A Primer on Joint Ventures I. The Concept of Joint
Venturing
VI. Reviewing the two legal documents that are required;
Background (For sake of brevity "he"/"him" refers to both genders) I. The Concept of Joint Venturing is sharing. For most people a Joint Venture usually means that equal portions of money = equal portions of ownership, but that is really boring and simplistic. Trust me, as you will see there are far more exiting ways to do a Joint Venture. A Finder is typically someone who is experienced in the marketplace and knows how to find great properties, putting in their effort of consideration such as ability, skill, expertise etc., which is worth a share of equity. The Finder has a specific function and the Investor has a certain function. Each JV is different and need slightly different agreements. The JV is not the first or last word on Investments but on a scale of 1-10 it's about 8-9. The % share for each part in the Joint Venture is a matter of negotiation. The Finder typically gets equity, not cash. So unless this is your full time occupation it cannot be your living. When starting out it is usually little cash flow until re sale or positive cash flow adds up. It does not require the Finder's money , but it does require time. So if you do not have the time, but you do have some money you probably should be the Investor. Connecting with a someone who understand the market and have the ability and expertise to find great properties for this purpose can be a very rewarding experience. Typically in business you put in your time, In investments you put in your money. In a JV investment the Finder puts in time and expertise, not money.
II. Advantage of JV; Each party does what he
does best.
1] Rental income town house near Finders home;
2] 5, 10 or 50 townhouses near finders home;
3] A home for the Finder;
Benefit to Investor;
IV. The Legalities; 1. Different legal formats of co-ownership (5) 1] Partnership (registered in the Province) This form is really no good, because whatever one partner does, even unrelated to the JV, will affect the other partner. (The JV Agreement we use states very clearly; “This is not a partnership....”) 2] Limited Partnership. Mix between a partnership and a limited company. The applicability to a Joint Venture means that the Investor has a limited liability. The liability is limited to the loss of the money he put in and nothing else. Very comforting to an Investor. For you as an Investor to continue with this limited partnership, make sure you never participate in the decision making or the management. If you do, you have lost your limited liability. If the Finder wants to run the whole show by himself this is great. However still report, but the Investor should not be involved or give advice - for their own benefit. 3] Limited company. This is the most flexible vehicle for investment. However for a Joint Venture it cost $500 to create and you cannot use the JV Agreement. You need a lawyer to draw up a unanimous shareholders agreement which could cost a few thousand dollars. Plus accounting fees yearly. Losses get stuck in the Ltd. company and each individual investors don’t get the tax advantages of the accumulated losses each year. 4] The finder is the owner and the Investor has an equity participation by way of mortgage. 100,000 property 75,000 1st mortgage 10,000 VTB 15,000 Down Payment The Finder goes to an investor and says; “You put up the 15,000 and you can have half the property. The property will close in the name of Finder and you will get a $15,000 3rd mortgage which bear no interest. When the property is sold, Finder will pay the Investor the $15,000 plus half of the amount that the property has gone up in value. If he does not, the Investor does not discharge the mortgage. That is how the Investor is protected. On the surface it sound really great, because the Investor never has to worry about cashflow, operation or the property manager, because he is not a co-owner but a mortgagee. The problem is that it runs the risk of violating a federal law, which makes you a criminal. We'll visit this in detail later. 5] Joint Venture - recommended; Different legal formats of taking title; Bill and Mary Jane buys a house, the house goes in the name of Bill and Mary Jane right? Not necessarily. That’s what married couples do and most small purchasers of real estate do, but it’s not necessarily the best. Joint Venturing has many options; The first naive obvious one is that you put it in the name of the entity that owns the property. A little more creative; Putting it in the name of a Bare Trustee. Gives you some interesting options. A Bare Trustee is an entity that is on title. If you search title you will find the name of this entity. It could be a person or a limited company. Someone searching the title might think that that entity is the owner, but in fact that entity is only holding title as a BareTrustee. The Bare Trustee does not have any interest in it, he/it is just holding title. Bare - as in "bare naked". Trustee - meaning he/it holds it in trust for other people and has no interest in it whatsoever. Who could be a trustee? Finder - property closes in Finder's NAME or Finder's Name in trust. You’ll have to have a JV Agreement between the trustee, on title, and the actual owners. In law called beneficial owners. Why only the Finder's name on title and not the other Investors? Every so often documents needs to be signed, reviewed etc. Appeal to city, lawyer need direction signed etc. etc. The documents comes to you and you need to find the Investor(s) who might be on holidays or is sick, might not understand etc. If they do not understand they get nervous. What you can or cannot do is outlined in the JV Agreement. Your name on title will avoid all those complications. A lawyer could do that but there would be charges incurred. The normal thing to do with Smith and Jones 50/50 partners, is for the property to close in Smith 50% and Jones 50% tenants in common (not meaning you live there - just legal term). It means simply that Smith owns Smith’s half and Jones owns Jones’ half. On death of either, the heirs of the dead are heirs to that half. With husband and wife it is called joint tenants which really means that if one dies the other takes over that half. In other words get all of it. Since some people might object to the title being in the Finder's name as a trustee it will be prudent to create a limited company to fill that function as a Bare Trustee. Bottom line for simplicity and cost saving is Putting the property in a Bare Trustee's name. Spend a few hundred dollars and create a limited company with a NAME (not a numbered company). The company
