What do you do if you have found a life changing deal but don't have a down payment? Or perhaps you have some money but would like to leverage it into several deals. What do you do? Raising private money for commercial real estate investing is the answer. Discover 4 reasons to raise private money, tips on how to choose a partner and maintain a good working relationship, and 5 qualities your deal needs to attract private investors.
What is Private Money?
Private money is money lent to you by an investor secured by real estate. In other words, an investor gives you money to use as a down payment so that both of you can buy a property and benefit from it with minimal risk for both partners because the loan is secured by the property.
Who Can Be an Investor?
An investor can be anyone; your relatives, friends, co-workers, ex co-workers, accountant, attorney, your workout partner, or your neighbor. This investor can be a passive partner and just receive a return on investment, meaning they just give you the money and you do all the work. Or they can be an active partner who is participating in the day-to-day operations along with you.
4 Reasons to Raise Private Money to Invest in Commercial Real Estate
- Private money can be the source of your down payment: If you don't have a down payment or you're short, that's where private money comes into play. You can use that money to fill the gaps.
- It helps you leverage into more deals: Perhaps you have money saved up but you don't want to use it all so that you can invest in more properties. You can leverage those savings by using 25% of what you have and then raise private money for the rest of the down payment. You can then repeat that process and do more deals with the same amount of money.
- Private money is not credit dependent: You don't have to have a 700, 800 FICO score to use private money and you don't need to high net worth. You don't need to be super rich, however what you do need is a good deal because private money is deal dependent. So, the better the deal, the easier it is to raise private money.
- Grow your commercial real estate business faster with private money: I have a perfect example below of how private money can accelerate the growth of your commercial investments. Takashi and Rae are students of ours. Under our mentorship, this lovely couple have raised private money and purchased a property with an active partner. Their goal is to double their cashflow in one year.
How to Raise Private Money for Commercial Investing
Meet Takashi and Rae
Takashi used to work for one of the largest Japanese trading companies. He left his job last year to invest in commercial real estate full time because his real estate investments were growing and he wanted expand. Rae previously worked for a Japanese real estate company but left her job to focus on investing and managing their properties. After six years of investing, they achieved their goal of financial freedom to become full-time investors. In May 2019, they joined our Protege Program and are now focusing on investing in apartments.
Why Get a Partner?
Rae and Takashi did everything by themselves until last year. Their main motivation to raise private money was the desire to grow their business and to do that they needed a strong partner. As partners they can help each other not only financially, but also mentally and physically. Takashi and Rae found a great active partner. They established a relationship over time and discovered they share the same life goals and that partnership would enable them to reach those goals sooner. Even though their partner lives on the west coast, they talk almost every day and together have developed a great management team.
Takashi and Rae’s Tips on How to Choose a Private Partner
Choose an investing partner with these qualities:
- Complimentary skills
- Common goals
- Money or experience
Takashi and Rae believe integrity is the most important factor for the partnership. They also feel that having complimentary skills to support each other’s weaknesses and utilize each other’s strengths is a major benefit to investing with a partner.
Partnership is great, but unfortunately not always easy. Just like in marriage, sometimes there are disagreements. Takashi and Rae recommend these practices to maintain a good relationship in the partnership:
- Respect each other's opinion
- Share concerns as soon as possible
- Decide each member's duty beforehand to avoid future conflict
Takashi and Rae's Deal
Originally, they were looking for a 50-Unit apartment complex, but that proved difficult to find. Instead, they discovered a 24-unit property in the mid-west and they purchased the property together with their private money partner who put down half of the down payment. The purchase price was $1.21 million, with a market cap rate of 8%, and the price per door was about $50,000. They found the deal through an agent and made an initial offer of $1.1 million which was solidly rejected. Their second offer of $1.21 million was accepted with no further negotiations.
How did they get such a good deal in a competitive market?
First of all, the seller’s financial statements were a complete mess which scared away the competition. Takashi, Rae, and their partner could look past that and see the potential in the property. The location was great, no major repairs were needed and there was good upside potential. The rents when they purchased the property averaged $565 when the potential market rent in that area was $660. They calculated that if they increased the rent for all units, their cash on cash return will be around 20% and the property will cashflow a healthy $4,900 a month.
Managing the Property
Takashi and Rae don't live near the property, neither does their partner. For this reason, they have created a solid management team. After vetting several different management companies, Takashi chose the best of the best in that area and they are doing a great job. Since they have an active partner, they are splitting up the duties and performing different tasks. Takashi’s duty is to communicate with the property manager and visit the property. Rae has accounting and legal duties, and their partner communicates with local vendors and the city.
Exit Strategy: Cash-out Refinance
One of the most important things you can do in attracting private money is to have a solid and conservative exit strategy. Takashi and Ray would like to raise their rents and stabilize the property. As you know, when you increase your cash flow, you also increase your Net Operating Income (NOI), which builds up your equity and enables you convert some of that equity into cash and use it to purchase your next property. In the future they would like to do a cash-out refinance, pulling out their down payment to purchase another property while keeping the current cash flowing property.
Commercial Investing Goals
Takashi and Rae have a personal goal of doubling their cashflow in one year. To do that they must continue investing with partners. At the same time, they would like to help other people achieve their goal of financial freedom. They acknowledge that reaching this goal isn’t always easy. Their current partner wants to leave his job, but he makes a lot of money, so he's hooked on his salary. Takashi compares getting a paycheck to being addicted to drugs; you work hard, get paycheck, you work hard, you get paycheck. This makes it's hard to quit. Takashi wants to encourage people to be free of that by investing in commercial real estate.
Raising Private Money for Your Deals
Your deal must have certain qualities to attract private money. Takashi and Rae had everything a private money investor wants in a deal.
What if you don't have experience? One solution would be to use a mentor. With us a your mentor, you have 20 years of experience behind you.
#2: Know Your Numbers
They knew the cap rate, the rent upside potential and what their cash on cash returns were. This is so important to know when raising private money because your investors will see that you have a good understanding of the deal and be confident in your ability as an investor.
To gain a greater understanding of the basics, watch my video, Apartment Investing for Beginners.
#3: Choose a Solid Property
Rae and Takashi’s property is in a great location and requires no major repairs.
#4: Good Property Management
Solid proper management is important. Rae and Takashi put effort into finding the best in the area and communicate consistently with the property manager.
#5: Exit Strategy
Takashi and Rae have a concise exit strategy. After raising the rents and stabilizing the property they can pull out their down payment, then take those proceeds and buy another property. That's a very attractive exit strategy if you want to raise private money.
Real Estate Syndication
I did not cover any legal aspects of raising private money or partnerships in this blog. To learn more about the legalities, watch my video called The Basics of Real Estate Syndication. In that teaching I show you how to pull other people’s money together to purchase a larger property.