Personal Finance

Can A Group Of Friends Buy A House Together

By David Krug David Krug is the CEO & President of Bankovia. He's a lifelong expat who has lived in the Philippines, Mexico, Thailand, and Colombia. When he's not reading about cryptocurrencies, he's researching the latest personal finance software. 19 minute read

My college friend group’s first homeowner acquired a rundown, two-story Craftsman on the edge of a bad neighborhood. He had his parents cosign the loan and a crew of friends help him fix up the house so that he could rent out three of the four bedrooms within a few weeks. 

Their monthly rent payments more than covered the cost of his mortgage, giving him a modest but welcome source of passive income. 

Even though my friend was more independent and resourceful than the normal 20-year-old, his experience was not unprecedented in those days. And neither was buying a primary residence with a non-romantic partner, such as a friend or roommate. 

Actually, if my friend’s roommates were more resourceful, they could have been persuaded to put up some of their own money as a down payment.

Co-owning properties and subletting unused space within privately owned residences have both seen a rise in popularity since then. We’ll take a closer look at the factors at play, the pros and downsides of co-ownership, and the things would-be co-owners should think about before making the leap.

Why Co-Ownership Is Getting More and More Popular

People in the United States are delaying marriage at a record rate. Since 1960, the average age of a bride in the United States has risen by nearly seven years, as reported by the Census Bureau.

At the same time, Yardeni Research claims that the rate at which new households are being formed is at an all-time high, not seen since the 1980s. The percentage of one-person homes has increased by almost 100% between 1960 and 2014, according to a report published in 2015 by Deloitte Insights. 

More and more Americans are living alone, and this trend is expected to continue for the foreseeable future.

Cities like San Francisco, Denver, and Washington, DC have seen an increase in apartment construction since the early 2010s as a result of rising demand coupled with falling mortgage rates. Apartments in older urban centers with plenty of amenities have seen a surge in demand from millennials and members of the next generation who are hesitant to buy homes on their own.

The demand for homes to be occupied by their owners has also increased dramatically. According to data from the Federal Reserve Bank of St. Louis, the median home sale price has increased from $222,900 in the first quarter of 2010 to $331,800 in the first quarter of 2018. 

Even more so in flourishing urban centers, appreciation has been pronounced. Trulia reports that the median sale price of a home in San Francisco has increased from $655,000 in January 2010 to $1.35 million in January 2018.

Homeownership has never appeared more out of reach for the millions of single millennials and Gen Zers leading urban, single-income households, especially those with substantial student loan debt. A lot of people in cities with high rents end up renting with roommates well into their 30s and 40s because they just can’t afford to move out on their own.

Still, not everyone is so eager to strike out on their own. Many people who are renting continue living with their current roommates or locate new ones even if their financial situations improve. Some couples decide to buy a home together and live in it together. It’s tempting to consider buying a home with a friend or acquaintance when you realize that your present income won’t allow you to do so alone.

Potential dangers abound as well. A home purchase with someone who you are not in a legal domestic partnership with is not something to be taken lightly, regardless of how long you’ve lived with your future roommate.

Benefits of Buying Real Estate With a Friend

For what reason would you want to invest in real estate with a friend or two? Some of the most noticeable benefits are as follows:

1. Two Incomes Are Preferable to One

Single purchasers on a single income, even a comfortable one, may be limited in their property choices in high-priced cities. Having two or more sources of income makes it much more likely that you will be able to save for a 20% down payment and make potentially large mortgage payments over the years.

2. It’s More Likely to Own an Income Property

Homeownership is likely to be even out of reach on a single income if you plan to acquire a duplex or larger single-unit property with room for renters.

3. Mortgage Eligibility May Be Simpler

Lenders check the credit and income of everyone whose name will appear on the deed to the property. If the group’s credit score is generally high, you should have an easier time being approved.

4. Sellers May Find Your Offer More Alluring.

If you can pool your resources, you may be able to make a higher down payment or pay the property off in full. Generally speaking, sellers prefer offers that include a large sum of cash.

5. Possibility to Increase Equity

With each principal payment, a homeowner increases their equity in their home. If you can’t see yourself ever being able to afford a home by yourself, purchasing with a buddy or pals is your only option for establishing a solid foundation for your financial future.

6. The Costs of Homeownership Are Constant But More Controllable

A good rule of thumb is that annual maintenance costs should amount to around 1% of the home’s worth. In high-priced areas, where purchasers typically pay more per square foot, this proportion could be smaller. No matter how small, every contribution toward the bill is appreciated.

