How do I partner on a deal?

Question

My wife and I have some friends that want to partner on a BRRRR deal in Tulsa, OK. They are an unmarried couple that used to live in that city. They currently have more market knowledge/connections. We currently have more of the funds. All of us live and work in Austin, TX.

It seems like everyone comes with their own strengths:

• me: negotiating, planning and organizing
• wife: vision for the remodel
• male partner: hustle and deal analysis  
• female partner: connection to city

Partnering would also give us:

• a bigger budget
• a sounding board for ideas/plans
• shared due diligence
• accountability

My question is, how do we legally structure this deal?

I'd like to create a contract and/or entity that will allow us to:

• define the equity split 
• ensure my original funds are returned upon sale or refinance
• hold funds for capex and repairs
• distribute positive cash flow on an annual basis
• decide buyout clause in advance

Where should we start on making this happen? Do we need a lawyer? If so, should they be from TX or OK? Do we need to form an LLC? Do we need to get a business bank account to put the funds into? Should we be using the same real estate agent? Should we outline buying criteria in the contract? Should we outline roles and responsibilities for buying and managing the property?

I like the idea of doing my first deal with a partner, but I've got no clue where to start. Thanks in advance for any wisdom, resources and advice y'all are willing to give.

Zack

Scott England · Answer

@Zachary Sexton

You will get a lot of good advice about how to structure the partnership, but I think the most important question is if your share of the $250 monthly cash flow is going to be worth the {significant} stress of a new partnership, on top of those already present from entering a new OOS market.

Scott Smith · Answer

Hey @Zachary Sexton,

Good questions! I would have a few questions for you, but first I will link some resources that might give you a bit of direction. When you are looking into forming a partnership I always think this article by @Joshua Dorkin is a great way to ensure you don't miss any of the basic questions that need to be addressed. After that many people lean toward an LLC, since they provide such a strong form of liability protection between the investment and the partners' personal assets AND it also allows your to establish an operating agreement - a set of specified instructions for different circumstances that may happen. The LLC protects helps  protect against legal action, and the operating agreement helps protect the group in case something happens to an individual member that either removes them from the picture or if they "get bored" and want out. If it's in writing and have already discussed it, that makes these situations much easier to navigate.

I would agree with @Scott England - make sure it is financially worth it to bring the group together. Working on properties with your spouse introduces many variables and potential pitfalls, but introducing other partners will just increase the number of variables and costs to mitigate the risk. If you think  you all may work together on future deals it is a great way to establish a working relationship on a smaller property, but I always encourage people to make decisions based off the numbers!

Best of luck moving forward! It is exciting to find new partners to work with. If you have more questions feel free to tag me.

Jerel Ehlert · Answer

"Partnering"...like getting married, but without the benefits.

You got some of the questions.  I'd ask two more:

How long, from start to finish, will this last?  For a "one and done" that can be done in less than 1 year, a JV agreement between your entity and their entity might work.  Most attorneys won't like that form.  For longer time or a series of transactions, an LLC with its own EIN, bank accounts, etc. is probably better.  With both sets of couples being actively involved helps keep it out of securities regulations territory.  If the $$$ of the transactions is up there, a more complex LP with an LLC as the GP makes more sense, but that's at much higher capital deals.

In all cases, you need to have some written agreement stating how the internal organization works.

Next, where is most of the profit activity taking place?  If everything that produces profit happening in OK, that's an easier place to form your structure.  If it happens in TX, that's where you form.  These are all "probably" assessments.  I'm only licensed in TX and don't know any significant reason to form in OK or to disfavor OK.  If you form in OK, but "do business" in TX, you will probably want to register as a foreign entity doing business in TX.  I'm sure OK has a similar regime.

Greg H. · Answer

While I think the Attorneys have given some good nuts and bolts advice,  my advice is a big DO NOT do this for the following reasons:

-While you think now there are 2 groups of partners, there is a great potential for 3 and while everyone hopes not a potential for 4 partners with a breakup and/or divorce.  This will be 3/4 Partners with emotions involved such as bitterness and possibly vindictiveness.

-While every partnership is going to profit greatly, the reality is many will not.  The odds that all parties will pony up on a loss is slim.  What is the property needs a $10,000 roof and one "group" just had a baby and is paying off expenses.  Who will cover it ?

-What if you want/need to sell and the rest do not?

-What is one partner declares bankruptcy or has a judgement ?  Their stake could be up for grabs

Just way too many pitfalls that you may not have control of

Kris Wong · Answer

Your company agreement can and should specify all of your bullet points in detail. You will need an attorney to draft the company agreement. You can form your entity (likely an LLC, talk to your CPA) in TX or OK, or anywhere you want, really, but you are doing business in OK, so it will have to be registered as a foreign entity there if it's not formed there (and it will have to file a tax return as well). It will likely be more straightforward to create an OK entity, but you should consider your mid to long term plans and goals. There are other legal strategies that you could consider, for anonymity, but I would recommend to start simple and fold those pieces in as necessary. However, I am not an attorney.

Zachary Sexton · Answer

@Brian Olencki "If more funds need to be used, how will this work?" <= Great question!

Brian Olencki · Answer

Personally I have yet to partner on a deal. It seems there are probably a few different ways to do it, and it would be best to find one that suits your situation best.

This being said, I hear a lot of times people forming an LLC or an entity of some kind. Agreements are drawn up outlining what each person is responsible for and how funds will be used. Basically think of anything & everything that might be questioned later on and think about these now. This could include:

• How will the funds be used?
• What happens if someone backs out?
• If more funds need to be used, how will this work?
• etc.

Next, each party would insert funds into the LLC or entity. The entity then acquires investments and distributes profits/cashflow based on the original agreement.

One thing that I keep hearing over and over from others that are a part of an investment group, is make sure things are in writing. This way you have a document to refer to just in case things don't turn out as expected. Best of luck to you!

Michael Plaks · Answer

@Zachary Sexton

You seem to block out multiple warnings, very well articulated by @Greg H., @Scott England and others.

I hope you will not regret your decision to partner up, but the odds are heavily against you. I'm in this business for over 20 years, and I have worked with hundreds of partnerships. Most of them ran into "issues" sooner or later and fell apart. When partners happen to be family or close friends, it usually leads to long-term disasters that are so not worth the short-term business benefits.

Lost count of how many clients have told me "now I wish I did not partner."

Ignore at your own risk.

PS. There're ways to do business together without partnering: bring in people as either lenders or contractors/consultants. Not as partners.

Scott Smith · Answer

Haha, hope you enjoy the episode! If you run into more questions or concerns feel free to tag me, as I try to remain pretty active on the forums if time permits.

Zachary Sexton · Answer

@Scott Smith That you for the link.

• https://www.biggerpockets.com/renewsblog/2006/11/16/real-estate-partnership-questions/

I think that is the perfect place to start. I also just went back and downloaded your BP episode. Can't wait to hear all the ways I'll be sued ;-)

How do I partner on a deal?

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