Fix N Flip using a partner question

[imirza]

I was wondering if anyone could offer some advice on the following situation.

There is an experienced rehab/real estate guy that I know who fixes and flips properties. He has a fairly good track record doing atleast 1 a month. We are currently negotiating an arrangement where I provide him the funds to purchase and repair the property and he takes care of the rehab and selling the property. The title to the property will be held in an entity I control. The profits will be split evenly.

I am willing to assume the risk of the property not selling due to market conditions/price etc. What I am not willing to assume is the risk that the property gets damaged, the contractors do a poor job etc. So what do I do to take this risk of my hands ? What type of an agreement/legal document would I need to have the rehab guy sign ? Has anyone else encountered a situation like this ?

 

Dislike ads? Remove them and support the forum: Subscribe to Fastlane Insiders.

[MJ DeMarco]

Who is holding the loan? Or are you fronting all cash?

 

[imirza]

The cash is coming from me.

 

[MJ DeMarco]

The cash is coming from me.

Charge your partner interest on the cash you front which accrues and immediately comes off the top of profits back to YOU. That will ensure he puts a little urgency in the project ... finishing and sale. If his motivation wanes, interest accrues for you and his profit erodes. The interest rate should be high enough to be effective (2% isn't, 15% is)

 

Dislike ads? Remove them and support the forum: Subscribe to Fastlane Insiders.

[imirza]

But MJ, How would I hold title to the property and charge him interest on the money ? I could front him the money, charge interest and let him keep title but, if something went wrong I would have to foreclose on him which would cost time and money. Correct me if I am wrong. And I don't believe I would be able to split profits with him this way. I would just earn the interest he pays me.

I am holding title via an LLC that I control. So how do I lend him money and keep title ?

 

[MJ DeMarco]

But MJ, How would I hold title to the property and charge him interest on the money ? I could front him the money, charge interest and let him keep title but, if something went wrong I would have to foreclose on him which would cost time and money. Correct me if I am wrong. And I don't believe I would be able to split profits with him this way. I would just earn the interest he pays me.

I am holding title via an LLC that I control. So how do I lend him money and keep title ?

This is why you have an agreement and a contract, properly executed and notarized that outlines the specifics of the deal. If he isn't compelled to act, you are forgoing interest on the loaned funds. For arguments sake, if you forgo $200K, he is getting a risk-free loan. The idea is to share risk and share profits. You are holding the purse.

The reason I am taking an interest on this thread is I am currently discussing a similar arrangement myself, except for luxury homes. I front the money on the home and charge the rehabber interest until the project is done and sold. This compels the project manager to move quickly as each day that goes by, his profit margin erodes.

 

[imirza]

Do you also split the profits ? Is it a straight 50-50 split or does one party get more ? Do you hold title or does the rehabber ?

Is there a specific agreement or contract that you would sign or did you have one specially prepared ?

The main concern I have is protecting my downside risk. I want to avoid a situation where the rehabber 'walks away' from the property without any legal ramifications. Lets say the contractor he hires screws up and the rehabber tells me he's sorry and leaves me with a messed up property. I need protection from this risk.

 

Dislike ads? Remove them and support the forum: Subscribe to Fastlane Insiders.

[MJ DeMarco]

We are still talking and we haven't formally created an agreement but this is what was preliminarily discussed:

Assume a $1,000,000 home.
1) I put up the $$ and deed is put in my name.
2) Interest is accrued on the $1M
3) Rehabber puts up the cash to rehab and the time to GC it.
4) Once sold, profit split in this order of execution:

A) Accrued interest paid first.
B) Rehabber's expenses paid second.
C) Profit split 50/50

So assume a net $350K/gain on sale.

Interest: $15,000 (Goes to me)
Rehab: $60,000 (Goes to rehabber)
Profit Split: $275,000 (Each receives $137,500).

As you see, if your rehab guy starts putting up thousands into the home, he isn't going to walk away. I also want to note that we are looking at doing luxury homes -- not sure if this would work in the < 250K/range.

 

[hakrjak]

I hate partners for small deals like this. It's hard enough to scratch out a living in this business on your own, but when you have to split the take with someone, and you have to watch them to make sure they aren't robbing you blind, or about to screw you over it becomes real honest-to-god work. haha

I'd reco going solo for small to medium sized deals and only using a partner for a large deal that you can't afford on your own.

