Diversifying your investment portfolio may have led you to research the real estate investment market. If you’re wondering how to structure a real estate partnership or real estate investment vehicle with general and limited partners, examples include a real estate limited partnership (RELP) and real estate investment trust (REIT). A properly structured real estate investment partnership can increase your cash flow and provide you with new investment opportunities.
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A real estate partnership is essentially a business entity formed to pool resources to invest in a real estate development project. Most property partnerships are formed alongside a real estate attorney with experience advising investment groups. Many real estate partnerships are formed for purchasing property, though others are rental property partnerships as well.
There are various types of real estate investment partnership structures. These are creatures of state law, though the main characteristics of each cross state lines. Nonetheless, for those conducting business in Florida, it would be worthwhile to review the Florida real estate commission rules.
Before discussing the RELP more in-depth, consider basic corporate structures. Generally, a real estate investment group could use business structures to form any type of customized partnership entity.
A partnership may be “active” or “passive.” In an active partnership, all members actively work on the investment project daily. For example, each partner’s duties could play up to that partner’s particular goals. One partner could manage investment strategy, another could handle property management tasks like rent collection and bill payment, and a third could facilitate maintenance and repairs.
On the other hand, in a passive partnership, most partners – except the general partner – are silent partners with no other duties than contributing capital. This is beneficial for individuals who want to establish a real estate portfolio that produces distributions but who don’t have the expertise to control daily operations.
Other business formations include:
A real estate limited partnership structure minimizes the liability of the limited partners – but not of the general partner. A real estate limited partnership (RELP) is a type of real estate investment group (REIG) where the partnership works to invest in purchase, development, and sale and/or leasing of real property.
With an LP in real estate, there is a general partner who assumes all liability. There also must be at least one limited partner. These limited partners act as passive investors who are liable only as a proportion of the capital they contribute. In exchange, the general partner usually receives a higher percentage of the profits and may charge management fees anywhere from 1% to 3% or more for performing decision-making duties.
RELPs also offer significant tax benefits. For instance, the partnership itself is not taxed – the income passes through to the members. Instead, the individual partners must file partnership income on IRS Form 1040 (if individuals) or IRS Form 1120 (if corporations). The partnership still must file form K-1 to report the earnings of the group.
Primarily, real estate limited partnerships enable investors to diversify their portfolios. Rather than allocate investments among stocks and bonds, RELPs provide a mechanism to invest in the real estate business for those well-versed in real estate and beginners alike.
A real estate LP also provides an added layer of legal protection for investors. The assets of limited partners are protected from claims against the real estate investment business. So long as the limited partner’s assets are not part of the LP business structure, they’re generally untouchable by legal claims.
Finally, becoming a limited partner in a real estate investment requires no advanced skillset or knowledge about real estate deals. Instead, limited partners can be passive investors who simply contribute capital.
If there are limited partners, then what is a general partner in real estate investments? A general partner usually has some type of vested interest in a limited liability partnership because they provide a larger portion of working capital.
Other responsibilities include:
In exchange for performing these tasks, the general partner receives a greater portion of the investment returns. However, they are subject to greater liability. Therefore, it’s important to perform due diligence before becoming a general partner.
However, our due diligence real estate checklist will benefit both general and limited partners.
In a limited partnership, you have to have a general partner and at least one limited partner. What does each look like?
Frequently, the general partner (GP) in the RELP is a corporation. This could be as simple as a corporation named “Real Estate Property Developers.”
The GP could also be a group of individuals. Such a group could form a contractual agreement where each person is subject to the general liability of the RELP.
Finally, the general partner could be an individual. Remember, though, that the GP is subject to the entire liability of the RELP. It may be more common for an individual to be a RELP‘s GP when they have significant capital, a working relationship with the other real estate investors, or their other partners are family members.
As noted above, limited partners in the business partnership have limited liability. Such limited partners are usually individual people. However, it’s not uncommon for the limited partner to be a business entity as well.
To create a real estate partnership structure, you‘ll likely need to work with a real estate attorney. However, there are several steps you can take alone and with your potential partners on the front end. To learn how to invest in real estate with a partner, consider searching for business partners who already have some understanding of the industry.
At the outset, consider what you know about investment properties, commercial real estate, and the real estate industry. Would you truly work well in a partnership, or are you better off alone? Perhaps your capital constraints or business expertise lends itself more to one or the other.
Also evaluate your strengths and weaknesses. The better you can understand each, the easier it will be for you to find partners who enhance your strengths and account for your weaknesses.
Once you’ve determined the types of partners you need, identify actual partners to form your RELP. These may be individuals in your professional network, family members with commercial real estate experience, or local business owners with whom you have a relationship.
Discuss with these individuals your business goals, measures of successes, and the timeline for a deal. From here, develop a verbal agreement.
There are many methods for how to structure real estate partnerships. As noted above, you could form a limited liability partnership, a limited liability corporation, a sole proprietorship, or a real estate investment trust (REIT).
In any case, a real estate attorney can help you draw up the paperwork. In most states, a partnership must operate under a valid partnership agreement. If there isn’t such an agreement, the state may have default rules that it would impose. Your own partnership agreement terms would likely be more favorable than a state’s default rules, so it’s to your own benefit to create a strong agreement.
The main reason you entered this partnership was to derive investment income. It’s important to decide on the partnership splits as part of the partnership agreement because this can become controversial if left undefined.
The actual splits you decide could be quite complex, which is why a financial or legal professional would be important. Generally, a general partner will take a larger percentage of the returns because of their larger share of responsibility and liability.
After the GP’s customary share, the remaining profits are usually split according to each partner’s ownership interest in the RELP or as a proportion of their capital contributions.
In any case, you must understand how you will be paid.
Whoever you choose as your real estate investing partners will affect your bottom line: your return on investment. You want these people or the people behind the corporations to be those you can trust and communicate well with in the event of a negative experience. These should be partners with whom you could avoid real estate mediation.
To choose your real estate partners:
Investing in a RELP or other form of real estate investment partnership is a great way to diversify your investment portfolio. During times of inflation, real estate may even hedge your losses in other securities classes. If you’re contemplating whether or how to create a real estate partnership, our experienced attorneys can help.
Partners in real estate projects work together to derive profits from a real estate venture. If you want to diversify your investment portfolio, investing in such a real estate group would be valuable.
These groups include real estate limited partnerships (RELPs), real estate investment trusts (REITs), and other corporate investment structures. When you decide to form a partnership, remember that you need to create a partnership agreement. This agreement will govern everything from adding new partners to dissolving the group.
Working with a real estate attorney and/or financial advisor during this process is also helpful. This is especially true if you are involved in a lis pendens Florida action.
Whether to partner up for your real estate investment depends on your experience and desired outcomes. If you have the knowledge and wherewithal necessary to run a real estate business, you may not need a partner. But if you want to be a passive investor, a partnership could be great.
To find a real estate investment partner: (1) identify your own goals, strengths, and weaknesses; (2) consider your family members with relevant experience, those in your professional network, and local business owners; (3) come to a meeting of the minds with each potential partner and create a partnership agreement.
The partners own the property in proportion to their capital investment. For example, imagine an LP with one general and two limited partners. The GP provided the half of the capital, and the LPs each provided one-quarter. The GP owns 50% and the LPs own 25% each of the property.