you register for the purpose of being on title as a Bare Trustee, does
not operate as a company. It does not do any business of any kind. It
does not have a bank account. It does not have any vested interest in
any property. It purely is an entity that fills the function of holding
title to a property and the Joint Venturers have an Agreement between
themselves as to how the Joint Venture is structured. Having a limited company as a Bare Trustee also creates an extra level of complexity and obscurity. Possible level of defense in any legal situation. The applicable laws so you don’t violate any of them; In several provinces if you are offering for sale more than 4 town houses or lots of four of anything within a larger entity, you have to get permission from the registrar (securities commission). Only Realtors and lawyers can put buyers and sellers together when it is real estate. If you find a property and you are part of the purchaser but not all of the purchaser. You found the vendor and you find the purchaser, the product is real estate you could be construed as acting as a Realtor without a license. A nasty penalty for doing that. Speak to a lawyer. Do it low key, not advertising - might be OK. It's probably OK if you JV with one or two friends. The closer the relationship the better. Also if you do JV with people in a company or Investor Club who has agreed to it communally. As mentioned above, the Interest Law - 59% is OK 60% your're going to jail - to prevent loan sharking. You own a property completely and gives an investor an equity participation mortgage for $30,000. You register the mortgage on title. No interest, no monthly payments. To pay off the mortgage you have to give him back his principal amount plus half of the amount the property has gone up. 200,000 property 170,000 1st and 2nd mortgage 30,000 3rd mortgage equity participation Property increased to 230,000 , sold privately, no legal fees (fantasy), no RE commissions, netting exactly $30,000. 60,000 cash. The investor get his $30,000 back, which pays off the principal’s portion. To pay off the remainder of the mortgage you have to pay him half of what the property went up in value - half of 30,000 is 15,000. He has made 15,000 profit on a 30,000 investment -50%. If it took a year to do it, he’s ecstatic. If it took 6 months - you go to jail. it is called usury and violates the criminal code because it is more than 60% interest. You can call it capital appreciation, but the law calls it usury. Warning against using this method!!! The two required documents for Joint Venturing; 1] The Joint Venture Agreement - an agreement between three parties;
Another entity which may well appear on the Joint Venture Agreement is the financial manager. That may or may not be the Finder or the Investor. Even if it is it’s a different hat with different rules. If you appoint an outside financial manager you may want him to also be a signatory to the JV agreement. 2] The certificate of Independent Legal Advice
You are going to do everything and the Investor is simply relying on you. You even gave him the JV agreement. It does not look good in court. The investor says “your honor...I just took his advice... I did not know...” Judges tend to err on the side of the perceived underdog. To make sure that does not happen...........you will not allow him to sign the JV agreement unless he signs the ILA and the JVA; a) in a lawyer’s
office Now, here is a big mistake I did. I wanted to do things exactly as we were taught and told my prospective Investor to take the JV Agreement to his lawyer and sign it and the ILA in his office. What I did not count on was that his lawyer did not know anything about Joint Ventures and as a matter of fact he was biased against them for whatever reason. Most likely ignorance. He contacted another lawer that knew more about it, but was going to charge him $750 to go through the 18 page Agreement. So I decided to pave the way and called up Prepaid Legal Care of Canada and had them go over the JV Agreement. They have people who specialize in Joint Ventures and told me the document was fine. Now, when I have a prospective Investor I suggest he/she obtains a PPL membership for $26/month, which will provide them with unlimited phone consultation both personal and business, document reviews (including questions related to the JV Agreement), Free Will, Power of attorney and a host of other services. Now, that is value AND they will get the right Independent Legal Advice in regards to the Joint Venture. For further information contact CANREIN. Needless to say, the Finder does not use the same lawyer as the Investor. V. The Steps; How to find a JV partner and close the deal Procedure The 10 steps a] Decide to use JV as a procedure for investing - make a decision!! b] Explain the idea to potential investors. The Finder finds - the investor invests c] Give examples of JV’s - get the details. Tell people that other people are doing this. Tell them how successful it is for investors. d] Get a verbal commitment from the potential investor. From 0-10 that’s 0. 