What terms would you agree to with a moneylender?

Question

I’ve come in contact with an investor who’s wants to invest with me. But the terms seem a bit steep.

The basics of the deal looks something like this:

We open an Llc with 50/50 ownership.

He provides the cash for down payment at an interest rate of 7-10% - and I would be liable. Usually in my country down payment on commercial is 20%

He is a passive investor so all dealfinding, management etc goes via me.

I would be prohibited in doing other deals my self (not the case for him). If there’s a plus, which doesn’t go to reinvestment, at year end we can choose to pay it out. I would be compensated for my admin work with 0,3% of the accumulated value of properties. So before I would be able to live off that part it we would have by properties for 15 million+. There are more details but these are the main ones.

My question is this. Do these terms seem standard to you guys who either are moneylenders of have done this type of partnerships before?

All the best

Leo

Spencer Gray · Answer

I don't think 7% interest and a 50/50 equity split is a bad of a deal if he is totally passive. I would structure the interest rate as a preferred return that accrues if there's not enough cash to pay. That would make him a straight equity partner which he may not want. If he wants to be more of a lender than an equity partner maybe give him a 15% interest rate, 5% is paid annually and the remaining 10% gets paid out at a sale/capital event or after a certain amount of time (3 years). I'm not familiar with the going rates in Denmark so you'll have to adjust to what makes sense in your market.

What is a bad deal is being exclusive to him and not being able to do other deals yourself. For this I think that your partner would also need to commit to doing enough deals to satisfy your goals ($15 MM ?). You should also take several fees, such as a management fee based on total gross rents (in the US it's usually 10% on singe family and 3-5% on larger properties). I would also charge another fee for keeping you exclusive and forcing you to pass up on other opportunities. This fee has to be based on what you value your time and skills and could be a side letter agreement unrelated to any one property. You would in a sense be working for him, so a fee equal to a salary you can live on sounds about right (at least to negotiate). My gut tells me when you say something like "ok, well for me to be exclusive I'll need a large capital commitment and a fee to tie my valuable time up" he'll drop the whole exclusivity covenant.

These are just my thoughts and a different approach. Good luck!

Bjorn Ahlblad · Answer

@Leo M Christensen create a competitive situation to throw him off. To me the terms are too steep and if I am not mistaken the interest rate is outlandish for Denmark. Get another lender that you can use as another set of terms to compete with the one you already have. You should never go with just one bid anyway. You already have number one making finding number two much easier. All the best!

Joe P. · Answer

Yeah, you need to live, too. I would work out the numbers under this model to see where your cash and net worth positions would end up after purchasing a property, then another, then another.

It sounds like he is an angel investor with the cash to fund you, which is awesome, but you're doing all the work. And he's structured this for you to either fail or not be in a good position to live your life.

I could be wrong, I haven't had my coffee yet so math is out of the question, but I'd see what the positions look like with some forecasting and see how bad or how good it is.

Niels Bjørn Toppenberg · Answer

Hi Leo

Always great to find an investor!

Instead of the 0,3% of the property value (how would you determine the value with appreciation?) I would suggest a management fee for the properties. Like 10% of the rental income. Rental income is much less arbitrary than the value of the properties which is a subjective number.

Above suggestion will leave you with the headache of finding a deal good enough to cover his 7-10% and your 10%. Best bet would probably be 6+ properties with below market rents.

If would like to talk in more detail about the strategies I can give you a call on Monday.

Niels

Jason D. · Answer

@Leo M Christensen these are very steep terms, in my opinion. Money lenders dont generally get interest AND an equity stake in the business. There is no way I'd agree to this deal, unless I was absolutely against a wall with no out, which you are not.

Find a traditional lender, you'll make a ton more money without the contingencies

John Fortes · Answer

Terms are steep... have you tried renegotiating or even taking less equity to remove exclusivity and the interest rate? Just have to sell yourself why that would work best all while collecting a management fee since he's hands off and you are essentially working for him.

Leo M Christensen · Answer

@Spencer Gray.

The investor has a lot of capital and has a track record with deals as large as 26+ million $ deals. And has stated he wants similar deals in my area.

And I agree the exclusivity part is the one that gets me the most. It’s kind of like him wanting me to marry him, but he can date others.

A commercial fixed rate mortgage here would be at about 2%, so the rough math would look like this:

Let’s say it’s a 1 mio $ property

His 20% down payment at worst case 10%

And 80% mortgage at 2%

200.000 x 0.1= 20.000$

800.000 x 0.02= 16.000$

That’s a total of 36.000$ = 3,6 % in financing cost.

This means in order for that to pencil out I would have to find deals at 7% cap rate or higher, with fees included. And my salary for management etc would on a 1 mio $ deal be 1000.000 x 0.3% = 3.000$

Of course my math could be off, and I’m not including property optimization and eventual refinance (BRRRR), but unless the deals get massive it’s seems like a tough call.

What terms would you agree to with a moneylender?

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