Retirees should reassess their real estate partnerships

There are some major concerns with real estate partnerships for retired persons on fixed incomes. These include lack of control, difficulty of selling a partnership interest, low value for partnership interests, unpredictable cash flow and risk of the investment. You also need to consider the alternative investments if a partnership interest is sold, and your estate plan should address partnership interests.

There are many different types of real estate partnerships and all kinds of properties with different characteristics. So, my comments are general in nature: You need to evaluate your specific situation. Here, I am discussing investment real estate partnerships with direct ownership. This is not about a Real Estate Investment Trust or other real estate investments in which you buy shares from a stockbroker.

Start your evaluation by carefully reading your partnership agreement. Pay particular attention to details about selling your partnership interest and who controls management of the property.

If you do not have a partnership agreement, you are taking a huge risk because there is no agreement on everything to do with the partnership. For example, if your partner dies, you could end up with the crazy nephew as your partner. It is very important to have a real estate attorney develop a partnership agreement that meets the needs of you and your partners.

The amount of control any individual partner has over the management of the property is usually low. Some partnerships are controlled by majority ownership; unless you own more than 50 percent, you probably have little control. Some partnerships are totally controlled by the managing partner regardless of their percentage of ownership.

Without control, you have no say in decisions that affect the property and your cash flow. For example, the property could be remodeled and require you to put cash into the partnership. For a retired person on a fixed income, this could be difficult. Or the property could be sold at a time when, for various reasons, receiving cash from the sale could be detrimental, possibly for tax reasons.

Partnership interests are illiquid, meaning they are difficult to sell. The partnership agreement might have provisions that make it difficult to sell. For example, it might give the other partners the right to approve the buyer. Of course, the logical buyers are the other partners. Or better yet, the other partners could agree with you that it is time to sell the property and end the partnership.

Unlike a typical real estate investment, a buyer for a partnership interest is going to look at more than just the property. The buyer also will look at the partners and partnership agreement and take into consideration the lack of control. If the investment is excellent and well-managed with a high return and low risk, there will be buyers. But you probably will not want to sell in such a good situation.

Financing the purchase of a partnership interest is difficult because banks generally will not lend with a partnership interest as collateral. The partnership agreement might prohibit pledging the partnership interest as collateral for a loan.

The value of a partnership share is almost always significantly less than the proportionate share of the value of the property because of the illiquidity and lack of control. For example, if the property is worth $1 million and you have a 10 percent share, your share of the equity is $100,000. But your selling price for that share could be just $75,000 or less. However, if another partner wants to buy your interest to gain control of the partnership, that could be to your advantage.

You need to consider how much investment risk you are willing to take when retired. Some questions to consider: How stable is the property's future income? How easily can the property be rented? How stable is the market?

Estate planning is a further consideration. What happens to the partnership interest when you die? You need a good estate attorney to be sure your estate plan addresses partnership interests.

Selling a partnership interest usually means finding a replacement investment. It might be tough to match the return from an existing partnership with today's low interest rates. Accepting a lower return is a strong disincentive to sell. Yet, depending on your tolerance for risk and the outlook for the future, it none-the- less might be time to take your chips off the table.

Chris Stephens, CCIM, is a local associate broker specializing in commercial and investment real estate. His opinion column appears every month in the Anchorage Daily News.