An investor is a restless spirit. Always on the lookout for new ways to accumulate capital. For a long time I’ve been observing an influx of investors to the real estate market. They believe in it and are looking for an opportunity. Most of them, due to various reasons, cannot carry out the investment on their own and must pass on many interesting offers. They are not aware that our legal system presents them with a wide array of possible ways to profit on real estate. Those ways involve cooperation with other players of the same or higher level of capabilities.
This article is meant to explore the subject of group investment, wherein a group is defined as any number of investors above one. Remember that investing in a group with other natural and legal persons is not the only right way to invest, and that it should be considered as a tool, used only when the investment and the investor’s situation dictate that it is the best approach.
I’d also like to point out that I treat group investment as a different model of investing in groups than the one you might find in statutory law – investment funds or joint brokerage accounts.
Investing in a group fulfils particular needs of the investors. An analysis of those needs shows us that there are 2 categories of those needs: the needs of first-time investors on the market and the needs of experienced and knowledgeable investors.
A first-time investor might be forced to work together with a group. The factors weighting in on this decision are most likely to be:
1. Fear of investment
Oftentimes an investor wants to invest, but is afraid of his own lack of knowledge about the market or the risk involved with investing large sums of money. A group of investors becomes something akin to a social proof of concept. It’s worth to note who is the most well-informed about the object of investment, who has the most experience and who is the “whiner”, that is the person who will always question received information. This way you will gain access to the cheapest panel of analysts. It will not always consist of experts, but it will undoubtedly support our individual decisions.
2. The need to learn before individual investments
Group investing is also the cheapest way of training. You are operating on a “live investment”, and the facilitator of the investment, be it a member of the group or a hired outside company, will have to exhibit an extraordinary amount of diligence. This way we gain access to well-prepared instructional materials, contract templates, business plans, procedure, methods of dealing with emergency situations etc. Being part of the investment lets us absorb the information quicker, because we are dealing with a real investment and our capital is at stake.
I can say from work experience that many investors who were looking for fresh opportunities on the market or who were partly involved in the projects became associates. Group collaboration opens many doors leading to surprising or underappreciated opportunities.
An experienced investor who knows the group investment tool will not forego using it.
1. Firstly, one can participate in such investments with available funds. This allows you to mount swift and effective responses to arising opportunities, which, on the real estate market, might vanish quickly – the winner is the one who can put the proverbial cash on the table. Sometimes it not need be the whole amount, but that’ a subject for another article. In the last few years I met with many investors who are probably to this date raising money for their first investment, as well as those, who invest small sums regularly.
2. Secondly, you can quickly build a portfolio of properties. This allows you to diversify not only the risk, but also the types of assets you possess and your sources of income. This might be especially valuable to people looking for a passive income. Personally, I think it’s quicker and easier to generate a passive income from trading land and from ‘flips’, than it is from buying apartments for renting – and you don’t risk involving yourself with banks and do not have to show your credit rating. Finally, diversifying your portfolio lets you operate with a higher flexibility, regardless of market trends.
3. If you participate in an investment with other people, you can always – when the circumstances force you to – cash in your part and sell it to your co-investors with a lower return on the investment. This increases the liquidity of the investment and is another motivating factor. Of course, this applies only in a situation in which we are the only ones wanting to cash in.
4. Another point might be the availability of offers. Sometimes it is better to let go of personal ambitions and join someone who has better access to offers.
5. Group investments often involves elaborate legal forms and unconventional solutions. This is the cheapest way of learning, even for experienced players.
6. And finally: connections. When investing with a group, do not pass on the chance to meet the other investors. There are still relatively few players on the real estate market. the 20082010 crisis practically wiped the slate clean of amateur speculators. Recently, in the wake of a series of financial scandals concerning capital investments, more and more investors turn to the real estate market. We can observe this by the number of entities offering services and products to this group of investors, as well as by the quick development of this area. Relations with open-minded people who have the capital and oftentimes work in good companies or run their own businesses is priceless. A one-time partner might become your partner in your next endeavour.
Group investment methods
On the real estate market, there are many ways to participate in group transactions:
• Group purchase of a wholesale number of units – a group of natural or legal persons buys a number of units (plots of land or apartments). During the purchase each unit is given a separate mortgage register. Each investor becomes the owner of one of the units. Such properties can be burdened with debts or sold without further need of cooperation from the group. On the other hand, this method is usually more pricey, as the preparations to divide the property also need to be covered. It can also be difficult, as each property is different and this can lead to disputes over which part of it is best. In turn, if the investors do not cooperate after the purchase, this can cannibalize their own sales or rent offers.
