How to structure deal with private investor for buy/hold?

Question

Hi all,

Short background: I'm looking for my first deal - a buy/hold - and plan to get a conventional mortgage (Fannie/Freddie) because my only conventional currently is my primary residence.

I can't seem to get my head around typical deal structures with outside investors. For a buy-and-hold deal, would we be talking equity investment or just good interest rate on their money? What would a typical deal structure look like with a private investor that's fair for both parties?

More details:

• I have very good credit and very good income.
• Private investor is my dad. He has some money that he'd like to put to good use. About $25k maximum. He lives out of state (NY). I live in MD.
• I'm open to getting a HELOC on my primary to contribute toward raising capital needed. We have about $40k equity right now.
• I'm open to using hard money for anything left over not covered by private and HELOC.

So I'm interested in the best way to structure a deal with these players, but most interested in how I can make it a fair and attractive deal with my private investor. Because it's my dad, we have some flexibility in how we structure that segment of the deal. Any advice would be appreciated. Thanks!

Matt Powell · Answer

@Jeff Rabinowitz Thanks. Can I dig more into the equity partner avenue? What would it mean, practically speaking, for someone to have an equity stake in a buy-and-hold deal? If the partner has, say, a 25% equity stake, does that mean they'd get 25% of the cash flow from the property? And would the private investor actually be on title with me? Or would we track that in a separate contract? What legal means could we use to document how much equity each partner has?

Jeff Rabinowitz · Answer

Private investors can participate as equity partners (they own a piece of the project), debt partners (they are lenders and get interest payments) or any combination of the two types. Sit down and talk to your Dad about what he expects from the investment and what his risk tolerance is then structure a deal that makes you both comfortable.

Matt Powell · Answer

Thanks Michael. All great advice. Much appreciated.

Michael Moikeha · Answer

Out of state should not matter. The bank will be looking for a JV Agreement. It doesn't need to be complex, but there does need to be one. Google JV Agreement if you want to write up your own, but as always, you are best of seeking legal advise.

Matt Powell · Answer

@Michael MoikehaWould the bank be looking for a written JV agreement? Also, my parents are out of state. Does that matter?

Michael Moikeha · Answer

If the loan is personally guaranteed, the lender may work with you. You would have the best chance with a smaller bank where you can meet with the decision makers. You could also buy as Your name & families name on title.

Before deciding terms, ask them what returns they want. To most truly private money people, 6% is a great return. So don't shoot yourself in the foot by trying to figure out what to offer them before knowing what they would want in the first place.

Hope that helps.

Matt Powell · Answer

@Michael MoikehaYes, thanks, that's more what I'm looking for.

So I really have two guaranteed sources of capital: a HELOC on my primary residence (about $30k) and a private investment from family (up to $25k). 3/2 houses in my area in need of rehab could go as high as $250k, meaning that total of $55k likely won't be enough to cover 20% down + rehab + holding costs. Any remaining balance I'd have to make up with hard money.

I'd like to fully leverage my HELOC and my dad's private investment, but I'm aware that down payments can't be gifted for an investment property with a conventional mortgage. So I guess I'd have to enter into an explicit JV agreement with my dad and make that agreement known to the lender? I literally know nothing about doing that. Would we have to do an LLC? I hope not, because lenders aren't going to do a conventional to a brand new LLC. How would I go about doing that JV (like... what terms are common) and how do I get the bank to lend with that type of agreement?

Appreciate your advice.

Michael Moikeha · Answer

So if you are looking for conventional financing, I am wondering what exactly you are looking for. Just the funds for the downpayment? You wont/dont want to get hard month for that. technically conventional loans would require that the money you use for downpayment is not money that is borrowed from someone else.

I believe what you should be looking to do is create a JV partnership where your father is the silent money partner and you are the one who does all the work. This way the DP is not borrowed money but it belongs to the JV Partnership and in the JV Agreement, you state the terms of the payoff for your father.

Find out what would be a good investment for them, and the set those terms.

Matt Powell · Answer

@Jeff Rabinowitz Thanks. I'll certainly involve a lawyer before making any final decisions. I'm just trying to scrape the surface at this point.

What is more common with private investors, equity partnerships or just straight lending with points and interest? Let's assume we're not talking about family members.

Are there other ways to document equity stake without it being in the operating agreement of a legal entity like LLC? I'd like to be able to arrange different equity partnerships with him for different deals, depending on what makes sense, without setting up a new LLC for every deal that's not exactly the same. Is there a standard document you might use in this scenario?

Also, unless I'm mistaken, I won't be able to get a mortgage under a newly formed LLC. I suppose I could get the mortgage in my name and then transfer into the LLC and hope the due on sale clause isn't triggered...

Jeff Rabinowitz · Answer

If they have a 25% stake they would often get 25% of the cash flow and 25% of the profit from a sale; however, it can be structured differently. Both investors can be on title but that is not necessary. The property could be owned by an LLC or an Inc. and the operating agreement of the LLC would specify the terms of the partnership. Explore what you and your father wish to do then speak with a lawyer and maybe an accountant to figure out how to do it.

How to structure deal with private investor for buy/hold?

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