17 th Annual REAL PROPERTY SYMPOSIUM THURSDAY, MAY 4 1:30 p.m. 3:15 p.m. SPECIAL INVESTORS AND INVESTMENT STRUCTURE GROUP: INVESTORS BEWARE - WHAT DOES NOT KILL YOU MAY NOT MAKE YOU STRONGER GROUP CHAIR: James C. Wine Nyemaster Law Firm, Des Moines, IA PROGRAM CHAIR: Richard F. Warren Boult Cummings et al, Nashville, TN SPEAKERS: INVESTMENT STRUCTURE ISSUES FOR LIFE COMPANIES AND PENSION FUNDS Gerald Hoenig Alpharetta, GA James Spitzer Holland & Knight LLP, New York, NY REVIEWING AN LLPC AGREEMENT FOR YOUR INVESTOR CLIENT Eugene L. Grant Davis, Wright Tremaine LLP, Portland, OR Beat U. Steiner Holland & Hart, LLP, Boulder, CO Richard Warren Boult Cummings et al, Nashville, TN - 143 -
WHAT TO CONSIDER IN A REAL ESTATE LLC Beat U. Steiner Holland & Hart LLP 1800 Broadway, Suite 300, Boulder, Colorado 80302 bsteiner@hollandhart.com 303-473-2736 TYPICAL QUESTIONS FOR A REAL ESTATE LLC 1. Is the LLC limited to one project? 2. What is the planned project? 3. Member-managed or manager-managed? 4. Name? 5. Where is principal office? 6. Who is registered agent? 7. Who has agency authority for the LLC? Any limitations on agency authority? 8. Limited term of duration or perpetual? 9. What is the agreed value of the assets when they are contributed? 10. Will the member(s) contributing assets solely be responsible for existing property conditions (e.g., title, environmental, building defects, legal violations, etc.) or do they become LLC responsibilities? What due diligence has been done? Is the LLC getting any representations and warranties? 11. Will the member(s) contributing assets be obligated to put in cash in addition to the assets? 12. How much money does a money participant have to commit to the LLC? 13. Is anyone getting an interest for services? 14. What happens if the initial money commitment from the member(s) is not enough? Are additional capital contributions voluntary or mandatory? 15. What happens if a member fails to make a required capital contribution? 16. Can your interest be diluted? 17. How will operating profits be allocated? 18. Will income be subject to self-employment tax? 19. Will gains be taxed at ordinary rates or capital gains rates? 20. Will there be any preferred returns? 21. Will there be any guaranteed payments (e.g., interest on capital)? 22. Is anyone paid any salaries or fees? 23. What costs are reimbursed by the LLC to the parties? 24. When will distributions of cash be made? 25. Will there be tax distributions? 26. How will operating losses be allocated? 27. How are profits and losses allocated upon liquidation? More or less the same issues apply regardless of what form of unincorporated entity you choose. 1-144 -
28. Will there be any special allocations for tax purposes (e.g., built-in gain on the assets allocated to the member contributing assets)? 29. Are members allowed or required to make loans to the LLC? Will there be third-party financing? 30. If there is third party financing, will the members or managers agree to be personally liable on the loan? 31. Will the assets secure the third-party financing so they are at risk of being lost in foreclosure if the deal does not work out? 32. Who will manage the LLC? What are their qualifications? 33. Can a manager resign? 34. How is a manager replaced? 35. Will there be meetings? 36. What decisions will require the consent of all members? What decisions require a supermajority? 37. What vote or approval is required to amend the operating agreement? What is required to amend a provision requiring supermajority or unanimous approval? 38. How is the decision to sell made? 39. Who decides when the LLC dissolves? 40. What services will each member or manager provide (as opposed to contracting them out)? 41. What is each member or manager required to accomplish by when? 42. How much time is each member or manager required to devote to the project? 43. Are there any pre-approved affiliate contracts? 44. Are there any non-competition provisions? 45. Who handles the books and records? Do you always have access to them? 46. Are audited financial statements required? 47. Who handles the funds? Are they in a separate account? Any restrictions on how funds are handled? 48. What reports will the members get? 49. Who is the tax matters partner (who signs the tax returns)? 50. What is required for other parties to join the LLC? How are new members added to the LLC? 51. May a member transfer its interest in the LLC? Are transfers for estate planning permitted? 52. Are there any rights of first refusal? 53. What happens on the death of a member? Upon a bankruptcy? 54. May a member withdraw or be expelled? If so, what does the member get on withdrawal or expulsion? 55. May a member pledge its interest in the LLC for financing? 56. Can a deadlock occur? 57. How are disputes resolved (litigation, mediation, arbitration)? 58. What remedies are available for a party's default (e.g., damages, liquidated damages, change in management rights, buy outs)? 2-145 -
