If you are a player in real estate investment you will no doubt run up against a great deal that you don't have the equity for. There are many ways to put funds together for a deal, one of them is private money. A recent article by Douglas Dowell, commercial and multifamily investor aims to "demystify the rules and provide no-nonsense advice" about pooling money for real estate investments.
Two Rules to Consider Before Group Investing
Rule #1: Make really great deals. This rule will make it easier to sell your first group investment if you do not have experience in the type of investment. If you find a great deal – investors WILL be interested. You may need to partner with an experienced operator depending on the bank requirements and your balance sheet, but if you have a great deal you will always be relevant.
Rule #2: Almost every group investment, it could be argued, is a security! Group investments require the sponsor to take on legal risk almost across the board. In this article, I will describe how to minimize this risk, but any discussion of any group investment must take this aspect into consideration. This is why rule #1 is so critical in my book -successful investments are a lot less likely to draw scrutiny.
When evaluating the cost of legal counsel vs the risk of violation, it may be cost effective to hire an attorney for reasons of reduced risk.
These types of real estate deals have never been simple. Dowell's excellent article serves a primer for group investing. Particurally of interest is his list of tips and traps regarding LLCs and syndications.
LLC vs Syndication
When I use the term LLC for the purpose of this article, I am envisioning a strategy where you would join a close group of friends, family or business partners to invest in a deal together. The same rules apply to joint ventures, corporations or partnerships. The choice of entity or family status of the membership is not relevant in this context.
Syndications, on the other hand, are a group investment where the sponsor exercises control for the benefit of the group and most definitely requires securities compliance.
Tip: If you chose to stay with the LLC group or other joint venture, document document document your organizational meetings. Make sure major decisions regarding capital expenditures and acquisition/disposition require group consent.
Trap: IF, within in the LLC group, someone decides they don’t like something you did for rational or irrational reasons, they may mount an attack saying, in reality, you were a totalitarian, iron-fisted dictator who really ran the show.
Tip: If you stick with the LLC structure, one potential benefit is increased control of the money partners. They have more ability to replace you as the day-in, day-out manager.
Trap: A tenants-in-common arrangement is a tricky grey area with regard to securities regulation. A small group with only a few investors – with group voting – could conceivably evade the requirement to register the offering, but the SEC dislikes this approach. Sponsor beware.
Trick: Vet your potential partners; screen them like you would a potential marriage – because it is. Ask around town and people with mutual knowledge and don’t be so deal-hungry or expedient that you hop into bed with the wrong people.
Trap: The more people you have in your investment group or scheme, (be it debt or equity) the higher the chances it will be found to be a security. Group of 10 are probably okay – but groups of 1000 would draw intense scrutiny even if you have a member-managed structure.
So you have to choose: are you willing to give up control for the benefit of additional equity? That is THE central choice of real estate group investments when moving from a one person operation into a growing business.
Are you ready to expand your investment possibilities? For nearly 90 years savvy investors have trusted the market knowledge and sound investment strategies they get from the experts at KerNors LLC. We can help you get started.