Investing with Friends or Family: Is It Worth It?

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G'day everyone. Welcome back to another episode of the Property Nerds podcast. I'm your co-host Arjun Paliwal, CEO at InvestorKit Buyers Agency. And I'm joined by... Jack Fouracre.

Fouracre Financial. Obviously, it's been here long enough, mate. You guys are naming finance. That's the one. That's the one.

We've got an exciting episode to talk about today. It's based on a lot of what's been going on in our businesses from what we're seeing and clients do. And I think by mentioning this and going through this scenario, we're going to help a lot of people avoid some costly mistakes, but also help some people absolutely nail. The topic today is about investing together with friends or family. And there's a lot to unpack there because it's something that's actually picking up a lot more in popularity.

But mate, before we get into it, Jackie, I see you've been muscling up and beefing up a bit. How's training going? Yeah, good, man. I started up at Gracie in Smeaton Grange end of last year. And me and my wife are going there like three to five times a week, depending on the schedule.

But yeah, like even we get some stuff planned on a Saturday and I'm even pushing that back so that I can get training in. I really got a goal this year. I want to get my blue belt. So just been taking heaps of creatine and training a lot. I was going to ask, man, I was thinking because as soon as you said Gracie's in Smeaton, have you run into Robbie Whitaker a couple of times?

Yeah, man. Shook his hand as well. There you go. Is it the hardest handshake you've felt? Jacob Malkoon has a pretty hard handshake.

But I don't think they roll with the white belts. I think they're all black belts. They're pretty chill, but yeah. So a few more belts left and then you will hopefully be rolling with the boys. It'll take a few years, I reckon.

Well, that's good, mate. That's good. Well, I mean, I thought I'd jump into that, but also ask you, you see it a lot investing with friends and family. And I know people don't know this until they know this and are in front of the actual calculators and financing side of things. What is the thing that very few people know about when it comes to investing with friends or family?

Yeah. And it's a shame that we don't get to speak to them before they do it. Quite often, they've already made the decision and they're coming to us with a situation like that. So mostly how it's treated is if you own 50% of a property with a third party, that's not going to be a party to any future application. Vast majority of lenders are going to take the entire debt, but only 50% of the rental income.

So there's two or three lenders who will take half the debt and like half the rental income and kind of balance it out. But then you're pigeonholing yourself into those three lenders and with even those options, the other applicant that you're kind of excluding, they've got to prove that they're earning an income. So then you're also victim to their circumstances at the time. Oh man, that's a killer. We've got to unpack that a bit.

And I love doing this with an example, right? If you have a million dollar property that you're buying together as a group of friends or even just family, you and a brother, you and a sister or anything like that. So that million dollar property, say it rents for $750 a week. So firstly, on that $750 a week, when you're going to apply for a new place, now let's just say you and your brother bought a place together. Now you want to go for you and the missus.

And you and the missus are buying a separate place. They're going to assume that $800K loan, if you have an 80% loan against a million, is all in your name when your calculations go to buy a property with you and the missus. Because that loan with you and your brother was $800K together. But instead of assuming $750 a week, they're only going to assume $375 a week on the cash flow, right? That's horrible.

You're already back against the wall. Now, quick side note, you know how banks calculate gearing on a loan and that gives you a bit of boost in your borrowing capacity because of negative gearing? Does that mean they half the negative gearing calculations on that loan because you're only half owned? You're only half on time. But you've got the full debt on your name.

Yeah, and you know, it gets worse. It gets worse. I thought you were going to say it gets better. No, no. So if you've got that property owner with a third party, you've managed to avoid, like go down that pigeonhole of lenders and avoid having that problem and buy a property portfolio with your spouse as significant other than you've got all those properties there.

If you ever want to go and access the equity from the property you own with a friend or family member, you've got to go onto the application with them. And at that point, you won't have a co-borrower and you can't actually bring a co-borrower into it when you own it with a third party. So you don't even have the borrowing power as an individual with that third party while still disclosing all the debt that you have with your spouse. So you're not even going to be able to get equity out of that property. Right.

So not only do you stuff yourself up in that first example we gave, but then when you expand it with your spouse and you come back to get equity from the first one, it's made harder because the spouse debts looked at differently too now. Yeah. So all roads lead to selling it, right? All roads lead to selling it. And if they got the right advice from the get-go, they would have been prepared for that initially and say, look, we have to get this together.

We don't have the borrowing power. We're doing it together. So we limit our risk and we just want to do it together. And one day we're going to sell it and go our separate ways, right? If they knew that initially, it would be a lot easier for them to make the decision when all roads lead to, we should probably sell it.

But when they get to that point and quite often one person wants to sell it, the other person doesn't. And what happens then is nothing. Like if one person wants to sell it, the other person wants to keep it, they can't do anything, right? Or if the person that wants to keep it, they can buy out the other person, but then there's other complications and disputes there. So again, nothing happens.

Absolutely. And so now what you've also touched on is that you now are trying to plan for a new scenario you didn't think of initially. And disruptions to plan always paralyzes people because you're like, oh, get stuck, not sure what to do. But you see, one of the big things that I'm picking up there is that the lending on the front end, firstly, you're mucking that up down the track. The second part is your lending if you have spouses and things come into the picture, you're also impacting there.

But let's just say you're someone that goes, oh, but there's a few banks that can do it. People miss this point. The advantage to scaling a portfolio is that you have as many banks as possible in your pool to select so your broker can work your magic. And that's how you guys do it for people. You're able to work your magic out to go, we've got a full pool.

But if a customer is coming to you and you're going, well, because of your situation, I can't get you that magic strategy with another bank. I can't get you that refinance and an equity because it might only be three or four lenders now out of your 30 or 40 lenders that suddenly go, yeah, we'll acknowledge them with their half ownership, half income, half debt. And that's a nightmare for a portfolio. Yeah, you're still going to run into those other issues though. And people say that you do it to minimize the risk, which is basically just having less repayments attached to it.

But what about the risk of opportunity costs when you've got all this equity tied up in a property that you can't use? That's risk. So basically what we're getting to is if you're in a position where you're about to make a decision like that, there are things that you can do to mitigate your risk and certain structures that you could implement. So looking at like if you're purchasing with family specifically, you can buy in a family trust with a corporate trustee. You can own 50% of the trustee company each.

Then the debt attached to that property is going to be not against your personal name. It's kind of just in a company structure. You will avoid the full debt being expensed and half the rental income. You'll avoid that situation, but you'll still run into the problem of having a portfolio outside of that and then having to go and do a trust application to access the equity and having to disclose all of your other properties. So you're still going to run into that issue, but at least then when you sell it, there's some flexibility with minimizing capital gains as well if it's in a trust.

Yeah, and I think with the trust as well, again, you'll open up more options of banks now because it's not just going to be the first batch of banks only that do that separation of the personal name debts, but you have more banks now from not only the separation there, but you also have more banks that may exclude some trust-based debts, right?