59. May one member buy out another member (at any time; after a specified time; following a deadlock)? If so, how (put and call; option; default purchase)? 60. Any special considerations for the deal? MY TOP TEN 10. How much money are you going to have to put in? Is there a cap on required capital calls? Are you required to guarantee debt? Are you required to indemnify anyone? What happens if the LLC runs out of cash? 9. How do you get out? When can you get out?a good operating agreement is like a prenup. 8. Who controls the LLC? How much control do you have? What vote does it take to amend the agreement? 7. How are deadlocks resolved? Is a tie-breaker appointed? Is there mediation, arbitration or just litigation? Is there a buy-sell or a put-call? How will you fare in a deadlock situation? 6. How do the tax provisions work? Do they deal with built-in gain, the effects of non-recourse debt, tax elections, special allocations? Have selfemployment tax issues and opportunities for capital gains been considered? 5. How does the money come back to you? How are distributions determined? Will the distributions at least be adequate to cover any tax obligations? 4. Is this your deal? Are the allocations of profits and losses correct? Are there preferred returns? What fees are payable? What payments are guaranteed? Are the liquidation priorities right? 3. How limited is your liability? Can the limited liability shield be blown away easily? Have the articles/certificate of organization been filed? Is the entity adequately capitalized? Does it have a separate bank account? Are all its funds kept separate? Does it do business only in its LLC name? 2. Is the deal in writing? Is the whole deal in writing, or are there unstated assumptions and terms? Is it signed? Did everyone sign? 1. Do you really want to do business with these people? An ounce of good will is worth a ton of lawyering. 3-146 -
SPECIAL INVESTORS GROUP PROGRAM "Investors Beware: What Does Not Kill You May Not Make You Stronger" San Diego, California Thursday, May 4 Local Counsel Representation: Issues and Experience Eugene L. Grant Davis Wright Tremaine LLP My work for institutional type clients such as life insurance companies and pension funds has been as local legal counsel, since I work in a secondary market without any of these type of clients being headquartered there. Most of my work for such clients has been regarding leasing and managing investments in commercial buildings. Over about 25 years of doing this type of work, I have learned that each client has its own company culture and business model that has to be understood and respected to succeed with the client. In most cases these clients have their own in-house legal counsel who handles the purchase and sale of the buildings with fairly minimal involvement of local legal counsel. My work on sales and financing transactions has been almost always been representation of the borrowers in loan transactions involving such institutional investors and occasionally the representation of a building purchaser from an institutional seller. These institutional clients usually have standard form documents developed by their in-house legal departments that they insist we use on all their transactions. I have found these clients unwilling to authorize or allow any changes beyond those essential to comply with unique local legal requirements. These lease forms tend to be excessively long and landlord oriented to the extent the lease form can be a material impediment to the local brokers procuring tenants for the buildings. This one-size-fits-all mentality of these institutional investors results in lease documents that are often really out of character with the local marketplace and the smaller nature of the leases and buildings in secondary market investments. Recently this kind of client sent out a new version of their already long lease form with extensive additions regarding risk allocation for mold conditions occurring in the premises and building. The provisions were sprinkled all through the lease in at least 10 or more places, including the indemnity and hold harmless provisions. All of these new provisions were not especially tenant friendly clauses. In the next three or four large lease transactions for the local project, these mold provisions became a source of major concern to the tenants and extensive redrafting by the attorneys resulted. At the end of these transactions, even the client representative was beginning to admit that their in-house lawyer may have gone overboard on the insertion of these mold provisions, which literally cost the landlord thousands of dollars in legal fees just on this one project with the result that the provisions were largely neutralized by the changes. Multiply that by a hundred projects and you have quite an expensive lease form problem. Since I have been unable to persuade clients to use simpler lease documents of the type typically used by local building owners in the marketplace, the only alternative has been to work with the brokers and tenants in a cooperative fashion to demonstrate to them that the landlord is willing to PDX 1413356v1 88-88 1