10 is actually to get them to write a check you put in a savings account. Between 0 and 10 there are many variation. Letter of intent with a check (3-4). e] Find an excellent property - as if it was all your money. Never promote a mediocre property. f] Bid with a conditional period to ensure that you can secure the equity participant(s). Worded something like; “This offer is subject for a period of 20 business days on the purchasers finding suitable financing. g] Investor delivers the moneys to the lawyer well in advance. If he does not, you are stuck with the deal in your name and you have to come up with the money. h] Discuss every clause of the JV agreement making changes if necessary. i] You sign the JV agreement j] The investor signs the JV agreement and the ILA in front of his own lawyer. This is IMPORTANT: As pointed out earlier not every lawyer undertands JV agreements. Unfortunately it is often human reasoning to reject what we do not understand. For this reason we have provided Prepaid Legal Services who completely understand Joint Venbtures in real estate, with the JV agreement. A small monthly fee will get you access to a ton of legal advice including and question you might have on the Joint Vebture Agreement and any other questions. Contact CANREIN for details. The Finder you should not use the same lawyer as the Investor. How to decide what the % split should be between you and your partners Do it any way you wish - equal work and equal money 50/50 typical conventional. Unconventional; Finder works and the Investor Invests - equal after closing 50/50. However, it does not have to be. It can be anything. - 25/75 because the Investor puts up the negative cash flow - Finder owns the property Bought for 70,000 now worth 110,000. Slips into negative cash flow. Find an investor that will put in the negative cashflow for part ownership in the property from this moment on, from 110,000 on. He may say he want it from 105,000 up. A matter of negotiations. You offer 10%, he might say 20 %. Finder says OK if you give me $2000 up front. You can play with all these figures. It’s a matter of negotiations. - Sell negative cash flow and create complete ability to hold on to a property when there is no negative cash flow - say 5%. No current liability to Investor. Enhanced Finder's ability to hold on to the property no matter what happens. Make sure you never have neg. cash flow and he’ll invest with you again . - If one parner owes the other partner money on a totally different matter. Simply change the ownership % on the JV and wipe out the debts. If all the investors are
on title you have to go to a lawyer to sell or buy a % and pay
all the legal fees associated with that. You can actually sell a %
of a property. You will also have to pay land transfer tax etc. How to decide what the cash investment should be; In
addition to the down Payment there are legal fees and disbursements,
appraisals and taxes to consider On commercial properties there are
even more such as environmental report, brokerage fees, lender
application fees, CMHC application fees. Insurance fees will be
included in the mortgage. Closing costs with JV:
Adding up in a 70,000 townhouse with a 8,000 down payment you might ask the investor for;
What to do after closing - The Finder and the Investor must live up to all the terms of the JV agreement. - The Finder (or financial manager) must review the property mgr. statements carefully each month. - Cash calls must be issued - and met - Re-mortgaging might have to be done - Changing property managers occasionally - Many other things - Finder must look after the emotional need if the Investor - Make site visits - Send letters to the investors - tell them what’s going on - Get a map and brochure of the town and show them where the property is - News articles related to the investment from local papers - Quarterly reports - Meet with them Yearly (for sure) , Semi annually?, Quarterly? More attention to possible more investments. - After closing an Investor may re-invest with you if you have looked after his financial and emotional needs. - The deal can change because of unforeseen situations How does it all end It could end when the JV sells the property - it’s over with a final financial statement. The JV may sell the property , but the JV may not end. Why? It may still have some assets or it may have some responsibilities. Asset; It may take back a mortgage - 1, 3 or 5 yr. term. JV keep going until the JV TBA mortgage is paid off or until they sell the mortgage to one of the JV partners. The JV may continue to other properties One partner can buy out another partner. Q&A How do you protect yourself from the 60% usury charge? Appreciation over 60% is only applicable in the case of Mortgages. Stay away from a mortgage with beneficial ownership. What are the legal responsibilities of a Ltd. company as a Bare Trustee? Nothing. A Ltd. company as bare trustee can not run into trouble. It does not do anything and does not own anything. It only holds title. More anonymity for the Investors How do you get a mortgage for a Bare Trustee? You don't. The bare trustee is on the mortgage as title holder only and you personally guarantee it. The JV agreement clearly shows that there are personal guarantees from the partners (beneficial owners). The Mortgage is always in first place before JV agreement. Are there land transfer tax in Alberta? No. Can the JV Agreement be registered on title? Investor can register the JV agreement on title at his own expense. What is my liability in a Joint Venture? The JV agreement indemnifies any of the beneficiaries from being responsible for any part above his prorated share of the entity. Never sign a mortgage without the other beneficiaries indemnifying you from any liability above your prorated share. What are the tax implications of a Bare Trustee? The Bare Trustee (Ltd. co) has no tax implications. Only the people that own the property. VI. Reviewing the two legal documents that are required; - The certificate of Independent Legal Advice - The Joint Venture Agreement |