Partnering With Grandma on a Real Estate Deal a Good Idea?
One of the real estate investors we fund loans for came to me with an idea last week. His grandmother has a free and clear mansion in the Hamptons, NY. She offered to get a cash out refinance loan against the property and then use the cash to invest in real estate. She wants to be the cash partner, and wants her grandson, (my client) to be the sweat equity partner. But….does this sound like a good idea?
This real estate investor carefully weighed in all the costs involved in using his grandmother’s money on real estate deals. He uses hard money loans for financing the bulk of the purchases and uses his own money for down payment. Whatever the cost of the loans, he just takes that out of the back-end equity in the deal.
He calculated the numbers based on his grandmother’s cut of the equity, versus the hard money lender’s cut of the equity. Not only would it be more expensive to use his grandmother’s money, he decided that the mental stress of using her money just made the overall costs too high. To use her money on a deal, Grandma wants 65% of the back-end equity. In other words, grandma wants 65% of his profits! Using a hard money loan is definitely a cheaper option for this real estate investor. He pays us interest on the loan and a loan fee for giving him the loan. And we don’t take a cut of his equity like Grandma.
Money from family and friends may have a lower cost of capital than using a private money lender, but it’s important to consider the full costs of involving them in your deals. Whenever you involve a family member or friend in business, there are always intangible costs to consider. Sometimes it’s just cheaper and less stressful to use private or hard money loans to purchase real estate investments rather than involving family or friends.
Any thoughts on this topic? Please share your comments below.