Drawbacks of Purchasing Real Estate With a Friend

Should you have second thoughts about buying a house with a non-romantic spouse or a friend? Consider these potential drawbacks:

1. Illiquid Real Estate

Severing your stake in a jointly owned home is not something you can do immediately, and selling the full house or unit is likely to take months, even with extensive exit procedures included in your contract.

2. Having a Mortgage May Affect Your Eligibility for Other Loans

If you have a large mortgage loan on your personal balance sheet, it could increase your debt-to-income ratio to a level that is unfavorable to lenders. Consider whether now is the ideal time to buy a home if you are planning to apply for other types of credit (such as a car loan, credit card, or personal loan) in the near future.

3. Your Financial Situation May Be Affected by Your Partner’s Uncertain Financial Situation

If you’re thinking of buying a house with a buddy, this is one of the biggest dangers you face. You can’t manage your friends’ finances, not even with complete transparency. Your credit score may be negatively impacted if you fail to make your payments on time.

4. Equal Ownership May Lead to Deadlocks

Shared ownership between two people can lead to disagreements and stalemates. This highlights the significance of ensuring compatibility with a potential co-owner prior to making a joint real estate investment. Your long-standing friendship is priceless, and you should never risk it.

5. Uneven Ownership Can Produce a Power Disproportion

Conflict is still possible despite unequal ownership. You may feel intimidated or disregarded as a minority owner.

6. Incorrect Titling Can Put Your Stake in Danger

You are not a legal owner of a home, even if you pay a portion of the mortgage and live there unless your name is on the title or you are a legal owner of a share in the business company that owns the asset. Thus, it is crucial to formalize the arrangement and acquire a legal title to the property, even if you are good friends with your co-buyer.

What Should Be in an Operating or Co-Ownership Agreement?

You should always protect your interests with a co-ownership agreement that lays out the specifics of your ownership arrangement, no matter how well you know your partners. It’s like a more limited version of a cohabitation agreement you might sign with your domestic partner. 

To the same extent, the operating agreement of a formal business company, such as a multi-member LLC, created to hold the asset has the same effect.

Inexpensive, standard co-ownership agreements are available online. For less than $25, NOLO offers legal advice for unmarried couples, and for less than $30, they compile legal papers for small businesses. Verify that the terms of your agreement are in line with local regulations.

With the complexities of real estate ownership and the breadth of potential issues, it is highly recommended that you have a real estate attorney draft a co-ownership or operating agreement that is specific to your needs.  An attorney-drafted agreement may cost several hundred dollars or more, but that’s a modest thing to pay to safeguard such an investment.

The following are important details that should be spelled out in your co-ownership or LLC operating agreement.

1. Ownership Organization

You and your co-owners must first decide whether to form a limited liability company (LLC) or to hold the property in an unincorporated ownership arrangement.

In order to take any kind of decisive action, you should consult with a real estate attorney and a tax expert. However, you should know that LLC ownership isn’t always the best choice for rental properties. 

Your principal residence may not qualify for a homestead exemption if it is held in an LLC, but standard homeowners’ insurance should cover most liability concerns that arise in the course of owner occupancy.

A properly established LLC can shield members from personal liability and provide significant financial benefits via business expense tax deductions if your company wants to acquire one or more income-producing assets. 

First-time buyers with minimal funds should be aware of a key caveat, however; Lenders are less likely to provide mortgage loans to businesses that have few or no assets, and they may demand repayment in full if you transfer ownership to the business after you’ve already made the purchase.

The most foolproof method to avoid this is for the LLC to pay cash for the property. This is an unrealistic expectation for first-time purchasers with small money, even if they pool their resources with several people. However, the down payment requirements for investment houses are typically greater (25%) than for primary residences.

2. Ownership Structure

Partners who do not form a corporation often utilize one of two ownership structures when purchasing a home together:

Joint Tenancy

All of a joint tenant’s ownership interests in a property are transferred at once, on the same deed. There is no need for probate proceedings when one joint tenant dies and his or her share automatically passes to the other joint tenants on an equal basis under the law of survivorship.

Joint tenancy changes to tenancy in common when one tenant sells or gives up their share to another. Married and unmarried domestic partners are more likely to hold property in joint tenancy than strangers.

Tenancy in Common (TIC)

When a property is held in tenancy in common, ownership interests can be held by more than one person at a time and acquired at different times. For illustration, the following could be the case for a tenancy in common between three people:

  1. In January of Year 1, Owners A and B each buy a 50% stake in the property.
  2. In January of Year 5, Owner C purchases 50% of Owner B’s shares, making Owner A the sole 50% owner and Owners B and C equal 25% owners.

