Multi-family with my brother?

Question

Hi everyone! Big fan of BP but new to the forums. I am just starting in my career and in my fascination with househacking.

I have a question regarding buying a duplex: Given my circumstances -- should I go in on a deal with my brother?

I know this will already raise some red flags for some, but here's the backstory: we are born and raised in a very expensive area -- the SF Bay Area, and I would like to own something here. Though painfully expensive, I want to put my roots down around here, be near my family, and feed my hopeless addiction to surfing; an addiction I wish I didn't have from a real estate perspective but one that's nonetheless here to stay and, unfortunately, a MAJOR factor in where I choose to live. :)

My brother has been talking about buying his first house in Santa Cruz, CA, where he currently rents, for quite some time. He is self employed, and earns income via his Construction business. I do not know how much he makes per year, but I know he has at least 200k in the bank that he's already planning to use for a down payment. His credit score is around 700.

I am also interested in living in Santa Cruz. I currently rent and do not have any past real estate. I work in the tech industry and have stable income around 99k per year. I have around 35k in the bank and 25k in my 401k which I could potentially leverage. My credit score is around 780.

Given that multifamily homes go for around $1 million -- does this seem like a circumstance in which we could team up and compliment what each of us is bringing to the table financially? If so, how would you go about this deal?

More details:

- Each of us would get one side

- My brother and I get along very well but are realistic that such a big investment could lead to conflict. We are open to devoting a decent amount of money on a lawyer to draft some terms and agreements.

- We are open to each of us renting the other half of the duplex out at any time, or selling (via a TIC?)

- I would rent out the extra rooms on my side if applicable. Not sure if my brother would do the same.

- We're open to 3-unit or 4-unit and renting out the unused parts.

Thanks in advance everyone!Sam

Jenifer Levini · Answer

Hi @Sam Bauman I'm a real estate attorney in Santa Cruz working with a lot of the real estate investors around the bay area. It seems to me that your question has two parts. One is about the financial viability of combining funds to get a piece of this very expensive real estate. I'm going to leave that analysis to others. The second part is whether it is wise to invest with family and what sort of agreements should be in place to help keep family harmony. I write a lot of these sorts of agreements. There are several kinds and they have different tax consequences. There are basic partnership agreements that are an opportunity to plan out how youre going to handle day-to-day decisions and also infrequent decisions like what to do when someone wants to sell their share. There is the possibility of forming an LLC with an operating agreement that governs how the property is managed. And then there are hybrids like Joint Operating and Management Agreements. Under the new tax laws forming a partnership puts you in line for the highest taxes should you ever rent it out or sell it. But whichever form you choose, I think it's important to come to some ground rules and put it all in writing at the beginning. It will definitely become an issue since it sounds like you have different amounts available for your down payment which could mean that you will not have equal percentages of ownership (not 50/50 ownership). And then equity would not build equally. This is a frequent area of fighting among partners (whether family or not) when it comes time to sell.

Account Closed · Answer

Hi Sam

Do you commute over the hill for your tech job? If so, you should look into commute times. Traffic gets really heavy for that direction, especially if you live further down Hwy 1 towards Capitola and Aptos.

I would also make sure you have an out if one of you wants to cash out or move out of the area.

I am currently rehabbing my first SFH in SC county. I'm planning on leaving the area after it's done though. The prices are just so high, there's not a lot of room for building equity, and the area isn't very investor friendly.

Katie L. · Answer

@Sam Bauman

Couple other things to think about... you didn't say your ages but it sounds like you are fairly young.  There have been multiple studies that show putting money into your retirement accounts early on has a HUGE impact on growth potential by the time you reach retirement because it continues to compound tax-free year over year.  Putting money into retirement at age 25 and at age 35 can be a difference of possibly hundreds of thousands of dollars difference available for you in retirement (depending on assumptions with growth rate and whatnot).  $25k, while an excellent start, wouldn't go that far when you eventually retire, particularly if you are thinking of possibly leveraging it or using some of that money on the real estate.  So unless you see passive real estate investing as your main source of income for retirement, you'll want to weigh different ways to provide for yourself in retirement.  It could very well be that your real estate deal is a better way to go as I don't know cash flow potentials that you're looking at, and know that real estate in CA could drastically appreciate, but just food for thought.  A financial planner could probably run some quick calculations for you.

Yes, you'll definitely want to have some sort of written agreement as to ownership and what each person can and cannot do with their share.  What if one of you wants to get married?  What if one wants to rent the whole thing, or in part as you say?  Can one person sell his share?  What about mutual expenses or major improvements?  Will your brother be allowed to complete improvements himself since he is in construction and if so, what do you need to contribute?  Will you each be fronting equal 50% shares or will he be fronting more money, and if so, does he have a larger ownership?  There could be several possible issues that could arise and you'll want to have a frank conversation about all of these items at the beginning and have a document that governs your co-ownership.

Also, if you haven't already, you'll want to look into an estate plan.  Probate in California is a very expensive and drawn out process where your entire estate becomes a matter of public records and your assets could be tied up for a long time in the court system.  A living trust may reduce or eliminate these issues.  Additionally, you may want to have other documents like a Will or a power of attorney in place so that your brother or someone else could act on your behalf regarding the property and your other assets if anything were to happen to you.  Your brother should consider this as well, particularly if he has his own business which I don't know how it is structured and taxed, but should be something each of you look into doing.

*This post does not create an attorney-client or CPA-client relationship.  The information contained in this post is not to be relied upon.  Readers are advised to seek professional advice.

Brian Garlington · Answer

Get preapproved with a lender....first.

Also figure out if your addiction to surfing is more important than building wealth.

Your brother has more money than you do so he may end up calling the shots.

A suggestion is to look at a fourplex or triplex.....so you are on the right track.

Sam Shueh · Answer

1. Rent control in SCZ County.

2.  1M is not likely to cut it. Unless you want to deal with home with asbestos, lead free paint(<1978 year), termite, fungus issues.

It really boils down to any investment purchase. What does your pre-approval letter say about max borrowing amount?

All the best,

S.

Sam Bauman · Answer

Thank you so much Brian, Andrew, and Katie! This forum is great. Such helpful advice.

- Brian, sadly yes, I'd probably rather continue renting than live far from the ocean :) Definitely true with the money imbalance. We will certainly have to discuss that in great detail.

- Andrew, I'm lucky in that in my current job I'm able to work from home 2-3 days per week. My parents live in San Jose and have a guest bedroom in a case where I needed to make sure I had to be at the office early /late. I hear you on the traffic down Highway 1 -- my SO's parents live in La Selva and commute.. Brutal. La Selva to midtown once took us over an hour and a half. I'll shoot for closer to 17.

Sorry to hear you're not sticking around the area. It's a shame it's not an amazing spot for building wealth. I think in my case, I'm looking at this as mostly an investment in my happiness. For flips or other pure wealth building opportunities, I'll likely look at other areas.

- Katie, Thanks you so much -- tons of great things to think about that I haven't considered. From retirement calculations, to marriage, to wills, these are all things I'll make sure to consider from the very beginning. I didn't know about living trusts especially -- thank you for sharing :)

Multi-family with my brother?

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