Have questions on raising funds from friends and family for multi

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Have questions on raising funds from friends and family for multi

Jorge Garifuna
Investor · Reseda, CA · Member since 2015 · 66 posts · 68 votes

I've been investing in real estate since 2012 and have paid with my own cash for all my properties so far. All my properties are fully rented (with the exception of the last one which is being renovated).

Now I'm interested in a multi-family and would like to consider borrowing funds from friends and family to finance about 40% (about $35,000) of the property to be paid back to them within 12 months.

My personal credit is not in the greatest shape, so the banks (large and small) I've visited won't work with me. 

I find that hard money lenders charge a bit high (10%+) for what I'm willing to pay. 

Part of my reason for considering going to friends and family is because I don't want to pay any extra fees associated with borrowing money, although I wouldn't mind paying them a reasonable interest for the loan.

1) What is the best way to approach friends and family about borrowing money for real estate investment?

2) What is a reasonable interest to pay friends and family for their loan?

3) Do I propose the interest amount first or should I ask each individual what interest they would charge me for the loan?

4) Is it wise to offer one of my existing rental properties as collateral for the loan and if yes, how would I deal with multiple friends/family that contribute to the $35,000 in terms of distribution of the collateral?

5) If a friend and family agrees to lend me the money, where could I get the paperwork to start the process?

6) Some of these friends live in different states, where my bank does not have a presence for them to make the deposit directly. For those cases, what would be the cheapest way to transfer the funds into my account?

Thanks in advance for your responses.

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  • Michael Lam
    Real Estate Investor · San Jose, CA · Member since 2016 · 80 posts · 35 votes
    10y

    Hi @Jorge Garifuna

    I will attempt to answer each of your question

    1.  Its much easier to approach friends/family if they know about your real estate business.  I suggest you establish your credibility.  Don't expect anyone to give you money if you don't have projects to show for.  In the event they know what you do, one way to seque into a conversation to talk about a deal where you can discuss the potential profits.    For an example, a family member may be looking to make extra money.  So you can use that to highlight this is an awesome way to get some passive income.  Or if they are not, use the ,"with this extra cash you can buy...<what they want>"

    2.   If your real close to family, you'll be surprise some will just let you barrow for a flat fee or sometimes even free if you can return it in short.  A good rule of thumb I've used is it should be between 3-8%

    3.  I wouldn't let them dictate.  come up with a proposal and offer them the deal (each the same)

    4.  Yes, using one of your rental as collateral is wise and shows confidence in the deal your proposing.  Put a value on your rental, and how much they lend you make it a percentage of equity you'll give to them in a default.  I've done something like this in the past but with one one party.  With many it could get little messy but doable.  Just have someone in law knows how to write proper contracts.

    5.  Its called a "Promissory Note".  Look that up on google and its a lot of resource.  (I'm trying to avoid posting links, don't want BP to think I'm spamming)

    6.  Cheapest way is probably just doing a direct wire transfer.  That can be done with any bank for immediate access.  The cheapest but long way is have them just mail you a personal check.  Remember, don't make it difficult for the lender to send you money and it shouldn't cost them anything to send to you.  If it does, make sure you offer to pay for that cost (i.e Wire fee)

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  • Jorge Garifuna
    OP
    Investor · Reseda, CA · Member since 2015 · 66 posts · 68 votes
    10y
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  • Ronald PerichPro Member
    Investor · Granite City, IL · Member since 2014 · 658 posts · 301 votes
    10y

    2) What is a reasonable interest to pay friends and family for their loan? Whatever they feel is fair and are willing to receive. And what you think is fair and are willing to pay. I would rather give friends and family a 10% rate than a complete stranger.

    I've been thinking about private money to help finance more acquisitions and like the concept of preferred equity arrangements. Problem with preferred equity is you now have a long-term partnership instead of a lending relationship. Partnerships are like marriages whereas lending is more like dating.

    If I'm doing a preferred equity deal, my offer is 1.5% ownership for every 1% of ARV into the purchase. Rate will be Prime plus 4%. They get paid equity before any cash flow is taken out of the property. Reserves must be built up for maintenance, CapEX, etc before equity return happens. In most of these types of arrangements, I receive nothing until property is refinanced (like a cash-out) or for several years until the partner receives all of their equity plus interest back. But I have very little of my own money into the deal, only my time.

    If a strictly lending relationship, I'd offer 2 points up front and 5% over prime. 18 month note with two additional one-year options that adjust the interest rates. Interest only with balloon. They are listed with the county as a lender and everything is handled through a third-party servicing company. I'd still have little of my own money in the deal, but would be able to take cash flow out sooner. The challenge is the balloon payment... You'd likely need a refinance to make it work.

    In both of these cases, the lender/partner is protected over my interests and I am providing them with a service first. Even though they may be friends/family who are making these loans out of the goodness of their own hearts, I want to make sure they are receiving a fair benefit for the use of their capital.

    My interests are secondary to their interests yet I am still committed to making it work. You really cannot think of your own needs above theirs - they must be made whole and protected - but you also need to be able to see your interests as part of the relationship. 

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  • Kevin Foster
    Vendor · Bonney Lake, WA · Member since 2016 · 48 posts · 12 votes
    10y

    Hello to everyone!

    @Jorge Garifuna

    I read your questions and all related responses.  Everyone expressed good ideas and considerations...there are a variety of options...only limited by one's creative abilities.  

    Several thoughts for your review.

    Borrowing money from friends or relatives is always a bit of a tight rope walk.  A lot depends on family/friends dynamics and expectations that are set early in the discussion. Also, how will the arrangement impact your existing relationship. 

    Best case...the plan unfolds, related parties receive benefits or enjoy helping you be successful in your goals. 

    The flip side is the ugly side...where things don't go as planned.  Repayment becomes slow, delayed or nonexistent for a period of time.  How will your "lenders" react to that?  This is the area where the details and real possibilities need to be discussed...in earnest with these people.  Don't shy away or be vague...it is an investment for them and there are risks. Being forthright and discussing this will give you credibility and respect.

    3 important considerations:

    Don't  borrow from people for whom the money is a part of their needed liquidity...or might be in the near term.  In securities they refer to this as the 'prudent investor' rule.

    Keep an open dialogue and communicate with your 'lenders'...through good and especially if the ride gets a little rough.

    Do select and utilize a qualified third party servicer to execute the terms and conditions of your lending agreement.  Have the servicer handle all funds...receiving and hold any funds in escrow and to disburse funds for both the purchase and also the payments back to the 'lenders'. This serves several important functions: prevents questions of comingling of funds, sets a professional tone for your plan and also provides privacy of financial information that all involved parties might not want disclosed between everyone in the group.

    I wish you success and would be happy to discuss further or answer related questions!

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  • Jeff B.
    Buy & Hold Owner · Redlands, CA · Member since 2015 · 5k+ posts · 2k+ votes
    10y

    Consider your motivation for REI and how it can easily become the same for friends & family

    Property Ownership!  Make them all have a share in the new purchase!  A good MFU should cash flow sufficiently to pay "dividends".  There are multiple means to structure such ownerships. 

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  • Jorge Garifuna
    OP
    Investor · Reseda, CA · Member since 2015 · 66 posts · 68 votes
    10y

    thank you all for great responses. 

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