Without a preexisting right of survivorship, a tenant in common’s share of ownership passes to their estate and subsequently to their heirs upon their death. However, a “right of first refusal” language in tenants in the common agreement can give the partnership priority over the heirs of the tenants in common members.

3. Insurance

Property liability protection is typically enough for owner-occupied, income-producing homes under standard homeowners insurance policies. However, if you plan to lease to people who aren’t also owners, you’ll need some extra coverage, such as landlord insurance or umbrella insurance, depending on your ownership structure. 

To learn more about landlord insurance, read Allstate’s guide. Personal umbrella policies are a need. Get advice from your insurance agent on the minimum coverages that make sense, and include that in your agreement.

4. Share of Ownership

You can only use this with a corporation or a tenancy in common. For simplicity’s sake, let’s say that two people are forming a partnership and decide to split ownership evenly. However, many partners agree to designate one of them as the property manager, who will be in charge of things like day-to-day management, major repairs, and ensuring that the building complies with all applicable regulations.

The partners’ stakes in an LLC or a TIC are usually equal to their respective contributions of cash or other assets to the business, whether through financing or an initial cash payment if bought outright. 

If you put in half the purchase price and your two junior partners each put in a quarter, you’ll own fifty percent of the building. Make sure all partners can afford their share of the monthly loan payment if payments are split up according to ownership percentages.

5. Ownership of Repairs and Maintenance

As was mentioned, it’s good to appoint a point person to make choices on routine repairs and maintenance, ideally in consultation with the co-owners. If you want to have tenants who are not the owners of the property, this is of even more importance. They must be aware of who to talk to in the event of problems.

You should also find reliable people who are equipped to handle this workload. Having a handyman as part of your co-ownership group is a great asset. If you don’t have any in-house resources, look into hiring outside help and gathering references.

Last but not least, you’ll have to figure out how you’ll cover the cost of upkeep and fixes. Unless you come to a different agreement, it makes sense to divide the bill proportionally among the partners’ ownership stakes.

Remember to schedule a home inspection before closing. Most serious problems that could develop in the first few years of homeownership, like a furnace or water heater nearing the end of its service life, should be uncovered by a comprehensive, professional inspection.

6. Ownership of Improvements

Never give your maintenance contact the authority to order expensive renovations for your house without consulting with you first. After all, not every renovation pays out a higher sale price. 

Unless the ownership is unequal, a consensus-based structure is the best choice for a partnership with only two people involved. Votes should be weighted in groups with more than one member in accordance with each member’s stake in the company.

Votes on contentious house renovations should ideally be avoided. You should specify feasible upgrades and value-adding initiatives in your co-ownership or operating agreement, along with completion dates.

7. Duty to Provide Utilities

Utilities should probably only be in one co-name owner’s if only for convenience’s sake. It should be made clear in the operating agreement that whoever is designated to handle utility payments should do so, and that the other co-owners should reimburse them in advance of each payment’s due date. 

It may be fair to require each co-owner to pay an equal portion of water or energy costs, as ownership share is unrelated to consumption.

8. Tax Administration

Include a clause addressing how your ownership group will handle mortgage interest and property tax payments as potential tax write-offs. Many taxpayers don’t bother to itemize their deductions, so it’s important to first find out which co-owners if any, intend to do so. 

Owners who intend to itemize deductions must determine whether to do so jointly or individually, and whether to split the deductions among themselves in proportion to their ownership interests. If you need help figuring out your tax obligations, speak with a specialist.

Expenses incurred in maintaining a home can be deducted from a company’s profits, but only if the corporation owns the property. Shareholders can often deduct their proportional share of allowed costs. 

You may be allowed to deduct your portion of home-related expenses like insurance and utilities if they are necessary for the operation of your business, although this list may be shorter than the list of personal deductions. Yet, this advantage might be nullified by the elimination of the homestead exemption. You should consult a tax expert before finalizing this provision.

9. Tenant Administration

If the property has spare rooms or units, you’ll need to decide if you’ll rent them out to people who aren’t the owners, and if so, you’ll need to include details about tenant management, such as:

  • A renter-specific bank account is one that is set up specifically for the purpose of receiving and dispersing rent payments and handling expenses incurred by the landlord on behalf of the tenant.
  • Share of rental income to be allocated to individual owners
  • Appointing a point of contact for renters
  • Establishing rents with provisions for price hikes
  • Making a template lease agreement that can be adjusted for each new tenant
  • Considerations for future decisions concerning tenants, such as whether or not to stop renting to people who are not owners.