make the changes necessary to make the final lease acceptable to both parties. That can be a particular challenge to accomplish without generating invoices for legal fees objectionable to the client. My experience has been that the clients and even more so, their brokers, want me to find ways to make the deals succeed even to the point of making many changes in the standard form lease documents, provided I can get the deal negotiated for a fee that does not get too out of hand relative to the size of the lease. This dilemma of making the many changes necessary to satisfy the tenant without incurring too much in legal fees can be solved in part by making the tenant s attorney do a fair share, or even most, of the drafting of the changes. In a perfect world it would be desirable to be in control of the drafting of changes to the lease documents, but that is nearly impossible for smaller leases where the tenant of a relatively small space is very sophisticated and only willing to lease if many changes are negotiated in the lease documents. Often times Fortune 500 corporations are leasing relatively small premises for branch offices, and insisting on negotiating the lease at nearly the same level of detail and number of changes you typical for the lease of very large premises. Such a transaction can be very challenging if working with an in-house attorney who is not required to keep a time sheet and answer to a cost conscious client. With respect to loan and purchase transactions, in which I typically represent the local borrower or buyer, I have experienced a big difference between dealing with local parties and out-of-state life insurance companies and pension funds. Generally speaking the local transactions are not big enough to justify much negotiating and revising of the documents in the eyes of the lender or seller. Usually I am dealing with an in-house attorney who is relatively reluctant to make changes and who in turn is answering to business people who perceive the local borrower or buyer as having little leverage to negotiate any changes. Of course it is all relative. Life insurance and pension funds are typically much more flexible and negotiable than the attorneys for a lender on a securitized loan transaction. The price of the more favorable terms on a securitized loan is a take it or leave it set of loan documents and loan requirements often including hefty reserves. Some clients have questioned the wisdom of their choice of a securitized loan after going through the experience as compared to prior transactions with a life insurance company or pension fund type lender. Local lenders in Oregon have exploited the demand for more friendly, flexible and cooperative loan transactions that is unsatisfied due to the difficulties and limitations inherent in borrowing from large institutional lenders. For example one of the fastest growing local banks in my marketplace is Umpqua Bank which started in the relatively small southern Oregon timber town of Roseburg, Oregon. Over the years Umpqua Bank has cultivated a customer friendly service mentality that has made it highly successful in the larger Portland, Oregon, market. This is just one example of the many instances where smaller local firms are satisfying the demand for flexible and friendly real estate lenders who will be more responsive to the needs of the smaller borrowers so typical of a secondary marketplace like Portland, Oregon. PDX 1413356v1 88-88 2
ABA Panel Presentation Eugene L. Grant Spring Symposium My work for institutional type clients such as life insurance companies and pension funds has been as local legal counsel, since I work in a secondary market without any of these type of clients being headquartered there. Most of my work for such clients has been regarding leasing and managing investments in commercial buildings. Over about 25 years of doing this type of work, I have learned that each client has its own company culture and business model that has to be understood and respected to succeed with the client. In most cases these clients have their own in-house legal counsel who handles the purchase and sale of the buildings with fairly minimal involvement of local legal counsel. My work on sales and financing transactions has been almost always been representation of the borrowers in loan transactions involving such institutional investors and occasionally the representation of a building purchaser from an institutional seller. These institutional clients usually have standard form documents developed by their in-house legal departments that they insist we use on all their transactions. I have found these clients unwilling to authorize or allow any changes beyond those essential to comply with unique local legal requirements. These lease forms tend to be excessively long and landlord oriented to the extent the lease form can be a material impediment to the local brokers procuring tenants for the buildings. This one-size-fits-all