Most people wish for the success of their family, while others go about creating it together. With the stock market fall wiping out the savings of millions, it sounds like the perfect time to build wealth with the people you trust the most. However, running a business with your close relatives comes with its unique can of worms.
If you’re currently investing or are considering taking up a venture with members of your kin, there are some things you should consider. What are the benefits and drawbacks of running a family business? Do you know what business essentials to cover or how to divide responsibilities evenly? For answers to these pressing questions, stick around till the end.
Advantages and Disadvantages of Investing with Family
A family business or investment is a complex system that creates room for intricate relationships. In other words, you don’t only view your spouse, parent, or child as someone close to you. They could also be your investment venture’s treasurer, marketing lead, or president. Thus, those interwoven relationships create room for many pros and cons to consider.
Advantages of Investing with Family
For many people, family is a source of stability, and it extends to business as well. In most instances, individuals tend to stick to family-run enterprises in the long run, and roles also remain the same. Often, it takes a massive trigger such as a death to shake things up and cause a realignment.
People tend to have a greater incentive to work when they know they’re doing so not only for financial compensation but for the progression of the entire family. Besides the needs of the business, individuals often have to consider the approval of their kin which can spur them to action.
Family businesses tend to have a more long-term outlook for their investments. Non-family investors would likely plan to stick around for a limited time frame, especially when things aren’t looking profitable. However, assets that primarily remain a family affair foster long-term planning that could go on for multiple decades or generations.
Inflation and economic downturns could spell disaster for many businesses. However, with a family investment, it is easier to explain and make sacrifices to keep the business afloat. Instead of cutting staff, many family members wouldn’t mind bearing some financial pullback to stabilize the company again.
Disadvantages of Investing with Family
Family Conflicts can Escalate
There’s a reason many people abstain from mixing business with blood. For several families, it’s hard to draw the line between work and family affairs. Thus, there’s always the potential of familial tension spilling into the workplace and vice versa. As a result, relationships and productivity can suffer. That’s why some investors prefer to work with a property manager to discuss business goals and avoid conflicts.
Lack of Interest
Continuity is often a problem for family-owned businesses. The enterprise could end if the children aren’t interested in managing properties or dealing with tenants. Besides, even if the next generation felt compelled to continue in the family, their apathy could compromise their decision-making. As a result, the investments would suffer either way.
Increased Chances of Mismanagement
There are higher chances of nepotism becoming a problem in a family-owned business. After all, it’s expected that ownership will continue for generations. However, that increases the chances of mismanagement. In most families, the eldest child often assumes the highest position. It could be a problem if such an individual is incapable of executing their duties properly.
Lack of a Structure
Despite the improved flexibility that family investments offer their members, they tend to lack structure. For the most part, these entities operate on trust. Thus, that often leaves room for violating internal and external rules without appropriate repercussions. As a result, lacking structure could compromise the stability of the business and lead to severe losses.
Business Essentials to Consider
Although real estate is one of the most stable forms of investment available, investors must still beware of pitfalls. Experts call real estate due diligence to perform research, inspections, and follow-up to avoid mistakes. In short, it is essentially doing your homework before committing to any decision.
In a family business, where the success or failure of the entire clan rests on the same income, it is even more crucial to get it right. In assessing potential real estate investments, due diligence should involve:
- Location analysis of the prospective property.
- Estimation of potential financial gain.
- Expense report including taxes, wages, and management fees.
- Legal repercussions.
- Review of various options.
With the results of this analysis, you should have a good idea of whether an investment is worth it. It would also be best if you considered using a more detailed due diligence checklist to help you.
Set up LLC
LLC is short for Limited Liability Company. The state recognizes it as a legal entity that allows real estate owners to absolve themselves from personal liability associated with their property. In other words, it is a way to separate your asset from your business.
For example, if a disgruntled tenant decides to sue you for a mold infestation, the chances of a win would most likely be in their forever. As a result, the court could award them reimbursement for any property damage, lost wages, or medical bills caused by the infestation. You might have to pay out of pocket to cover such expenses as an individual entity. On the other hand, payment for such damages can only come out of the business under a registered LLC.
Thus, for family investors setting up a real estate LLC is especially important because a lost suit could mean ruin for the entire family. Hence, consulting with a lawyer about creating an LLC would be wise.
Besides limiting your liability, there are other benefits to creating a real estate LLC. They reduce your tax load while eliminating the need to file corporate tax. Also, they make it easier for you to draw other partners to invest without compromising ownership.
Have an Exit Plan
Whether you plan or break out on your own or encourage a smooth transition for the family, it’s essential to have an exit plan. In business, an exit plan is the entrepreneur’s strategy to sell off or transfer ownership to someone else. For business owners, it could be a way to cash out on a fat portfolio or limit losses in times of turbulence.
A real estate exit plan is crucial for a family business because it guides your decision-making at a vital crux. Some circumstances call for quick action, which is often better when you have a preconceived solution.
Most experts recommend having short and long-term goals to guide your decision-making. For instance, if you’re investing in real estate for a profit, selling your property under certain market conditions would make sense. During a seller’s market, when houses are in high demand, you could earn maximum profit from a sale. On the other hand, if you’re using your rental properties as a retirement plan, it would be better to keep holding.
Tips for Dividing Responsibilities
Work to Your Strengths
For many family businesses, dividing responsibilities reasonably can be a challenging task. However, that is often because many people decide to assign an automatic role. For example, a family investment group might decide the oldest child should be the successor, even when they’re not well-equipped for the position. As a result, the business would suffer and could even end. Instead, it would be best to determine which family member assumes a particular role in the company based on their strengths and suitability.
Outline Clear Roles
In family businesses, there’s always the tendency for roles to overlap. Everyone could involve themselves at one point or the other in purchasing, leasing, and selling a property. However, this method often breeds room for conflict. Thus, it would be wise to outline clear roles for each individual. One family member could be in charge of dealing with tenant complaints and repairs, while the other focuses on attracting new renters.
Work with a Professional
If you’re finding it difficult to manage and divide your responsibilities fairly, you could always consult an external professional. A property manager from a reputable company could step in as an unbiased third party to settle disputes. They could also act as a seasoned advisor that can help the family navigate real estate pitfalls and maximize returns.
Unfortunately, there is no clear-cut answer when it comes to whether you should invest with your family. For some, it is a blessing and an opportunity to build a dynasty, while for others, it is a continuous source of conflict. Thus, you should weigh the pros and cons carefully before trying it out. On the one hand, it means more job stability, commitment, and flexibility. On the other hand, mismanagement can be an issue, and personal fights could interfere with the business.
Although, if you decide to go ahead with a family investment plan, it would be best to consider the crucial business essentials. Ensure you perform your due diligence through research, set up an LLC to limit your liability, and make an exit plan.
Rick Pendykoski is the owner of Self Directed Retirement Plans LLC, a retirement planning company based in Goodyear, AZ. He has over three decades of experience working with investments and retirement planning, and over the last ten years has turned his focus to self-directed ira accounts and alternative investments. If you need help and guidance with traditional or alternative investments, call him today (866) 639-0066.