Self-Directed IRA: Getting Private Investors To Co-Sign With You Part 4

will you co-sign?

Getting Private Investors To Co-Sign With You

This is the last installment in a multi-part series on real estate investing with IRA’s.

1. Click here to read Part 1: Introduction To IRA investing in real estate.
2. Click here to read Part 2: Investing With Your Self-Directed IRA
3. Click here to read Part 3: Finding a Custodian For Your Self-Directed IRA

Emily Cressey: Real Estate Investor and Investment Coach

This section is not so much about IRA investing as it is about one bonus technique for getting your deals funded. The nice thing about this technique is that it doesn’t require you to have credit, money or friends with money. What it does require is friends with good credit who are willing to share that credit with you.

I have heard a lot of promoters use the idea of a “credit partner” as an aid for real estate investors with bad credit. But the truth is, that you as an investor may have great credit and STILL want to use this technique. Why?

Why does it make sense to work with credit partners if you already have good credit?

• First, using your credit is a risk… some people may not want to take that risk.
• Second, a good credit score is only one factor when it comes to getting a loan. Especially now that the banks are cracking down and enforcing logical lending standards again, you may need other things like assets, income, low debt-to-income ratios, or real estate experience in order to qualify for your property loan.
• Third, many banks will “cut you off” after a certain point. Once you have a given number of loans in your name (5-10), they may not be willing to extend you any more credit.
• A fourth reason is that some investors may be “saving” their credit for bigger deals, or certain types of deals, and may prefer to work with credit partners for deals outside of their primary focus area.

I could go on and on, but you can see that there are a number of reasons that an investor may want to work with credit partners. It’s important you are clear on your motivations and can explain them clearly, as this is the first thing many potential credit partners will ask you. They’ll say, “If it’s so easy and low-risk, why don’t you just go get the loan yourself?” You’ve got to be prepared to answer them.

The correct answer, of course, involves explaining any of the items on the above bulleted list that apply to your situation.

Why private investors are especially important for COMMERCIAL real estate investors.

In some cases, with commercial real estate investments especially, you may find that banks will require multiple guarantors in order to approve your loan. I’ve been involved in deals with 3-5 guarantors required by the bank. It makes sense to have good people you can work with when these needs arise. If you’re involved in other smaller projects, like single family homes and the like, you may want to avoid having these on your credit record (by working with private investors, there too, so you can keep your credit clear and available when it comes time to apply to the bank for a loan on a bigger project that is a real home run.

What does a credit partner do?

A credit partner’s role is very simple – he or she signs on the dotted line when you are out getting a bank loan to buy a property. Usually they will sign for a first mortgage for the entire amount of the loan – 80-90% of the value of the property. The bank uses their income and credit profile to help qualify you for the loan term and rates and they make the credit partner fully liable for the amount of the loan in the event of default. (Assuming the loan is personally guaranteed and you didn’t get no-recourse financing.) That means that if you buy a property, and can’t make the payments, the bank will pursue a foreclosure which will RUIN the credit score of your credit parnter. If the bank is unable to get full satisfaction of the amount owed from the resale of the foreclosed property, they can come after your credit partner with a judgement. If you’ve co-signed on the loan with your credit partner, these ramifications will apply to you, too.

So, the downside is pretty dire if the property has little equity and the credit partner values his good credit. However, the good news is that the credit partner can get involved with none of his own cash, and – if you’re a good investor who can take care of the investment and not let it get behind on payments or foreclose – the credit partner has the opportunity to make money on the deal without putting in a dime of his own. That means an “infinite” rate of return, for relatively little work on his part.

The key to bringing credit partners on board is having a deal that they can feel secure in. That means, they trust you to manage the property, and there is some equity in the property going into it, so if things do go south and the property must be sold quickly, there is enough collateral there to pay off the loan in full. You can further protect your partner, if he is somewhat real estate savvy, by writing up documents that indicate the IF you allow the property to get behind on payments, the title will revert entirely to your partner (with no rights left to you) and he will have the control of managing it, repairing it, selling it, etc. as he deems fit in order to protect himself and his investment.

How to pay your real estate credit partner?

So… how does it make sense to reimburse a credit partner? This is a tough question to answer in the abstract. I would say the MOST generous situation (don’t excede this…) is to split the profits in the deal 50/50. On the low end of the spectrum would be just a flat fee of some sort ($1,000 one-time fee) for getting them to go to closing and sign on the loan for you. Most investors that I know set up some sort of profit sharing situation with their partners, but the truth of the matter is that it’s whatever you can negotiate. If find that on your first few deals, it’s better to be VERY generous with your credit partners to get them on board and excited about putting the deal together. If you’re early in your investment career, they probably see this as a somewhat risky operation, and it may take some significant time for them to do their due diligence and get all the paperwork handled once they’ve decided to go ahead with the deal.

Once you’ve got a few successful deals under your belt, fund raising will become much easier and private investors and credit partners will be willing to work with you – generally with less due diligence involved and a lower profit expectation on their part. In general, though, don’t be greedy, make it worth while for everyone you work with to do business with you. And treat their money and credit with the same or better respect as you would your own, if you were signing on the loan.

Parting Thoughts On Using Credit Partners In Your Real Estate Investments

Although working with credit partners can be very easy and inexpensive for all parties involved, remember that you are still making an investment and taking on some risk. Be sure you hold the deal to a high standard of profitability and do everything you can to minimize risk. Having solid parameters for your deals will help you ensure that you don’t get tempted to “cheat” and put together a marginal deal just because it’s easy to do. Remember, real estate investing is all about being able to survive in the long term through downturns in the market. Keep your focus on 5-10 years in the future, not 5-10 months. Remember your reputation, and always do your best to protect the people that you’re working with.

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