mentality of these institutional investors results in lease documents that are often really out of character with the local marketplace and the smaller nature of the leases and buildings in secondary market investments. Recently this kind of client sent out a new version of their already long lease form with extensive additions regarding risk allocation for mold conditions occurring in the premises and building. The provisions were sprinkled all through the lease in at least 10 or more places, including the indemnity and hold harmless provisions. All of these new provisions were not especially tenant friendly clauses. In the next three or four large lease transactions for the local project, these mold provisions became a source of major concern to the tenants and extensive redrafting by the attorneys resulted. At the end of these transactions, even the client representative was beginning to admit that their in-house lawyer may have gone overboard on the insertion of these mold provisions, which literally cost the landlord thousands of dollars in legal fees just on this one project with the result that the provisions were largely neutralized by the changes. Multiply that by a hundred projects and you have quite an expensive lease form problem. Since I have been unable to persuade clients to use simpler lease documents of the type typically used by local building owners in the marketplace, the only alternative has been to work with the brokers and tenants in a cooperative fashion to demonstrate to them that the landlord is willing to make the changes necessary to make the final lease acceptable to both parties. That can be a particular challenge to accomplish without generating invoices for legal fees objectionable to the client. My experience has been that the clients and even more so, their brokers, want me to find ways to make the deals succeed even to the point of making many changes in the standard form lease documents, provided I can get the deal negotiated for a fee that does not get too out of hand relative to the size of the lease. PDX 1413356v1 88-88 1
This dilemma of making the many changes necessary to satisfy the tenant without incurring too much in legal fees can be solved in part by making the tenant s attorney do a fair share, or even most, of the drafting of the changes. In a perfect world it would be desirable to be in control of the drafting of changes to the lease documents, but that is nearly impossible for smaller leases where the tenant of a relatively small space is very sophisticated and only willing to lease if many changes are negotiated in the lease documents. Often times Fortune 500 corporations are leasing relatively small premises for branch offices, and insisting on negotiating the lease at nearly the same level of detail and number of changes you typical for the lease of very large premises. Such a transaction can be very challenging if working with an in-house attorney who is not required to keep a time sheet and answer to a cost conscious client. With respect to loan and purchase transactions, in which I typically represent the local borrower or buyer, I have experienced a big difference between dealing with local parties and out-of-state life insurance companies and pension funds. Generally speaking the local transactions are not big enough to justify much negotiating and revising of the documents in the eyes of the lender or seller. Usually I am dealing with an in-house attorney who is relatively reluctant to make changes and who in turn is answering to business people who perceive the local borrower or buyer as having little leverage to negotiate any changes. Of course it is all relative. Life insurance and pension funds are typically much more flexible and negotiable than the attorneys for a lender on a securitized loan transaction. The price of the more favorable terms on a securitized loan is a take it or leave it set of loan documents and loan requirements often including hefty reserves. Some clients have questioned the wisdom of their choice of a securitized loan after going through the experience as compared to prior transactions with a life insurance company or pension fund type lender. Local lenders in Oregon have exploited the demand for more friendly, flexible and cooperative loan transactions that is unsatisfied due to the difficulties and limitations inherent in borrowing from large institutional lenders. For example one of the fastest growing local banks in my marketplace is Umpqua Bank which started in the relatively small southern Oregon timber town of Roseburg, Oregon. Over the years Umpqua Bank has cultivated a customer friendly service mentality that has made it highly successful in the larger Portland, Oregon, market. This is just one example of the many instances where smaller local firms are satisfying the demand for flexible and friendly real estate lenders who will be more responsive to the needs of the smaller borrowers so typical of a secondary marketplace like Portland, Oregon. PDX 1413356v1 88-88 2