How to Escape This Partnership?

Question

I'll preface by saying - I will speak with a lawyer and lender for the legal options but wanted to see if people had experienced anything like this firsthand.

6 months ago, a partner and I closed on a Single Unit Multi-Family in Raleigh, North Carolina. The main reason I decided to go with a partner here was to help with down payment and at the time I believed he had a greater real estate/financial understanding than he did. I also did not expect him to be this difficult to work with. We entered into the deal, splitting the down payment costs, profits, and losses AND both on the mortgage loan.

Today, the property is cash flowing but there have been a lot of added complications working with this partner and difficulties added in things like the difference in opinion, strategy, management and so on.

My main question is: What are the best options to remove myself from this deal?

We have gently brushed on the idea of selling but are still building cash flow 6 months into the deal. Is there a scenario where he can hold me hostage in this deal if we cannot agree on an exit strategy?

(Side note* I realize this is a fantastic learning experience, that an exit strategy is needed before the deal closes to avoid this in the future - that has not formally been discussed in this case).

All opinions welcome and thank you for the help!!!

Jonathan Farber · Answer

@Adam Schneider @Levi T. @Chris K. @Bryan Otteson @Troy H. @Will Barnard @Lynn CurrieThank you all for the feedback. To update/add more context: We did form an LLC and had a lawyer draft an operating agreement. The mistake looking back was that there was no clear exit strategy proposed other than criminal activity or unanimous liquidation. Not having more clear exit options was a mistake.Since this post, we have begun civil conversations around buy-out options. It's shaping up that I will buy him out through a refinance and deed transfer as we had our names on both at the time of purchase (looking back this was another mistake). We will be splitting the profits and hopefully remain friendly as we walk away. A lot of lessons to take away on this one. Thank you again for the feedback!JJF

Levi T. · Answer

@Jonathan Farber That's good. Time solves all problems. As you do more deals, you will find the banks and other laws will have their own rules that can require you both to have your names on things, so the operating agreement becomes your only tool. Always give yourself a good exit, one your can exercise at anytime. Normally partner interest at current appraisal value. If your are the GP, always put yourself as one of the managing Memeber with absolute say on everything, that way you cut out partnership bs, and can just get things done within the day to day business.Good luck moving forward

Lynn Currie · Answer

I've been through something similar with a business partner and it was really, really awful. I'm sorry you're having to go through this. Get out of this deal by any means necessary (meaning you might technically not get what you think you're entitled to), and then hire a good lawyer for formation docs from here on out. @Chris K.is absolutely, 100% correct. Do not skimp on attorneys. Find someone really good, and let them take care of you.In my case, my ex-business partner and I used a real estate attorney that we both liked (and I still use for RE transactions), but she wasn't really representing either one of us on the business side. We had a complicated parting of ways and the contracts weren't written to handle that.One of the attorneys I used to get out of my pickle was a corporate attorney who's specialty is the formation and dissolution of businesses. She now reviews and/or creates anything I sign. Does it cost me? Yes. But the cost of getting out of a bad deal is so much worse - financially and emotionally.I hope you find your way out of this without too much stress. Keep us updated if you're comfortable doing so.

Will Barnard · Answer

Any type of verbiage in your operating agreement that elects somebody or some way to split your 50/50 tie. It can be an attorney, a CPA, any other agreed upon third party or it could have already specified in the operating agreement what happens when you both don't agree on the disposition of the asset or the company itself.The best idea if nothing like that already exists is to use the cookie example above. One person selects the price in which the 50% buyout s worth and the other decides if he buys or sells. Makes for the most fair situation.

Chris K. · Answer

@Jonathan FarberHard to say without looking at the partnership agreement or whatever agreement that you signed with your partner (e.g. not sure if you created a 50-50 LLC). But yes, if it's a 50-50 arrangement, your partner can hold you hostage forever unless your agreement has some kind of tie-breaking mechanism or other provisions that deal with the sale of the property. This is not directed to you but I noticed that many folks on BP enter into 50-50 partnerships/LLCs without really thinking about these consequences. These are issues that partners/members need to think about before signing the agreement. Once it's signed, you can be deadlocked forever. For future people reading this post, you should always work with a lawyer if you are going to have multiple people involved in your deal. Sure, you can probably get away with not using a lawyer for single-member LLCs. But I just can't see any good reason not to hire a lawyer when you are investing with multiple people. Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it as legal advice. Always consult with your attorney before you rely on the above information.

Adam Schneider · Answer

@Jonathan Farber When my daughters have a big cookie to split, one of them cuts it, and the other gets to choose which piece she wants...maybe you have the other person offer a buy out program, and you get to choose if you want to buy him out or have him buy you out. Or, you might re-negotiate the deal to adjust the amount of equity each has in it, the returns, and the responsibilities...

Troy H. · Answer

@Chris K. thank you for your input.

Chris K. · Answer

@Troy H.@Will Barnard gave some examples of how to deal with these issues. There are a hundred ways to do it. Each solution has pros and cons. You and your partner just need to get on the same page when it comes to all those issues (which is not easy to do). There is a reason why when sophisticated parties do a partnership or form an LLC together, often times they each hire their own lawyer to represent their interests. Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it as legal advice. Always consult with your attorney before you rely on the above information.

Troy H. · Answer

@Will Barnard thanks. This situation Jonathan has described is exactly what I hope to avoid. I am trying to learn all that I can about structuring buy and hold partnerships.

Troy H. · Answer

@Chris K. Thanks for sharing. What kind of "tie-breaking mechanism"?