10. A Plan of Exit

In order to facilitate the entry and exit of owners, your co-ownership or operating agreement must be explicit and comprehensive. Some of the contingencies that these plans must include are:

  • A co-owner’s death with or without a will
  • A co-owner’s wishes to sell their stake in the property
  • A co-owner’s unexpected financial hardship

Co-ownership agreements often include a right of first refusal clause for unrelated co-owners. In the event of the death of a co-owner or the co-desire owner to sell their share, the surviving co-owners have the right of first refusal over the heirs or successors of the deceased or leaving co-owner. 

They have the option of purchasing the share before it goes to a family member, for instance.

In this section of the contract, you should also address any concerns, such as:

  • How much notice a leaving co-owner is expected to give before selling or transferring their stake When co-owners can remove a problematic partner from the agreement
  • Appraising the property’s current market value before selling a portion of an ownership stake or the full home.
  • For instance, in the case of a buyout, would the remaining co-owners pay for it in proportion to their respective ownership interests as of the time of the buyout?

Additional Factors for Co-Owners

Although it may not be written in your co-ownership or operating agreement, you should give serious thought to the following issues before purchasing real estate with a friend.

1. Local Regulations

In some areas, it is illegal for more than a certain number of unrelated persons to share a home. My hometown of Minneapolis, for instance, previously enforced a zoning restriction that restricted households to no more than five people, none of whom were linked to each other. 

Co-ownership groups with two people are generally legal everywhere, but you should check to make sure that yours abides by local regulations if your group is greater than that.

2. Timeline

How long do you plan on staying at this location? Disagreements may arise in the future despite the fact that an exit strategy has been written out in writing. Your partnership is a time bomb if you want to leave in five years but your spouse wants to stay for twenty and neither of you can afford to buy the other out.

3. Lifestyle

When it comes to living arrangements, I can attest that “opposites attract” isn’t true. You probably wouldn’t want to spend the better part of a mortgage term with a troublesome flatmate if you wouldn’t put up with them for a year on a lease. 

Have open discussions with potential partners before adopting a joint property ownership arrangement, covering topics like:

  • Smoking habits
  • Pet ownership
  • Social life to the extent that it affects other owners or tenants; for instance, frequent guests or parties at the house

4. The Mortgage Rate

Lenders don’t just look at the highest credit score on the deed when deciding on multi-buyer mortgage applications. The scores of the buyers are typically averaged under normal conditions. The loan rate you’ll get on a joint purchase of a home will be affected if your credit score is higher than that of your co-buyers.

5. Credit Rating Danger

As a result of having equal ownership, one must share the burden of making decisions. Not everyone living in a shared household is responsible for their fair share of the bills. 

Your credit score could take a hit if one of your co-owners falls on hard times and stops making payments and if the rest of the owners are unable to help out. If payments on a loan are consistently late, the lender may decide to foreclose.

6. Debt to Income Ratio

If you have a mortgage and you and one or more others are cosigning it, you are still fully responsible for the loan. The complete unpaid balance of the loan is factored in, not simply the amount you pay each month when determining your debt-to-income ratio by credit bureaus. High levels of debt in relation to income make lenders concerned. 

The Consumer Financial Protection Bureau states that a maximum debt-to-income ratio of 43% is required for a qualifying mortgage, which is a loan with certain built-in consumer protections.

7. Financial Resources

Have an open and honest discussion about your individual financial situation before committing to buy a home with a friend or group of friends. You would like your credit score and, worst case scenario, your ability to keep your house not to be affected by your co-inability owners to pay their portion of the mortgage. 

Ensure that all shareholders have access to financial statements detailing the company’s assets, obligations, and income. Separately, you should review your friend’s credit score and background to see if there are any warning flags that wouldn’t be obvious from their financials.

Renting to Friends as an Alternative to Co-Ownership

Instead of buying a property with a buddy or pals and living with them, you might buy it outright and rent out rooms to them if you don’t want to live with them. One fantastic approach to make homeownership more reasonable is to live with one or more non-owner housemates and charge them fair market rent to cover the cost of the mortgage, insurance, and property taxes.

Here is a rundown of what’s involved and what the law says about renting out extra space in your primary residence.

1. Regional Regulations

If you intend to rent out a room in your home or apartment, check to see that it complies with all building codes in the area. In the case of a basement bedroom, for instance, egress windows should be large enough for a person to crawl through them.

