[00:00:00] ANNOUNCER: Welcome to The Real Estate Syndication Show. Whether you are a seasoned investor or building a new real estate business, this is the show for you. Whitney Sewell talks to top experts in the business. Our goal is to help you master real estate syndication.
And now your host, Whitney Sewell.
[0:00:24.1] WS: This is your daily Real Estate Syndication show. I’m your host, Whitney Sewell. Today, our guest is Jeff Lerman. Thanks for being on the show again Jeff.
[0:00:32.3] JL: Thank you for having me.
[0:00:33.9] WS: Jeff was on the show 335 where we covered many things about this thing, you know, a lot of people call it JV, and what that is. I would encourage you to go back and listen to that show if you don’t know what that is, you know, just by hearing that, but it’s joint venture. We really talked about the differences in joint venture versus syndication and why you might use a joint venture versus a syndication type of structure.
Jeff laid out many things there that are very important and we’re going to cover some of those initially in the show and then we’re going to move on to some other terms and some other things that need to be in that joint venture agreement that are very important for you to know. A little about Jeff quickly, he’s established a nationwide reputation as “The Real Estate Investor’s Lawyer,” he helps investors nationwide with their transactions.
Clients tell him that what sets him apart from other real estate lawyers is that Jeff is also an investor and he uses investing experience to arrive at move practical, creative, and effective solutions. I think that’s a great quality about an attorney that’s on your team as well is that they are also an investor and when you’re vetting an attorney or CPA, or whoever that team may be, that’s something I’m going to ask. “Do you invest in real estate? What’s your experience?” – I think that’s an important piece that Jeff brings to the table here.
But Jeff, thank you again and I’m looking forward to getting into this topic and some of these terms and disagreements that we need to be thinking about. Before we do that, let’s recap just a little bit and like why is this important for investors to know just about, you know, JV, why is this so important?
[0:02:11.1] JL: Again, of course, we’re going to capitalize this and not go through everything all over again, there’s just a tiered up. It all is under the umbrella of doing deals with other people’s money. What I explained the last time we’re together is although we help investors with syndication, what I always explain to them is that why I believe that joint ventures is the cheapest, easiest, fastest and safest way to do deals with other people’s money.
The reason is because what a joint venture means is that, like, if you and I want to do a deal together and if both of us are actively engaged in the management of that deal and if we’re both equally sophisticated in terms of real estate, generally speaking, and if neither one of us is relying on the efforts of the other to make a profit, it really is a collaborative thing. To break it down, it’s as simple as “Hey,” if you and I are buddies and we’re driving down the street, as saying “Hey, that looks like an interesting building, you guys want to buy it?”
We buy it together and we say, “Sure, let’s do that.” You put together an agreement and that is something again that we’re both going to be involved with, that’s not a security because neither one of us is a passive investor. Both of us are going to be active. That’s the difference between a joint venture and a syndication. In general, a joint venture costs a fraction of legal fees that a syndication would require and it is a simpler set of documents and it is in my opinion the faster way to do deals because it’s having a conversation and an ongoing relationship with one or two or three joint venture partners, instead of multiple investors that you would have in a syndication.
That was why I thought that this was an alternative to syndication that your listeners need to know about, need to understand, and at least consider it the next time they need a deal. And actually don’t wait until you actually have a deal under contract before you start trying to find a joint venture partner. It should be something that investors have always in the back of their mind and when you run into somebody, at a networking event, or somebody who you think might be a
good candidate because they have enough wealth to actually help take down, provide all the money you need, or at least a good chunk of it.
Start setting up that relationship then so you have that database of potential joint venture partners ready to go and all I got to do is pick up the phone. That’s the – I think the essence of what we covered in the last interview.
[0:05:06.5] WS: Yeah, I think you hit a couple of important points there that are worth saying again, that you’re not relying on the other partner to make the profit, and that you’re both active. Obviously, in syndication, we have limited partners who are completely passive and they are – they’re depending on the general partnership to turn this property over, whatever it is, to go through the business plan and make the return but they don’t play any kind of active role and so that’s why we have to syndicate, that’s why we’re syndicating.
This is such an important topic because it may not always be necessary and that’s why I want the listeners to know about this as well and it’s such an important topic. You know, going-in to thinking about joint ventures, what type of documents do these partners – what are we going to use as far as with partners, to set up disagreement?
[0:05:56.3] JL: I want to answer that but I also want to add one more thing to that last point which is your primary need does not have to be that you need money for your deal in order for a joint venture to make sense. As a matter of fact, there was an article in the Wall Street Journal that was talking about how family offices being defined at least in the journal as a multigenerational ultra-high net worth family that invest in real estate.
