Partnership Pros & Cons
Disclaimer: This is designed to provide general information regarding the subject matter covered. It is not intended to serve as legal or financial advice related to individual situations. Consult with your own CPA, attorney, and/or other advisor regarding your specific situation.
Partnerships are a great way to reduce risk, share responsibility and have an ally in your real estate adventure. For some, it helps accelerate the investing process and creates lifelong friendships. For others, it becomes a burden and like a summer fling, it’s good while it lasts, but ultimately needs to end.
Like any great relationship, partnerships work best when each side has complementary strengths. We entered a partnership when we decided to pursue short-term rentals. We had capital we wanted to deploy and wanted a partner to manage the property, including the rental process. We found investors that had been renting to traveling nurses and we thought their experience, coupled with their network, could be a good fit for our goals.
A huge piece of this is finding people that have the same values and that you trust. A business relationship is a relationship. You have to cultivate it and check in so you continue to be in alignment and understand any concerns or challenges the partner(s) may experience. It also requires setting up guidelines, expectations and division of duties.
How to Enter a Partnership
The first step to creating a partnership is finding that person or people that you want to enter a business relationship. Roofstock advises preparing for the discussion the same way you would for a job interview. You can also look at it like getting ready for a first date. While you are trying to sell yourself or a business plan, you are also evaluating a person or group based on how they complement your strengths, weaknesses and goals.
Once you’ve determined that you’d like to partner, you need to flesh out who is responsible for what, expectations for each role, how much money each group is contributing and how profits will be distributed. While these are some of the most important items, a lot more pieces of business need to be discussed and documented. It is highly recommended to consult a real estate lawyer to draw up an operating agreement and consult a financial advisor. These professionals have experience and templates to help you create a successful partnership.
Professionals can also help you decide what kind of partnership to create under what kind of entity whether it’s a limited liability corporation (LLC), an s-corp or if you should create a partnership or limited partnership.
Now, I have said several times that this is a relationship. The last and probably one of the most critical items that an operating agreement should outline is what to do if things go wrong. This is how to manage a “break up” to prevent emotions and expectations of what happens if one or both parties want to discontinue the partnership. It’s the pre-nuptial side of the relationship that keeps both sides in line from making unrealistic claims. It also provides the guidelines of what steps to take to initiate the end of a partnership. While it sounds all doomsday and like you’re preparing to fail, it’s one of the single things that will make life a lot easier if the partnership you created ultimately does not work out. It’s a lot more civil to point to a document as dictating terms than at your partner, especially if things go sour.
Why Not Enter a Partnership?
One of the most obvious reasons to NOT enter a partnership is because you have to split the profits. However, the flipside is: could you be as successful without the person or team you plan to partner with?
Another is expectations. Will your partner do things in a way that you can live with? Yes, you will have an operating agreement in place that outlines what each side is supposed to do. The nuance is how each task or responsibility is handled. You may be more tech savvy and have all the business filed in a cloud such as Google drive, but your partner may keep receipts and invoices in paper form in a cabinet at his or her house. Your partner may like to do regular check-ins in the form of monthly or weekly meetings while you think a quarterly meeting would suffice. Some of these things you can discuss beforehand, other things you will find out along the way. It’s important to ask as many questions to both yourself and your potential partners to learn about working styles, preferences and means and methods.
A partner provides another voice or an opinion when it comes to making business decisions such as whether to switch real estate strategies (BRRRR, short-term vs. long-term rentals, flip etc) or what repairs to proceed with if an issue comes up at a property. Even with terms laid out for decision-making, sometimes it may wrankle the relationship if the choice voted on is not inline with your beliefs.
Keeping an eye on the business whether it’s how much money it’s making or if operations are running smoothly is the responsibility of everyone in the partnership. While one party may specifically take care of the books, the other should review it or have a third party bookkeeper do so to prevent any wrongdoing as well as human error from mudding the financial waters. It keeps everyone in check, but it doesn’t prevent hard feelings.
Another important consideration is that you can never know when a partner may want out. This can be because they want to invest elsewhere, start a different business or have some life changes that don’t allow for the time or desire to continue the partnership. You may see the business running well and be excited for it to grow. However, if you cannot take over your partner’s end, in the event the person or group wants to dissolve it, it can make the end of a chapter in your real estate investing.
These are the basic considerations when thinking about a partnership. Chad and I did enter an agreement for one that ultimately ended after two years. I’ll do a case study on ours and some more successful ones in future posts so you can see the lessons learned and best practices, should you decide a partnership is right for you.
Have questions or a partnership experience you’d like to share? Email [email protected]