Legal/Ethical Dilemma (Splitting an Investment Property)

Question

just looking for some advice in regards to a legal/ethical scenario.

So the scenario is that my brother and I are planning on getting into an property investment adventure (duplex build). However, we each have different financial roles - I will be providing the cashflow to maintain the mortgage during the build and until we find tenants (and any other legal costs) and he will provide the deposit via the equity he has in his current us. We each can’t do the role of the other - I don’t have a deposit and he doesn’t have cashflow.

We are wondering what would be the fair financial compensation that we can each receive. Is it a straight 50/50 meaning we each get one duplex at the end of the build.

Here is where it gets a bit messy, in the case of the mortgage being negatively geared, I am the only able party to pay the extra each week. Do I continue to pay the mortgage until it reaches the equal amount of his deposit and then we can evenly split the duplex 50/50 and he takes on half of the extra payments too?

I hope this makes sense guys, we would like to get it legally written up just to avoid any messy scenarios in the future.

Also, its not about a complete justified return on our investments - we are both equally ok with one or the other slightly benefiting. Just the general gist of what are rightful returns should be?

Thank you again guys

Answer 1

The key here is whatever is decided, you need to have a legal contract drawn up that covers the 5 "Ds". Even if some of the situations do not apply currently, this is probably a long-term investment so they all should be addressed.

Here are the 5 Ds:

• Disinterest - one partner wants out of the arrangement.
• Drugs - in the case one is convicted of a crime that could lead to the forfeiture of assets or non-participation.
• Divorce - One partner gets divorced and the divorcing spouse wants her share of the assets.
• Death - one person dies
• Disability - one person is no longer able to contribute.

As far as the fairness of an arrangement, in your case, it will likely have to change over time. Shortly after the property is purchased, the person providing the down payment has made a more significant contribution then the person making the payments. This changes, presumably, in the future as the person providing the cash flow had a paid more in, considering a discount rate.

So, in my mind it all depends on when the investment is liquidated, or proceeds distributed.

Now the banks will frown on this, but an easy way to accomplish this fairly is have the down payment provider loan the company money to qualify for the mortgage.

To me, while you have not provided numbers, this sounds like a very risky investment. You are basically borrowing 100% of the money for a new build to be used as a rental. Despite the claims, a quick way to go broke is 100% down rental real estate.

Have either of you managed rentals previously? If the answer is no, then this is a whole different area of risk.

Keep in mind, if this does fail, not only will money be lost but you may lose your brother due to hurt feelings.

Answer 2

Pete B has mentioned various other things to consider already. I want to focus just on the core question of how to handle the financial arrangements.

When it comes to ownership of the joint project, I believe that a 50%/50% split is going to be the smoothest route. This is the default assumption anyway, and would allow you to to go one half house each if you want to.

To account for the financing, you'd then treat any payment either of you makes as a loan to the project. So you'd keep a spreadsheet listing who of you paid how much when. There should be interest on these sums, so you'd agree on something like "central bank rate + X%" and apply this to any payments made.

The spreadsheet now tells you at any time how much the project owes to each of you. Once there is money coming in, you can use this to pay back the outstanding loans. If things go well, eventually you'll both have received the investment + interest back. Future profit then is split 50/50 according to the ownership distribution.