The article is saying how the growing trend for family offices is to be doing more joint ventures. Not because they need the money. The money isn’t the reason, they do it to diversify the risk, to partner with somebody who might be a good strategic partner for reasons beyond money, if they want to find a partner who has got expertise that they don’t have, whatever.
For those listeners who are saying, “Well gee, I don’t really need the money,” even if you’ve got all the money you need, there are a lot of family offices, or just you know, wealthy individuals who joint venture for other reasons which make a lot of sense. Anybody who is listening to this,
you can use a joint venture to solve a lot of problems and get a lot of benefits other than just, if you need money.
Having said that, to go back to your question, what kind of documents? Let’s contrast this, stay with the contrast for a second between syndication.
[0:07:22.7] WS: I wanted to say too, that document that you’re talking about, it would be great if you share that in the group, I’d love to read that and I’m sure others that are listening would like to as well in the Facebook group.
[0:07:31.0] JL: You mean, the actual document that we use?
[0:07:34.3] WS: No, the Forbes, was it a Forbes –
[0:07:36.3] JL: The article? Yeah, the Wall Street Journal? Yeah, I’ll email it to you right after this, okay?
[0:07:42.5] WS: Yeah, that would be great, and we’ll put it in the group. I’m sure the listeners would like to listen to that and the Real Estate Syndication Show Facebook group. Yeah, go ahead with the documents that those JV partners need to be thinking about.
[0:07:53.6] JL: Generally and typically, if you were doing a syndication, let’s say you were doing a Reg D 506(b) accredited investor only offering in a syndication, which when I syndicate, that’s all I do, that’s the exemption that I use. I do only accredited investors only, that’s my preference, you can do non-accredited too but my preference – that’s the simplest form of syndication.
If you do that, you’re going to need a PPM, private placement memorandum, which is going to include subscription agreement and all the disclosures and the business description of the business, the real estate, whatever is involved in the actual deal, you have the investor suitability questionnaire, you’ve got all of that and then you’ve got on top of that Form D and registration statements, all of that.
Those are just the typical things that you’re going to have at a minimum. For joint venture, all you need is one document and if you’re like most joint ventures in the United States today, that one document is going to be LLC, operating agreement, a limited liability comp, you do a limited partnership instead, if you want too, but then in that case, it’s going to be a limited partnership agreement. Those are the two usual ways to do a joint venture, you could also take a tendency and common agreement and that’s possible to create if you want to do it, we can talk about why that is an alternative.
If you’re going to do a TIC instead, it’s going to be a TIC agreement. It’s only one document, not all those other documents to have to worry about. You can do a joint venture worth a non-accredited investor, you don’t have to worry about all the other things that I just listed before. That’s the document that’s going to be either – one document is going to be one of those documents. A lot easier, a lot simpler.
[0:09:50.4] WS: Yeah, that would be very simple or much more simple, if this makes sense for the type of deal and how you’re partnering with somebody but you know, there’s got to be terms in this agreement, right? How do we reach the best terms with a partner, with a JV partner, how do we discuss those to reach the best terms for everybody?
[0:10:07.9] JL: Great question. So, at the end of our time here together, I’m going to tell your listeners how they can get a much more detailed answer to that question in writing for free that I prepared. I don’t want to spend, we don’t have enough time for me to go through. I have an ebook called 17 Steps To a Successful Joint Venture.
What I thought we should do for purposes of today, is let’s hit on the four or five in my opinion, single most important terms or issues for discussion when you are putting together an agreement with your joint venture partners. Let’s just focus on those.
[0:10:47.8] WS: Sounds good.
[0:10:49.9] JL: One of the first things that we talk about is, what is the best business relationship for us to work together? Let’s uses you and me as our hypothetical perspective joint venture partnership and let’s say that my main reason for coming to you is because I need
money. Yeah, we could do a joint venture where you could be bringing some or all the money in and whatever but if all you’re doing is bringing the money, we could also have a lender-borrower relationship.
We can cut a deal where we just do a private money loan and that’s how we can get the benefit of our relationship. You can get what you want, which is a return on your investment, not as much as if we were partners theoretically but that’s one way we could work together. The other possibility is to put it together where it’s an active investor and a passive investor. If you really want nothing to do with it. In which case, it would end up being a syndication.
It’s a conversation that should take place at the front end to make sure that both parties are comfortable that doing a joint venture, which is going to be different than the other two options, is something that really makes sense for both parties. That’s the first thing that people should be talking about.
