Buying apartment buildings with a partner. How to structure?

Question

I am in a pretty good situation but not sure exactly how the paperwork should work. I have a partner that has money and is willing to put the full 25% down on properties that I find for a share of the deal. He is also willing to put out the money for any up front repairs we need to make. My question is how does this look on paper? I will be finding and negotiating the deals as well as being the property manager. We have already agreed that I will be taking a management fee. He will be bringing the money his contacts with lending, lawyers and other potential partners when we start syndicating. Who has had a partnership like this and how did you structure it? We aren't looking at 200 unit complexes yet so the cash flow isn't huge. Right now we are looking at some 20-30 unit buildings and just got a 8 and 12 unit under contract. I know how everything works for a flip not not too sure how that translates to a buy and hold deal. I am just looking for an example of how you have split cash flow and equity with your partner. I know the generic "just split it 50/50" but its not THAT easy. He is putting down a nice chuck of change and I am just making sure that he is getting a decent return on his money so it's fair for both of us. We are looking to grow and invest in larger multi family and commercial properties so we need to get this all ironed out now.

Thanks

Edit: We will be forming an S corp and then buying each property in it's own LLC. I own a smaller multi family properties on my own but took on the partner to buy bigger deals. I am not jumping into this blind, I do have some experience.

Thanks

Edit:  We will be forming an S corp and then buying each property in it's own LLC.    I own a smaller multi family properties on my own but took on the partner to buy bigger deals.  I am not jumping into this blind, I do have some experience.

Neil Goradia · Answer

Although I haven't been in a partnership on a long term apartment deal, I have been in many partnerships in long term single family deals, and it can work out. But it can also cause a lot of tension, end relationships, and you could end up losing your money. The way it works on paper is to be very specific in your Articles of Organization when you form your LLC regarding exactly what each person brings to the table and what their responsibilities are. Outsource most of the work so that neither partner starts comparing how many hours they are putting in compared to the other. Getting a property manager (if you can afford it) would make things cleaner. Put in a clause that discusses in detail how each person could get out of the deal if they choose so that the person with less risk doesn't just walk away. It's difficult to talk about when you're starting a business because everyone will be very optimistic (it's like talking about a pre-nup when you get married) but its a mistake if you don't. No real estate partnership will last forever. Good luck.

Jeff Greenberg · Answer

A pre nup is a good ideal as well as how you will break a tie if you both don't agree on a decision. Although you will be taking care of the day to day, will he be involved with major decision. Typically the more work involved with making the deal a success, the more the sponsor/gp would receive. Ground up construction , I see 50/50. Major renovations which should demand a major upside 60/40 (60 EP). A more stabilized deal might be a 70/30 split(70 to the EP. If this is a small low return deal, you may sweeten the pot by giving a preferred return prior to you the GP receiving any of the cash flow.

In the end, it will come down to what seems fair for the both of you to make it a win win.

David Thompson · Answer

Phil,

Couple thoughts.  I work w/a lot of sponsors and see commonality around this from a cap raise standpoint.  If I bring all the money to the deal - either all mine or investor money that I raise (down payment, closing costs and rehab money) and do nothing else, then I should get min 33% of the GP split....this is for experienced syndicators.  Let's assume GP gets 30% / LP gets 70%.  Then the capital guy is getting 33% of the 30% or 10% of the entire deal.  If you are relatively new and inexperienced I may ask for more.

Neil Goradia · Answer

@Phil Morgan I think each situation is different, and each investor is different. Sometimes if you just listen to them, they will propose something - usually better than you would have proposed yourself. Ask him for his thoughts about what he'd want to go into the deal with you...afterall, you are bringing the deals to him and your real estate experience to the table (which I assume he doesn't have). He may want in at 50/50 on all 3 types of deals, or come up with something creative. If he just dances around the question and wants you to propose something, then I'd propose 50/50 on the deals where he would get his money back within a few years (with no interest during the pre-refi period since the deal could not happen without both of you, and there is a big upside for him after he gets his money back). On the deals where his investment is in the property long term (2+ years) I'd imagine you'd have to give him a little more equity than you, but not much more if you can bring value such as management services, etc. Again I think if you just listen to him first before proposing something you can learn what he is expecting and maybe his expectations are the same or lower than what you are willing to give.

Phil Morgan · Answer

@Neil Goradia , @Jeff Greenberg

Thanks for the advice.  We are meeting with a real estate attorney this week to try and get it all down on paper.  I do agree that the split could change based on the property we purchase.

Property #1 is an 8 unit we will be doing a BRRR on.  He will supply the 25% down and the renovation will be paid for with the cash flow.  We have a 2 year plan to refi and pull his cash out.  We have agreed not to take any profits from the property during this time to keep funding the reno.  I will still be taking my management fee and be the acting GC during the project.  Question is, should he expect to see some kind of return on his money for those 2 years?  Or does he park it for 2 years and get 50% off the cash flow once we refi and he has his capital back.  This is what I am struggling with.

Deal #2 is a 12 unit that is cash flowing now and with minor work can see significant rent increases, at least $100 per unit. Again he will be putting down the 25% needed but none of the work needs done right away, most will be done while turning a unit which will be paid for with our reserve account.  Since this is a more stable deal would be get more of this?  Is there any sort of standard here or is every deal what the partners agree on?

Deal #3 could be 22 mix use units. 4 commercial store fronts and 18 apartments.  All units are way under priced so there is a big upside but the commercial tenants are leased through 2020 and 2022 so there would be no movement for a few years.  Cash flow as it stands is not outstanding for such a large building but the upside potential is very promising.  The apartments need minor improvements to command at least $100-$150 raise in rent once the current leases are up.

Like I said before I just want it to be fair for everyone. I want my partner to feel he is getting a fair return on his investment as the properties are being held. The plan for the smaller properties would be to 1031 out of them down the road to help fund larger deals.  At this point we hope to make a decent profit based on the value we have added.

Buying apartment buildings with a partner. How to structure?

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