The word “investor” is quite a general term that means different things to different people. Dictionary.com defines an investor as “someone who commits capital in order to gain financial returns”. So what does this mean in terms of real estate investing?
There are three types of investors: lending, equity and hybrid (or combination). Here is a breakdown of these three types of investors:
A lending investor is someone who will loan you money on a real estate deal. You will pay them an interest rate and you retain 100 percent ownership of the property. You will pay them back on certain terms at a certain time.
An equity investor is someone who will give you the money but they want a percent ownership in the property. In return, they get a percentage of the cash flow and a percentage of the appreciation. They are going to cost you more money but they may have some other benefits such as not requiring any monthly cash flow.
A Hybrid or combination investor is someone who can receive an interest rate and equity participation in the project. From the investor’s point of view, whether they choose to be a lending, equity or hybrid investor depends on their needs. We are talking about mutual needs.
Do they need monthly income or do they desire something for the future? It is a meeting of the two objectives and this is where you get down to their investor profile. You want to match your investment product to their profile. The documentation for the type of investor will vary. This is in reference to once they have committed to the multifamily deal and the documents that you will put up to define the transaction and to create the promissory note and security instrument. This will be easier with a lending investor.
All three of these types of investors have merit. As a general rule, lending investors are preferred because you do not have to pay as much return. Equity investors are going to end up costing you more money but they may have the benefit of not needing any monthly cash flow.
One type of investor is not necessarily better than another. It really is dependent on what suits your needs at that point in time. Generally speaking, you will pay less return with a lending investor. Knowing what investor you need to deal with on a project is very important. If you know the type of investor you are dealing with then you will know how to “package” the product. You will be able to determine how to match your investment product to their needs and meet your needs as well.