The next term – and if you have questions about any of this, jump in, because I was just going to go through these in sequence, okay?
[0:12:16.6] WS: No, it’s important to understand our relationship in this business that we’re embarking, right? I mean, we’re jumping into this thing. I need to know what your plan is for this partnership and you need to know what mine is as well, or how we’re going to have the best value.
[0:12:30.1] JL: Exactly. Then the next question is, what is the best form of ownership for us? Let’s assume that we have gotten past that first talking point and we say “Yeah, let’s do this, we want to do this and both be actively engaged.” We still have choices to make. One choice which I’ll mention, not because I recommend it but because in case anybody thinks it’s an option. General partnership, you could do a general partnership, I can’t imagine a scenario where a general partnership would ever make sense.
Because in a general partnership, if that’s what you and I did, we would both be individually fully responsible for all of the liabilities of the partnership and there’s no asset protection there, it
makes no sense. I can’t remember the last time I did – certainly that I did a general partnership and every general partnership I’ve seen in the last two decades has been a limited partnership.
It would be a limited partnership or a limited liability company. Limited partnership or limited liability company. Limited partnership in a joint venture doesn’t really make much sense because there has to be a general partner and limited partners, it’s an option, but again, it’s difficult for me to imagine a scenario where that made the most sense. That leaves two other options, an LLC or a TIC.
Limited liability company is the most common, most popular way for joint venture partners to do a deal together. A TIC is again, a TIC is common, the main reason partners end up doing a TIC and I’ve done this, I’m doing this with deals I’m involved with now, I’ve done this in the past is when you should have a conversation at the beginning saying “Okay, when we exit this and we sell, do we want to have the flexibility to be able to do a 1031 exchange and go our separate ways or stay together?”
No matter how strong the partnership is on day one, it’s not a bad idea to do a TIC, so you do have that ability to go your separate ways, not because there’s a problem in the relationship but for whatever reason. You may have reasons that you want to take the money now, or you might not like the next deal that I find or vice versa. If you want maximum flexibility in a joint venture, a TIC is the way to go in which case again, you’ll end up doing a TIC agreement instead of an LLC.
That’s an important conversation to have up front and if you don’t have that conversation up front, you can still start with an LLC and do a TIC later, but it is a hassle to have to change it later and if you are going to change it later, generally, you have to change it at least one year before you sell, otherwise, you cannot do a 1031 exchange.
It’s good to be proactive and forward-thinking and this is the time to have that conversation up front. That make sense?
[0:15:39.8] WS: Yes, it does. I know I’ve learned the hard way that every partnership is going to end. Whether that is a year from now, five years from now, whether it’s death, you know. I mean
it’s going to end and before this partnership is – before the LLC I guess is completed, you need to decide what happens when you exit, how are you going to exit, right?
Another question I had for you there. As far as you know as this LLC, do you recommend say my LLC and your LLC have ownership in this new partnership that we are having, or it doesn’t matter? Should it just be me and you personally who own this entity, or should we have our own personal entities that own this entity that we’re forming together?
[0:16:19.1] JL: It could go either way. It really boils down to asset protection and that was my next point, that if you are considering a TIC you still have the asset protection issue and so you can do it one of two ways. Well, I will tell you the way that I would do it. So, I would do it where you set up your own LLC and I set up my own LLC and they’ll both be single member LLC’s and then together – and then we form another LLC where those two LLC’s can both –
Although actually, if you want to do a true 1031 exchange you really have to just keep them separate. So, it will be your LLC and my LLC and then we’ll have a TIC agreement where our two LLC’s are parties to that. So that is the way to do it if your main objective is to keep that flexibility to go your separate ways in a 1031 at the end.
[0:17:17.5] WS: Okay, so if we are going to do a 1031, we can have our own entities but then those entities are going to do a TIC so that way we can do a 1031.
[0:17:26.2] JL: Right and you do need to have an entity in order for you to have asset protection. So, you don’t want to go into a TIC in your individual capacity, okay? So, the next question is, who will be doing what in the deal? One of the biggest – I do transactions as well as litigation and one of the biggest disputes, so we handle partner disputes and we’ve handled our fair share. Partner disputes, everybody wants to avoid disputes in general.
But you especially you want to avoid partner disputes just because when it comes to real estate they tend to be more complicated and expensive to resolve just by the very nature of the fact that it is a venture involving real estate, and if we are talking commercial real estate, the dollars involved are high and so the litigation costs tend to be high. So, what you want to do is you want to manage the partner’s expectations from each other.
