Investors value diversifying one’s portfolios, as this will improve potential returns and have stable long-run results. And one of the most common ways investors expand their portfolio is by investing in real estate properties.
Newcomers will often assume that directly owning properties is the only way to enter the real estate market and diversify their assets. Fortunately, you can also explore other approaches, such as having a real estate partnership.
Real estate partnerships are one of the best starting points if you’re looking to buy or invest in property. It allows investors to get together and grow their mutually owned venture. These limited partnerships may be difficult to understand at first, but they come with excellent benefits that make them a popular strategy among real estate investors.
To help you understand and determine whether you need a partner, we’ll discuss how these joint ventures work, what makes them different from general partnerships, and how you can successfully structure a real estate partnership in ten steps.
How Real Estate Partnership Works
Real estate partnerships work similarly to how you normally purchase your home with a partner. You combine your funds to buy a property like a home or a commercial office. But instead of combining capital with their partners, you’ll end up working with at least two other investors,
These joint ventures are typically formed through various pass-through entities to avoid paying mandatory corporate income and other entity-related taxes. Instead, investors involved in the partnership will pay individual income taxes, depending on how much profit they share in the venture.
There are three common entities used in creating real estate partnerships: a Limited Liability Company (LLC), Limited Liability Partnership (LLP), and S-Corporation. Aside from avoiding double taxation, each entity provides investors with legal protection from claims against other assets or businesses related to their co-investors.
Now that we know how these ventures work, let’s discuss the difference between a general partnership and a real estate investment partnership structure.
What Makes Real Estate Investment Partnership Structures Stand Out
Knowing the key legal and management differences between Real Estate Limited Partnerships (RELP) and general partnerships is a must when investing in real estate.
For instance, general partnerships often have one or two more owners responsible for the daily management and key decision-making of the venture. Meanwhile, real estate investment partnership structures have general and limited partners.
General partners take care of day-to-day management, while limited partners primarily act as investors or silent partners. Typically, investors prefer the RELP structure as it allows real estate experts to manage their assets while they invest their capital as limited partners.
Another great advantage of the structure is the liability protection it offers. Unlike RELPs, general partnerships don’t protect their investors from future liabilities. Everyone involved in the venture will be equally liable for damages.
But with a real estate partnership structure, liabilities are limited to the partner’s investment and involvement in the venture.
How to Structure A Real Estate Partnership in Ten Steps
Here are ten things that you should follow when organizing a real estate investment partnership structure.
Determine If You Need A Partner
Before you commit to a partnership, you must figure out whether you need a co-investor. Too many young investors make the mistake of taking on major ventures like real estate partnerships without evaluating the risks.
One way to make this process much more organized is by evaluating the pros and cons of working with a partner. For instance, having another investor could increase your real estate buying power or provide you with more connections in the market. Make sure to evaluate these factors before making that big decision.
Evaluate Your Strengths & Weaknesses
Compatibility matters most when structuring a real estate investment partnership. It would be best to find a co-investor matching your skills and capabilities. However, you should also look at yourself and your capabilities.
You need to be able to do an unbiased assessment of what you can bring to the table. This way, you’ll find the right person to collaborate with and grow your portfolio.
List Down What You Need in A Partner
Now that you know what complementary skills you need to grow and manage your real estate assets, you can start drawing a picture of your ideal partner. Aside from being able to complement your skills, it’s also important that they bring something new and unique to your venture.
For example, if you’re relatively new to the real estate market, you would need someone with enough experience to help you better understand the landscape of the current industry. Working with the right people will make your partnership more versatile and prepared for unforeseen market trends.
Find Your Partner
When finding your partner, doing your due diligence is important. Do your research and evaluate their portfolio. Be bold and ask them about their experience handling real estate properties and other asset classes.
We recommend speaking with other investors they’ve previously worked with or partnered with. Learn as much as you can about your potential partners before committing to your capital. If you want to invest in real estate, you need someone you can trust with the knowledge and skills that complement yours.
Define Roles And Expectations
Before entering a real estate partnership, you should define roles and expectations between you and your co-investors. Talk about who will manage your finances and be in charge of daily management tasks.
The clearer your responsibilities are, the better. Outlining your roles ensures all of the gaps in your venture are filled and can help you improve your team’s problem-solving skills in the future.
Draft Your Terms
Now that you’ve discussed your expectations and delegated responsibilities between you, you can start drafting and setting terms.
Laying down terms is much more complicated than defining roles and responsibilities. You have to delegate profits and losses and create a process for dividing leftover profits between you and your partner.
Before adding these agreement terms to your partnership contract, ensure that both parties have reviewed and agreed to the conditions.
Establish A Simple Structure
With your agreement terms finalized, your next step is to structure your real estate partnership. Keep the arrangement of your venture simple and easy to understand to avoid complications.
We recommend preventing using too much legal jargon to allow you and your partner to comprehend the terms of the venture easily.
Yes, your real estate investment partnership structure needs to be professional, but you and your partner should still be able to understand what you’re getting into clearly. We suggest working with real estate attorneys or a legal team when writing your partnership’s structure.
Set Protections For Yourself
Before you and your partner sign anything, we recommend setting up safety nets that protect you and your co-investors in case things go wrong. You can set up a proper business structure through an LLC to safeguard your assets from possible liabilities.
Another great way you can protect your interests is by taking the time to discuss any potential business disagreements. You and your partner need to learn how to amicably solve conflicts that could arise in the future.
Joining and starting a real estate partnership can be risky. And the only way you can prevent your portfolio from being heavily impacted by liabilities is to learn how to protect yourself.
We also suggest speaking to a legal team before you and your partner sign any binding contract.
Outline Your Goals
With the legal documents and contracts out of the way, you and your partner can start outlining the goals you want to achieve through this venture, including short-term and long-term goals. If you and your other investors have different intentions, it will defeat the entire point of setting up a real estate partnership.
Brainstorm ideas and discuss what both parties want to gain in this partnership. We also recommend exploring how you can reach your goals with the help of one another.
Determine Your Buying Power
Now that we’ve outlined the goals your partnership should achieve, it’s time to think about how you can achieve them by determining your buying power.
It’s best to consider what you and your investors could contribute to your prospective investment. We also recommend discussing how both parties can help one another fill gaps in their capital.
By evaluating your partnership’s buying power, you’ll have a much easier time determining the kind of assets you and your partner can invest in.
Start Investing With A Trusted Partner Today
Ultimately, finding a partner you can trust with your investment can be challenging. But if done right, it can be an extremely rewarding process that can get your real estate portfolio off the ground.
And if you need help with properly structuring a real estate partnership, you can seek the professional help of NCH’s business formation experts. Learn more about the different entities real estate investors can explore by visiting our website.