Types of Real Estate Partnership Agreements
You know the deal structure – one investor brings in a few other investors or one investor purchases an investment with another investor. Here are a few different real estate partnership agreement scenarios:
- A property management company purchases a property with a “money guy” who is a partner who only invests money for income and profit, and wants no part of day-to-day management.
- One partner provides the cash, while another partner is a real estate agent whose job is “sweat equity”- to locate properties, make offers, arrange financing, and work with escrow.
- One partner may be an “equity player,” or a secured lender seeking a return on investment.
- Two co-asset managers round up 10 limited partners to purchase some buildings.
Within these basic joint venture/partnership structures you have one partner who has certain tasks, responsibilities, and duties, and the other partner has other tasks, responsibilities, and duties. No matter what structure (general partnership, limited partnership, Limited Liability Company, joint venture, syndication, corporation, or one shot opportunity) partners owe each other fiduciary duties to act in the best interest of the other partners and the partnership, and not in their own best interest.
What is Fiduciary Duty?
A fiduciary is someone who has undertaken to act for and on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence.
A fiduciary duty is the highest standard of care at either equity or law. A fiduciary is expected to be extremely loyal to the person to whom he owes the duty (the “principal”). There must be no conflict of duty between fiduciary and principal, and the fiduciary must not profit from his position as a fiduciary at the expense of the partnership.
How to Draft a Partnership Agreement
A well-drafted partnership agreement is a blueprint for setting the tone for the positive relationship between partners.
One way for partners in real estate transactions to adhere to their legal fiduciary duties and limit unexpected surprises is by creating and executing a partnership agreement. The partnership agreement is the foundation for a solid and flexible relationship between partners.
In a detailed and flexible format, a partnership agreement should define the duties, obligations, and responsibilities of partners, and certain legal and financial consequences for violating the spirit and the letter of the agreement. It is an important reference point to define the partner relationship. For example, the agreement may address the following:
- At what point in time is net profit to be distributed?
- How should a refinance of secured debt occur?
- Who is in charge of day to day maintenance and management?
- What is the term of the partnership?
- When is financial reporting going to occur to investors?
- If there is a dispute, can the partners mediate with a neutral third party?
- When and under what conditions do partners have the right to be bought out?
- What type of entity will hold partnership assets?
Without a well-drafted partnership agreement, partners have to resort to oral promises and representations (sometimes jotted on a paper bag or Starbucks napkin), and this can lead to embellishments, misrepresentations about material issues, in fighting and a potential court battle. It is well worth it to have a detailed partnership agreement drafted by legal counsel.
Here are few more ideas of items/issues to address in the partnership agreement. This is not a complete list, but is a good starting point to think about the issues:
- Business purpose and goals of the business
- Choice of entity for the partnership and the assets
- Percentage of ownership of equitable interests/ debt
- Rights of limited or minority partners
- Property management duties, fees, and responsibilities
- Define the jobs, roles, and duties of general partners and key officers and managers
- Management of internet and social media communication and relations
- Division of expenses and net profits and rights to reimbursement
- Meetings of partners
- Method of accounting and rights to inspection of books
- Financial reporting and disclosure, right to an accounting from partners and the partnership books and records
- Grounds and conditions for termination of partners and buy out and transfer rights
- Death or disability of a partner
- Applicable state laws and choice of forum for litigation
- Rights to mediation and arbitration
- Rights upon liquidation or dissolution
- Method of amendment or suspension of terms of the agreement
When you have a detailed and well-drafted partnership agreement, it addresses and may resolve a great number of the questions and issues that can arise between partners. Here are some general tips for handling a “real estate marriage” between partners:
General Tips for Partners in a Real Estate Joint Venture
- Understand the basic laws of partnership and fiduciary duties, and that you should act in the interest of the partnership- not your own self-interest.
- Have a well-drafted partnership agreement that covers all aspects of the partnership relationship.
- Have layers of insurance in place for various risks.
- Have real financial consequences for legal violations of the partnership agreement between partners.
- Provide frequent accounting and financial disclosure between partners.
- Have frequent and periodic meetings and conference calls.
- Advise partners and investors of capital expenditures that improve the asset.
- Avoid conflicts of interest.
- Understand that partners have the right to independent legal counsel at all times.
- Place the title of assets in the name of both partners, an LLC, or corporation, not one partner or a partner’s relative.
Partnership Disputes – Managing and Resolving Conflicts Separation, and “Divorce”
If you have a well-drafted partnership agreement that defines duties, obligations, and remedies, then you may avoid certain conflicts and expensive court battles. Sometimes the partners will need to “get divorced,” or decide an important issue.
If you have a partnership dispute, and you are not getting satisfaction or disclosure from your partner or the partnership’s controlling managers, and your partnership agreement allows it, you have the right to sue your partner for:
- An accounting
- Declaratory relief to have the court interpret a contract provision (See Cal. Code of Civil Procedure Sections 1060-1062.5)
- Breach of the partnership agreement
- Injunction to stop the bad conduct of the partner (See Cal. Code of Civil Procedure Sections 525-534)
- Breach of fiduciary duty and its component duties
- Fraud or conversion (theft of assets)
- Partnership dissolution and winding up of the partnership (See Cal. Corporations Code Section 16705)
- Partition by sale to have the court supervise a liquidation. See (Cal. Code of Civil Procedure Sections 872.820, 872.830, and 873.500-873.850).
Sometimes applying the pressure of filing and serving a lawsuit against a partner is the only way to get the partner to focus on resolving the issue, and to encourage a settlement. A lawsuit does not always have to be for money damages. The lawsuit can be for equitable relief in the form of declaratory relief or for an accounting to force and compel financial disclosure and accountability.
A real estate business partnership or joint venture is kind of like a civil marriage, the difference being you don’t have to come home to your business partner! Just like marital partners who have to respect community property, there are fiduciary duties between real estate partners, and partners cannot just pillage and loot the partnership assets and usurp opportunities and expect to get away with it. Understanding fiduciary duties between partners is a starting point in having a positive partnership experience, but the partnership is only as functional or as transparent as the partners are with each other and the partnership’s creditors. A well-drafted partnership agreement is also helpful, as is having legal counsel on speed dial for smoothing out those rough patches.
Copyright 2017 Nate Bernstein, Attorney at Law. LA Real Estate Law Group. All Rights Reserved.
The author of this article, Nate Bernstein, Esq., is the Managing Counsel of LA Real Estate Law Group, and a member of the State Bar of California and his practice concentrates in the areas of complex real estate litigation, commercial litigation, employment law, and bankruptcy matters. The contact number is (818) 383-5759, and email is [email protected]. Nate Bernstein is a 22 year veteran Los Angeles real estate and business attorney and trial lawyer. Mr. Bernstein also has expertise on bankruptcy law, the federal bankruptcy court system, creditor’s rights and debtor’s bankruptcy options. He previously served as Vice President and In House trial counsel at Fidelity Title Insurance Company, a Fortune 500 company, and in house counsel at Denley Investment Management Company. Nate Bernstein created www.laquiettitleattorney.com, a leading educational resource on quiet title real estate litigation. Nate Bernstein is a local expert on real estate law and economic trends in the real estate and leasing market, business law, and bankruptcy law. Nate has personally litigated more than 40 major real estate trials, and has settled more than 200 complex real estate and business cases.
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