That is one of the biggest causes of disputes is, “I thought you are going to be doing this fulltime. I didn’t realize that you’ve got 50 other things to do and all you were actually going to be doing is just putting in money and you’re only going to help me out with this one part, but I am doing everything else.” So, in general, whatever the specific facts are, a big reason for the dispute is the partners were surprised that the other side didn’t do what they expected them to do.
And so that is really important to have that conversation and that connection, details and specifics are critical, so break it down what is every part of this. Who is going to get the loan? Who is going to be getting the property management company? Who is going to manage the manager? Who is going to whatever? Whatever it happens to be, if it is the development deal you break it down even more. So, who is going to be doing what in the deal?
If services are involved, you got to quantify both in time and or money, what is expected whenever possible and if the professional services are going to be involved, you’ve got to be clear as to whether additional money is going to be paid for those services. Let me tell you what I mean by that. So, I am a lawyer, let’s say that you are a mortgage broker. So even if I wasn’t a lawyer and you weren’t the mortgage broker, the deal would most likely need legal services and would most like need a mortgage broker to get the loan for the deal.
So, one way or the other, the deal is going to have to pay for those things. The question is if each of us put the side that we’re okay with each of us being the one to handle those particular tasks, we are going to provide our services. Yours as a mortgage broker, me as a lawyer. We can’t assume that the other side understands that and understands under what terms that’s going to be.
That’s a conversation that has to take place, “Are you okay with me being the lawyer? Am I okay with you being the mortgage broker and if so, how much am I going to charge that you’re going to be comfortable with and vice versa?” A lot of times a common error I see is that at the beginning of the deal, the partners and because they’re trying to be good people and nice people and get it off in a good start will say, “Don’t worry about it. I am happy to do it for nothing. I will throw in my time for the deal, whatever.”
And I discourage that because it is difficult sometimes to tell how much time it is actually going to take and you really might be selling yourself short when you all of a sudden have realized that you have spent tens of thousands of dollars of your time on this part of thing and you are doing it for nothing. So, it is a conversation that you should have with yourself, first of all, and then with your partner. There is no right or wrong answer. It is totally up to each of you, but it is going to be clear as to who is doing what.
And how much if you are going to be providing services that you would otherwise need for the venture, how is that going to be handled? Are you going to pay? If so, is there going to be a good discount so the other side feels like they are not being treated completely as a retail customer.
[0:21:38.5] WS: Those can be some hard conversations that you want to be thinking about. Okay, you as an attorney, the normal time you would spend and you might charge more than whatever I would be doing to add value here, like say per hour or something like that, right? I mean if you are billing somebody. So it could be a hard conversation, but I would say it is never going to be easier to have that conversation than it is before you have actually partnered.
[0:22:00.5] JL: That is exactly right and to that point, the other thing that I recommend, what I do whenever I am working with prospective partners what we do at the very beginning is I say, “Let’s get in a room together” in my conference room, or if we can’t do it in person let’s do it like you and I are doing it, like on the Zoom call, and get on a video call where everybody can see everybody else and let me talk you through all these issues and the issues, again, are issues that are going to be addressed in The 17 Steps To a Successful Joint Venture.
And I start off giving them a worksheet to begin with but then once they give me the answers, I say “Okay, let’s get together, let’s talk through this stuff now that you guys have had a chance to think about it and talk about it,” whatever. The reason I do that is because I have been doing this for 39 years and number one, I am objective, and the prospective partners are not. They are excited about the opportunity. They are excited about working together and that clouds their judgment, or it can cloud their judgment.
And so I, as an objective neutral, can see things in the way they are communicating that they may not either see or they may not want to acknowledge. So, as we talked through tough
questions like the one that you just mentioned, and the others we’ll be talking about the rest of the time we have together here. I like to see how they communicate on the tough issues to see if it looks like they’re going to be able to communicate well because this is a business marriage.
A joint venture is a business marriage and the most common way that that business marriage starts to unravel, or the first sign of a problem, is an inability to communicate effectively. I have on more than one occasion, I have told prospective partners right there during that meeting, I tell them upfront. I say “I want to do this together. I am very transparent.” I say “This is why I think it is important for us to all be talking and I am going to tell you if I have concerns,” and I do and I said:
“Look you guys can do what you want to do but I am telling you because of the way that you guys are not able to discuss this issue in a constructive way and judging by the way you guys are relating, I think you may want to rethink if this is a good fit for you.” So, that is I think a really important way to start off, whoever is thinking about doing it, whoever your lawyer is, if you want to work with us great. If you don’t want to work with us hopefully you can find a lawyer who takes that approach because I think it is important for you.