Stricter regulations are less usual but nevertheless need to be observed. In some areas, it is illegal for private landlords to rent out rooms to people who aren’t in the household. In other jurisdictions, even owner-occupants are expected to obtain a rental license.

2. Insurance

Tenants may not be adequately protected against liability claims by a standard homeowners policy. You could save the most money by purchasing umbrella insurance. A $1 million umbrella policy will run you between $300 and $600 annually, as reported by the Insurance Information Institute.

3. Checking Tenants

The fact that they are your pals does not excuse you from exercising caution. Apply the same screening procedures to them as you would to new tenants. Prices for these reports shouldn’t exceed $50 per; if you’re feeling kind, you can even cover that yourself.

4. Create a Lease

You can never be too cautious, to repeat. Draw up a legal leasing agreement that specifies your rights and responsibilities. 

The specifics of your living situation, such as:

  • Whether pets are allowed and the rules governing them
  • Responsibility for utilities
  • Common area access and duties
  • Rules governing overnight visitors
  • Rules governing personal space for instance, under what circumstances can you enter your tenant’s room, and how much notice must you give?
  • Security deposit collection, return, and forfeiture

5. Taking the Security Deposit

Accidents can happen to everyone, no matter how responsible their friend seems to be. Take the money for the deposit.

Landlords can typically request a security deposit equal to one or one and a half months’ rent, though the specifics vary by state. The lease should detail where the money will be kept (escrow) and what conditions will result in a reduced return of the security deposit.

Advantages of Renting Rooms to Friends

Why did charge friends rent for a spare room or apartment? These are among the greatest advantages, right up there with the apparent one of being able to pay less for your own home.

  • Your Friends Can Be Counted on. The majority of us have embarrassing tales about lousy roommates. Even if friends can make awful roommates, the fact that you already know them on a social level should at least give you some idea of how they’ll behave in close quarters.
  • You’re Not Required to Promote the Venue. Once your buddy has decided to rent the property, you can sign the lease without having to make your personal area available for showings.
  • Friends May Experience Peer Pressure to Respect your Personal Space. Your buddies can experience social pressure to act like model tenants, despite their natural tendencies, so as not to cause any rifts.
  • Friends Could Be More Willing to Lend a hand Around the House. Likewise, if you’re giving your pals a break on rent or utilities, they could be more willing to pitch help around the house, such as by mowing the lawn, shoveling snow, cleaning up common areas, and so on.
  • Your Reported Income Rises Due to Your Friends’ Rent Payments. Even when rental revenue is taxed, money is still money. In the near future, the additional money may lower your debt-to-income ratio, which will be good for your credit score. Your rental income may eventually be used to pay for non-housing bills, home maintenance, and improvements, or it may be used to boost your tax-advantaged retirement plan.

Disadvantages of Letting Your Friends Stay in Your Room

These are some of the major disadvantages associated with renting to friends.

  • At Times, You’ll Have to Play the Villain. A situation where you have to threaten eviction or seek back rent from a buddy is the last thing you want to experience. Still, it’s on you to get ready for the possibility. If you don’t want to be the “bad guy” among your pals, you can avoid the situation by renting to strangers.
  • The Relationship may Suffer If the Power Dynamic is Imbalanced. Tenant-landlord relationships can suffer from power imbalances even if tensions never reach a boiling point. Your tenant-friend is staying in your home on a temporary basis and paying you to rent for the privilege.
  • Avoiding Establishing Formal Relations May Prove to Be a Mistake. Sometimes you just want to rent to an old pal on a handshake. If your friend does thousands of dollars worth of damage to the property or fails to pay the rent when it is due, you may be forced to locate a new tenant quickly.
  • There Could Be Pressure to Lower Your Rent or Utility Payments. You may feel forced to show goodwill by giving your friend a deal on rent or covering utility costs out of your own pocket, even if you take the responsible action of writing up a legally binding lease and receiving a security deposit. You may wish to rent to a stranger if you don’t want to feel guilty about charging a long-time friend or relative market rate rent.
  • In Order to Buy a House, you Must First be Able to Afford It. If you can’t save up enough money for a down payment, it’s pointless to try and buy a home on your own; instead, you’ll need to find some friends who are interested in buying a home with you as joint owners.

Bottom Line

Buying a home is a major choice that can alter the course of one’s life. There are several factors to think about when purchasing a home with a friend or group of friends that aren’t present when a single or married person makes the purchase.

Still, if you want to be a homeowner before you start to go gray in your 30s or 40s, you might have to buy a house with someone who isn’t a relative. Possibly you’re ready to rent forever if that doesn’t convince you to look into alternative forms of ownership.

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