The 3 Biggest Mistakes Commercial Real Estate Investors Make When Taking On a Partner

Nov 7, 2016

At some point in your career as an investor, you’ll want to take on a partner.

There are numerous advantages to taking a commercial real estate investment partner, even if you’re a seasoned investor. In addition to the obvious benefit of splitting the financial burden, each partner can take advantage of the other’s expertise to expand into different niches; the risk of investing in a particular property can be shared between them, and many more.

Despite these advantages, taking on a commercial real estate investment partner can have serious financial consequences if you fail to set up several safeguards beforehand.

In the article below, I’ll share with you some of the most common mistakes even experienced investors make when taking on a commercial real estate investment partner.

Not Choosing A Business Structure That Fits Their Investment Goals

Whether you and your partner create a limited liability corporation (LLC), a limited partnership, a corporation, or simply agree to work together, each type of partnership is legal in the eyes of the law. However, the level of liability for each side differs greatly depending on the type of structure you choose.

commercial real estate investment partnership

While most investors realize there are advantages to setting up an official business structure, it’s not uncommon for deals between two individuals to take place under less formal circumstances.

Let’s say, for example, that you find a great deal, but would like the advice of another investor. Upon asking the second investor, he decides he’d also like to get involved, and although he is less experienced than you, is willing to use his contracting experience to help renovate the property.

Even if you never sign a formal partner, he is legally considered a partner, and both of you will be held liable for each other in the event of a problem.

If at some point he has a car accident while on the way to deposit proceeds from the property in the bank, the pedestrian he hit and injured can sue both of you for damages. Since he was on a work-related errand, and you are his partner but you have not shielded yourself from personal liability, both your other commercial assets and your personal assets can be seized.

The best way to avoid this is to set up a formal agreement between you and your partner as soon as both sides have agreed to work together.

The best business structure to set up right now is a series LLC. The series LLC allows you set up a master LLC and individual series LLC for each individual property. Each LLC is completely separate, with its own name, address, letterhead, bank account, etc. This is advantageous for both parties because it allows you to work with as many partners as you wish, yet set up conditions that are specifically suited to each person.

Hiring The Same Lawyer

Most investors would never even consider using the same lawyer as the other party in a deal, yet many partners fail to consider the fact that often, maintaining the same lawyer represents a conflict of interest for both sides.

partners fail to consider that maintaining the same lawyer represents a conflict of interest for both sides

Although both partners are on the same side in most instances, there will be occasions when the goals for each may differ, requiring things to be worked out by a competent party committed to his client’s goals.

For example, what happens if you want to use the profits of a property and put them straight into 1031, while your partner would like to withdraw the funds? Or what if you’d prefer to sell the property as soon as there is some equity, while your partner would rather hold?

A lawyer working for both sides is unlikely to work as hard to secure his client’s interests.

A better idea is to share a lawyer who represents the partnership while retaining a different lawyer who will represent each partner’s interests. When the need arises, both partners will have access to a representative who is fully committed to solving the dispute.

Not Complying With Securities Laws

If for some reason you and your investment partner decide to bring in a new partner, you might find yourself being prosecuted for breaking a wide range of federal and state securities laws. That’s because a partner who contributes only money is considered a passive investor in securities laws, whereby very specific regulations come into play.

And although you may be able to get an exemption in some areas, you will all fair better if certain legal provisions are made beforehand, including ensuring you have the documents needed to show compliance.

Cooperating with a partner can lead open up new opportunities for investment partners who choose to work together. In order to take full advantage of the benefits, it is a good idea to consult with an experienced broker and a lawyer to make sure you protect yourselves from expensive mistakes.

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