Commercial real estate partnership disputes are common since the parties to the agreement may not adhere to their partnership contract prepared by legal counsel.
A seasoned expert witness, who has acted as a managing member in several partnerships, may provide valuable insight into the do’s and don’t of running the business.
What are the Two Types of Partnerships?
In this expert witness’s opinion, there are generally two types of partnerships, performing and limited. The following information applies to what is expected from members of a partnership.
The Traditional Partnership
The traditional partnership, whether it is protected or not protected by a corporate entity may require that the members of the partnership have roles to play in the operation of the commercial real estate. A few of the activities may be property management, leasing or sales agent, architect, legal professional, accounting professional, lender, and manager of operations.
All these roles mentioned above, in a more traditional partnership, can provide numerous benefits to the running of a successful partnership. The expert witness in a dispute must carefully examine the partnership agreement and actions by the partners to determine if a party acted inappropriately or was not designated to provide the disputed activity. Any of the roles mentioned herein of running the partnership can cause havoc to the other partners when a partner is not working within the rules of the partnership agreement.
Each member of a traditional partnership must be carefully chosen with a history of past successful ventures. The mistake made frequently is that the party that has a major portion of the capital invested, can determine the direction of the partnership. This partner, if not carefully limited by agreement, may cause the direction of the partnership and may overrule your small fractional interest. The commercial expert witness may determine if the smaller fractional interest in the partnership is treated fairly and in accordance with the operating agreement of the contract.
The Limited Partnership
The “limited partnership” by its nature reduces risks to the partners’ exposure but has many complexities that must be carefully reviewed by a real estate transactional attorney.
Since this is a limited partnership, your ability to sell your interest is complicated. There are partnerships that are passed on to their heirs which are never sold since they may become extremely profitable. On the other hand, partners may need to sell their partnership interests. If the need to sell your proportionate share it may become, less valuable since it is deemed a fractional interest and can be discounted by as much as 40%. Also, there are strict guidelines on whom the limited partner can sell its interest. The commercial real estate expert witness can assist the investor in determining a fair sale price in collaboration with an expert witness practicing accounting.
Other Areas of Assistance
Another area that the commercial real estate expert witness can assist is in determining the fees that the managing partner can receive. The fees can be from many sources including but not limited to property management, refinancing, real estate brokerage, and partnership management. These fees can sometimes include fees incurred by the manager for office rent, salaries, auto expenses, internet, accounting, insurance, telephone, taxes, and entertainment. The extraordinary fees must be clearly spelled out in the operating agreement contained within the partnership agreement.
Property Management Fees
Property management fees are a consideration especially if the real estate is out of the geographical area of the managing member. There might be a need for a property manager close to the property and another internal property manager who manages the operation. Therefore, the property may require the need for two or more property managers, and an additional fee must be disclosed upfront to the limited investor.
Distributions of the Partnership
The commercial real estate expert witness will carefully examine the distributions of the partnership. For instance, it may be some time before distributions are made to limited partners after the partnership is formed. Therefore, there should be added to the partnership that the limited partners should be entitled to be paid in arrears and distributions should be made first to the limited partners before the managing partner receives any distributions. Also, in the event of a sale or refinancing the limited partners should receive their initial investment first before the managing partner receives funds.
Rates of Returns
Rates of returns for limited partners can range from less than 10% to 50%. It all depends on how much work is required by the managing partner before the limited partner starts receiving returns. For example, it may take several years for a multi-story office building constructed from the ground up to start making a profit versus a fully leased commercial building. It is all a matter of negotiation with the managing partner.
Real Estate Sales and/or Leases
Real estate sales and/or leasing become areas of concern. A determination in the partnership agreement is who is the real estate broker. Does the managing partner become the leasing or sale agent? If the managing partner is to receive leasing and sale commissions in addition to management fees, there may be a conflict of interest. The commercial real estate expert witness can opine on the amounts and the possible conflict of interest.
In many partnership agreements, does the managing partner receive a promotional fee? This is quite appropriate in many limited partnership agreements. This issue becomes more important when weighed with other fees that the managing partner may receive. Of course, the amount of promotional fee that the manager may receive should be disclosed upfront.
Retiring, Death, or Change of Business
In many cases when a partnership may last for several years, when the manager no longer may be in the real estate business, retired, or may have passed away, does the original managing partner receive a fee in the event of a sale? This issue is quite common and should be negotiated at the commencement of the partnership. This may be a small fee after a few generations in comparison to the profits of the partnership, but when a real estate investment loses money then it may become a significant issue.
It should become quite apparent by now how important a commercial real estate expert witness can be when there is a dispute with a partnership.
Segal Commercial, Real Estate Expert Witness
If you are looking for an expert witness for your partnership dispute in real estate, contact Lee Segal today.