[0:24:36.2] WS: Very important, yeah this is just some great points and like I said, I’ve learned the hard way before, you know and these things just seem so relevant to doing any type of deal really even if it is syndication, there’s things that you hope that we talked about before we actually go into this partnership. Before we run out of time Jeff, you know I’d love to know some more of just the important terms that the listeners need to make sure that we address in that agreement when we are doing this joint venture.
[0:25:01.9] JL: Okay, tell me how much more time we have, and I’ll be able to tailor my comments appropriately.
[0:25:07.4] WS: Yeah, probably about three to four minutes, something like that.
[0:25:10.1] JL: All right let’s go through it quickly then. The next really important point is cash calls, if you need more money. Okay, super important point. I’m never ceased to be amazed about how many times I will see an operating agreement where that issue is not addressed. So,
you’ve got to talk about it. It is a multi-layered issue. Is it required or not? If it is required, to who, who decides the procedures, the timing, the consequences, if somebody doesn’t come up with their share of the money and then is it going to be loan or capital contribution?
If it is a loan, is the loan to the entity, to the member, what are the terms of that loan, at what point is there a delusion because somebody didn’t pay off a loan and at what point should a venture be terminated? I suggest they set a cap on the amount of the additional money. At what point do you have a doomsday scenario where you reach a certain point where you just say, “We’re going to sell because it goes beyond either of us are willing to put in.” So that is the other term.
Two other quick terms is, what are our exit strategies? You’ve talked about it before, what do you do at the end? So, the exit strategies, that refers to a buy-sell agreement where there are certain triggering, what we call triggering events. The typical triggering events are death, disability, withdrawal, expulsion, bankruptcy, or divorce. So, it is important to have a buy sell provision and discuss it in terms of what happens if the unexpected happens?
Death, disability, withdrawal, expulsion or bankruptcy or divorce, so very important to discuss that upfront and finally, litigation. It is important to do a – I do a background search and a litigation search on every prospective joint venture partner I have. I friend of mine wanted to do a deal together and I told them I’d do this at the meeting and I asked him if he had been involved in any litigation and he basically said, “Just a couple of things, nothing major” and I said “Great.”
And then I went back to my office and I did a litigation search on him and I found there were 69 lawsuits that he was a party to as a defendant, or a plaintiff. I told him, “There is no way I could ever do business with somebody who either gets sued that often, or who feels so comfortable going to court to resolve disputes.” So, I passed on the deal and those at a minimum are the most important issues that need to be discussed and agreed upon in an agreement.
[0:27:38.7] WS: That is a great example there as well. Would you have had any idea about that if you hadn’t have done that background check?
[0:27:43.8] JL: Absolutely not.
[0:27:44.7] WS: Wow.
[0:27:45.2] JL: Honestly, you can do that kind of litigation search depending on what county and what state you’re in. I did it in less than five minutes and it didn’t cost me a penny.
[0:27:54.3] WS: Wow, great information. Unfortunately, Jeff we are out of time, but I know you were just on the show, 335. Again, I encourage listeners to go back and listen to that where Jeff really laid out the differences in JV or joint venture versus syndication and why you should consider a joint venture sometimes versus syndication. So, I encourage you to go back and listen to that. I encourage you to reach out to Jeff but before we close it up, tell me again how you like to give back and then tell them how they can get in touch with you.
[0:28:21.9] JL: Yes, okay so first of all our website is Just Who You Are, you’re all real estate investors if you are listening to this so it is Real Estate Investor Law, so just add a law at the end of who you are, realestateinvestorlaw.com and if you go to our website, right there on the home page at the top in the center, you will see several free resources that we have for you. Two that you might be interested is 17 Steps To a Successful Joint Venture and the other is an article I wrote, 12 Warning Signs You Are Headed for a Lawsuit with Your Partner.
So, if you download those and take the time to read through them, you will really understand more than 95% of people who haven’t read them understand about how to set yourself up for success, mitigate the risks of dispute, and have a successful joint venture.
[0:29:22.6] WS: Awesome, great Jeff. Thank you so much.
[0:29:24.5] JL: Okay, thank you very much.
[0:29:27.2] WS: Don’t go yet, thank you for listening to today’s episode. I would love it if you would go to iTunes right now and leave a rating and written review. I want to hear your
feedback. It makes a big difference in getting the podcast out there. You can also go to the Real Estate Syndication Show on Facebook so you can connect with me and we can also receive feedback and your questions there that you want me to answer on the show.
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[END OF INTERVIEW]
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