. Are you related to Jared kushner?  He could probably help with these real estate questions (kidding)

I wouldn’t partner with people when you’re starting out.  A lot can go wrong.

LLCs get financing all the time, it’s just typically commercial financing not that nice 30 year fixed financing you’re probably looking for

Scott P. · Answer

@Justin Kushner  I like the LLC concept for property investments with family members because, among other things, it forces us all to write out our expectations and agreements.  That could be helpful if a family member gets "amnesia" in the future.   With that said, I wouldn't mind jointly owning a property in an informal partnership with one of my own immediate family members or even certain friends.  The problems of course can come down the road if there are divorces, etc.

As far as financing, maybe try a "municipal bank" if those exist in that area.  They tend to be small, personal, and have "Savings and Loan" or something similar in their name.  I know in my area an LLC can hold a rental with a regular residential mortgage at a smaller bank like this.  I just sold a rental last October to two partners who operated as an LLC.  The closing was at the bank who provided them financing.  I did a search on biggerpockets for the partners and their LLC thinking maybe they are like-minded as others are here but i'm not finding it.

Regardless, don't be surprised at all if, as a small investor, the bank wants everyone to personally guaranty the loan jointly and individually.  In my case, I've had to personally guaranty all financing every time whether it was a SFR, multi, or commercial and whether it was real property or undeveloped land and regardless of the business type entity, Sole Proprietor, Partnership, or Sub-S, etc.

Jason Behrens · Answer

@Daniel Reyes doesn't this defeat the purpose of an LLC.  One of the main reasons to form an LLC is to limit your liability no?  What if your LLC is sued by a tenet, does having the personal guaranty on the financing put you at greater risk?

Don't have the answer but something to consider.

Investing with a Sibling/Best Friend ... LLCs... Considerations ?

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