Part 2: General Partnership

Mike: Welcome back to the FlipNerd.com REI Classroom, where experts from across the real estate investing industry teach you quick lessons to take your business to the next level. And now let’s meet today’s expert host.

Bill: Hi, I’m attorney Bill Bronchick an instructor at flipnerd.com, and in this video series we’re going to explore partnerships, joint ventures and syndications, all different types of partnership investing. Now, we’re going to move on to Section two, which is the general partnership.

Mike: This REI Classroom real estate lesson is sponsored by theinvestormachine.com. FlipNerd’s private investor coaching program and your blueprint to investing success.

Bill: Now, a general partnership is a more permanent relationship and a more ongoing relationship than a joint venture. Where a joint venture’s for a particular deal, a general partnership is ongoing business. Now again, joint and several liability for general partners so, you should general partner with between your entity and her entity or his entity or, you can form something like a Limited Liability Company where you are a member and they are a member. Now, member is just fancy word in this scenario for partner. Instead of having a partnership agreement, you would have what’s called an operating agreement within the LLC, which spells out all the same types of things.
Now, if you’re going to be in business with someone permanently, you have to consider a few issues. Number one, are there alternative scenarios that might work better? For example, would it be better to just borrow the money rather than bring in a money partner over time? Personality differences, style differences, communication differences, do you have the time or do they have the time? If you want to get into arguments later about who’s supposed to be doing what, do you trust them? Do they trust you? What’s the risk of some triggering event happening in their lives? So, all things to consider when going into business with someone.
Usually the preferred entity for a general partnership is a Limited Liability Company or LLC, it has members. Now, an LLC could be setup with managers or member managed. So, an LLC, Limited Liability Company, let’s say it has two members, A and B. Now, by default if you set it up like this which is called member managed, it’s very much like a general partnership in that either A or B as a member and even if that’s an entity A, an entity B would have authority to transact business on behalf of the LLC. So, if it’s member managed, all members have that authority.
If you don’t want that, let’s say B is more of a silent partner or you just don’t want B involved in the management of the activity, you could set A up as a manager or in some cases it’s called a managing member, six of one, half dozen of the other. The reason is because a manager doesn’t have to be a member in which case they’d be a third party manager, but if a member is also a manager we call him the managing member. And in this case, B would be a non-managing member.
Now in this scenario, only A has authority on behalf of the company to sign things – contracts, leases, contractor agreements, checks things like that. B has no authority. And if you look the LLC up with the secretary of state, typically it’s listed in that document whether it’s manager managed or whether it’s member managed and who the manager is. So, if you’re dealing with someone else you want to make sure that person has that authority, okay?
The operating agreement, again, is like a partnership agreement laying out who does what. So, it will lay out who’s the manager, who’s the member with the authority, who the manager is, what can the manager do without all of the members’ permission. Assuming in this case like two but it could be three. And what is the vote? Is it majority, is it two-thirds majority? Especially if you’re not 50/50 owners, 50/50 members. So, all those things would be spelled out in an operating agreement.
Also tax elections. So, a joint venture, general partnership, limited liability company partnership are all partnerships in the sense that they file a 1065 tax return with the IRS. It’s called a partnership return, okay? So, an LLC is a partnership, general partnership, a joint venture all can be partnerships for the filing purposes.
You’re going to have a lot more triggering events too to deal with in your operating agreement just like you would have in a joint venture or general partnership agreement. And what a lot of people do if it’s a big venture, this company’s got lots of properties or lots of assets, is typically what the members will do is have life insurance on each other. So, if one dies that’s the buyout, so you get the insurance proceeds as the buyout, okay?
And then depending on how many deals you do, especially in real estate, if you have multiple rental properties for example, you might want to have more than one LLC. So, you can do multiple LLCs with A and B as member, or you can have one master LLC with A and B as member, and then several sub-LLCs which are wholly-owned subsidiaries of the master company. So, this is what we call the parent company and the sub LLC is what we call the subsidiary. Sort of like GM and Chrysler. No, no, it’s GM no, that’s a bad example. It was GM, Chevrolet, GMC and those are all the subsidiaries of GM, okay?
And then, once you’ve got your structure in place and you’ve got your rules in place, you’ve reviewed them often and reviewed the operating agreement to make sure that people are doing what they’re supposed to be doing. Especially if you’re the silent partner, it’s a good idea to audit books, audit practices to make sure that the managing partners are doing what they’re supposed to be doing.

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