• Co-ownership purchase – if the plot is not ready to be divided (e.g. it’s a large piece of land), investors can become co-owners. Remember that under Polish law co-ownership is most often the result of inheritance law and is supposed to be a temporary affair that assumes its own dissolution through a division of property or mutual repayment of inheritors and ownership consolidation. In this case, the co-ownership is to be permanent until the end of the investment and so we dodge the issue of ‘which part of the property is better’. The weakness of this approach lies in reaching a mutual agreement and co-operating with other investors during the course of the investment. One or more investors might sabotage the investment by filing a claim for the dissolution of co-ownership. Joint and several liability for the land, forest and property taxes might also cause problems, so it’s wise to regulate those matters through agreements between investors. You should also remember that banks do not approve mortgages on co-ownerships.
• We can also invest by signing a joint preliminary agreement, in which we, the investors, agree to the purchase of the property, but only after it is prepared to be divided. Most often it is the investor who pays for the preparations. In that case it is wise to include a provision of cost reimbursement in the contract in the event that the preliminary agreement fails to take effect thought the fault of the seller.
• Repurchase from a larger investor – there are many cases where a larger investor is willing to let the smaller ones in. This happens most often when the larger investor wants to close a financial project, and, for example, is financing the development of infrastructure from the funds of smaller investors who are later invited to join the investment on preferential terms. This is also a big deal if the strategic investor offers access to their channels of acquiring profits from the investment and, of course, their know-how. • A loan – this is a fairly common method of investment for investors who want to make use of partners and at the same time want to limit the access to the know-how of the investment. In all other forms of investment, the investor is privy to the investment’s documentation and receives notifications. In the case of a loan, it is the loan agreement that dictates the responsibilities of the borrower in regards to the lender. The co-investors do not get any claims to the property, unless the agreement states otherwise.
• A special purpose vehicle (SPV) – it is a civil or commercial law entity. Associates do not become owners of the property, they only gain shares in a company by bringing in the capital. It is the company itself that purchases the property and the profit comes from yearly dividend payments. Great examples of SPVs on the real estate market include housing developers and companies running commercial facilities. In those cases creating an SPV is also a result of the requirements set by the banks financing the investments and of the relative ease of trading shares compared to trading property rights. Special attention should be paid to the company agreement, as it regulates mutual relations between the investors. I leave the discussion about the legal form of the company to the investors – each one has its advantages and disadvantages, which should be carefully considered in a given situation.
• There are also some SPVs on the market that are financed through loans from investors. Loans granted to a company by associates of said company are exempt from the civil law transaction tax, so usually a coinvestor will buy 1 share (worth PLN 50) in the company and the rest of the investment sum will be brought in in the form of a loan.
• The most advanced form of funding are the investment funds mentioned at the beginning of the article, but as it is a subject of great importance, I will leave it for another time.
The influence an investor has on a joint investment
After talking to investors I noticed a huge problem in relations between the main investor or the facilitator of the investment and the co-investors. The problem concerns the influence a co-investor should have on the investment during its duration. I believe the investor should not have any influence over the investment during that time. Real estate market investments are based on simple business plans, so after the initial agreement I would not want other investors to have any influence over my funds. Such influence would surely lead the managing entity to abandon the investment over disagreements with investors and the diffusion of responsibility for failure. Investors who think they can divide the work among the group are advised to contract a company that will manage their investment or elect one investor who will be responsible for the execution of the investment. Division of labour among the investors typically ends in the failure of the project and a mutual relations crisis.
I am also of the mind that specialized work needed for the execution of the investment should be outsourced to specialists from appropriate fields, and the role of the investor should be limited to financing the project. Of course, there is nothing to prevent an investor from fulfilling a role of an expert, but again, I cannot stress this strongly enough, everything (the range of competences, their quality and their costs) should be clearly stated in the signed agreements between the investors’ group and the investor-contractor.
Group investments on the real estate market carry a lot of risks:
- Legal risks
like the possibility of a compulsory purchase of shares of the property from other investors as a result of a judicial division procedure or the risk of a takeover of the SPV.
- Tax risks
like qualifying land trade as an economic activity within the meaning of law, joint and several liability for the property tax.
- The investment manager’s/facilitator’s risk a situation may arise when the executor of the investment is unable to continue with its implementation, as a result of bankruptcy, abandonment of the project, death, an accident or the departure of a crucial member of the project.
- Associate-related risks losing interest in the investment, an attempt to cash in the investment with a lower outcome, changes to the business plan during the investment, disagreements, sabotage of the investment.
You cannot account for everything, but most of the risks can be mitigated with appropriate agreements signed by the investors, mutual collateral and employing the services of professional management entities. Currently, group investments constitute a majority of my portfolio and allow for a steady growth of my wealth and a constant opportunity to meet interesting people, so I can wholeheartedly recommend this approach, as your main method of investment, as well as a supplement to your portfolio.