Cheers,

- Hakrjak

 

[Bilgefisher]

This sounds very similar to my first deal.

-Make sure you have a operating agreement with the partner.
-Understand why he needs your money for this deal.
-Talk to people he has partnered with in the past.
-exit strategy(s)


Perhaps I misunderstand, you'll hold the mortgage and be fronting the fix up costs? Wouldn't it be easier to hire a general contractor and do this on your own.

This seems like you hold all the risk and he shares 50% the profit. Where is his risk?

 

Dislike ads? Remove them and support the forum: Subscribe to Fastlane Insiders.

[I85]

This sounds very similar to my first deal.

-Make sure you have a operating agreement with the partner.
-Understand why he needs your money for this deal.
-Talk to people he has partnered with in the past.
-exit strategy(s)


Perhaps I misunderstand, you'll hold the mortgage and be fronting the fix up costs? Wouldn't it be easier to hire a general contractor and do this on your own.

This seems like you hold all the risk and he shares 50% the profit. Where is his risk?

The question is....who's finding the deal? If the other person brings the deal and does all the work, I think they are entitled to 50%.
If the deal is coming from the OP, then I second getting his own GC.

 

[imirza]

Thank you all for your responses.

Yes I could do this deal myself but I don't have experience in this arena. This rehab/RE guy finds the properties, gets a licensed general contractor to do the work and then proceeds to sell the property on my behalf (he is a RE agent too). So I am trading profits for time and effort and have him do the work for me. He has done a dozen or so fix and flips this year alone and I have documented this via the county recorder and assessor. So he is legit and makes money plus he comes with good references and I have known him for the last 6 months or so. So its not like I am dealing with a stranger. Plus I approached him to do this deal rather than him coming to me. I figured he's good at what he does so I could use his expertise to make money. And the potential return beats a 5% CD

What I am trying to do at this stage is get an agreement in place that places some of the risk on his shoulders. I don't want a situation where he gets a big portion of the upside and none of the downside.

 

[Bilgefisher]

What I am trying to do at this stage is get an agreement in place that places some of the risk on his shoulders. I don't want a situation where he gets a big portion of the upside and none of the downside.

Exactly. Well thought out. Having all the risk means you are the only person that gets the shaft if something goes wrong. Life is to imperfect to not plan for problems.

 

Dislike ads? Remove them and support the forum: Subscribe to Fastlane Insiders.

[phlgirl]

I think the best way to reduce your risk in an investment like this is to make sure that the property is purchased at a good discount. Get your own comps and make sure it works for you. The worst case scenario here is that you end up with the house and have to either sell as-is or repair and sell yourself. You want there to be a good bit a wiggle room in the deal. Many people who loan hard money define an LTV they are comfortable with (60-70%) and use that as a rule.

Is it possible to have your partner pay for the repairs (as MJ suggested), while you support the property purchase itself?

As far as protecting yourself from damage to the home by contractors - perhaps, you could write something into the contract which states that all contractors on site must be licensed and insured? If a contractor damages the property, it would be their company or the company’s insurance who would be responsible.

I am not an attorney but I am pretty sure that if your partner chooses to not hold up to their end of the agreement, the most you can do is sue him/her for specific performance. This, in itself, can be extremely costly and timely.

Could you write something into the agreement which states that if the repairs are not completed within a certain timeframe, the split changes from 50/50 to 70/30, in your favor? (of course, partner may gawk at this and no longer have interest in the deal)

Just some thoughts.

MJ – I would be curious as to why your potential partner is willing to both pay you a fixed rate of return AND give you have of the profit. Particularly if he or she is an experienced RE investor…… why wouldn’t they just use hard money? Is their credit score preventing them from getting approved for hard money loans? Is there not enough equity in the deal? Not trying to rain on your parade….sounds like it could be a great arrangement for you - just something to think about. Granted, I have no idea what your rates/terms are.

We have done a few deals like this in the past (hard money and JV agreements with money partners). It has been successful (so far)…..but our agreement is for a longer term hold on the JV.

Good luck!!

 

[8 SNAKE]

What I am trying to do at this stage is get an agreement in place that places some of the risk on his shoulders. I don't want a situation where he gets a big portion of the upside and none of the downside.

Would you want to add him to the title? At the very least, that puts him on the hook and won't allow him to walk away if there's a problem.