What Is a Real Estate Limited Partnership (RELP)?
A real estate limited partnership (RELP) is a limited partnership (LP) organized to invest in real estate. As with the limited partnership business status, the RELP has a general partner who assumes full liability and limited partners who are only liable for the amount they contribute. Typically, a RELP is organized with a corporation, experienced property manager, or real estate development firm as the general partner. Other outside investors are sought to provide financing for the partnership in exchange for an investment return as limited partners.
Understanding Real Estate Limited Partnerships (RELPs)
The limited partnership structure is one of several structures small entities can take on. Like all partnerships, a limited partnership is not required to be taxed but rather passes on all income through K-1 reporting. For tax purposes, the limited partnership must complete informational return Form 1065 and provide K-1 reports to all partners receiving income.
In terms of liability, limited partnerships, like limited liability companies (LLCs), have some legally binding liability obligations associated with their structure. Limited partnerships must have a general partner and limited partners. General partners have full liability for all partnership debts. Limited partners are only liable for contributions that they make.
- RELPs are limited partnerships organized to invest primarily in real estate.
- RELPs include a general partner and limited partners with differing liabilities and risks of loss.
- RELPs can provide a unique opportunity for investors to invest in high return, targeted investments within a real estate niche.
- As partnerships, RELPs are not taxed but rather pass on all income to their partners who must report taxable income individually.
RELPs are typically setup as an entity that provides the opportunity to invest in a diversified portfolio of real estate investments. As such, they serve as one of many options for investors looking for real estate investment exposure. Although they are uniquely structured, they can be comparable to real estate investment trusts, managed real estate focused investment funds, and other standard real estate portfolio options.
With their unique investment structure, RELPs have many of their own attributes. They come with detailed partnership agreements which define the terms of the entity and investment opportunity overall. In many cases, they target high net worth, intermediary, and institutional investors. They may also require accredited investor status. RELPs offer a unique opportunity to invest for relatively high expected returns but also come with risks that usually limit them to sophisticated investors.
Most RELPs will invest with a targeted real estate focus. They can provide a business structure for construction of an entire real estate development such as a new residential neighborhood, shopping center, or business plaza. Oftentimes, RELPs are created by real estate investment managers seeking to gain from a targeted real estate niche like senior housing, diversified shopping centers, or high value commercial properties.
RELPs can provide for somewhat greater flexibility in the investments within the portfolio. As such, RELPs may include direct investment in real estate properties, credit issuance for real estate borrowers, proportional capital investments, or capital investments as part of a collaborative business deal.
The general partner usually has a vested interest in the partnership overall and provides a portion of the capital. General partners will have a more direct role in the management of the business with general partner affiliates often serving on the board of directors and involved in the day to day management of the business. Overall, general partners hold the active decision-making authority in the arrangement, with the power to structure the governance as they wish.
Limited partners have the limited liability. This usually comes with little influence or involvement in the entity’s governance. However, some entities may setup advisory boards or other means of communication which provide for insights and participation from limited partners. Generally, limited partners primarily invest in the entity for the returns expected from the investments over time. Typically, they choose to invest in the entity because they believe there is a high potential for return in the real estate sector the business plans to focus on.
As with the limited partnership structure, limited partners receive dividend distributions along with pass through income annually which constitutes part of their return. Many limited partnerships will have a fixed term lifespan which means partners receive their principal at maturity date.
Liability structuring is common among small entities. In a limited partnership, the limited partners are only liable for the contributions they make to the business entity. There is no protection for their contributions and their greatest value at risk is only the investment value they make. This means they can lose their entire investment but nothing more.
The general partner is liable for all of the entity’s remaining obligations. Like the limited partner they could lose their entire investment. Moreover, they are also obligated to pay any other debts that arise from the business, such as debts on borrowed funds, mortgage payments on properties, or administrative real estate costs.
Risks and Returns
RELPs can have high returns along with some alternative types of risks which makes due diligence on these investments important. Oftentimes, investors are required to commit to a contribution schedule over time. They may also be required to make contributions as called upon. This can create a need for special capital planning. Also, funds invested in a limited partnership are usually illiquid, meaning the investor cannot liquidate any portion of their investment for cash.
Each RELP will have its own partnership agreement which details the liabilities, contribution schedule, expected distributions, and expected returns. The terms of each RELP will vary depending on the provisions applied by the general partner. As a limited partnership, the above discussed liability structure is required.
Most RELPs will have a minimum contribution required by investors. Investors may be able to provide their contribution in a lump sum or scheduled contributions may be required over time. Investment contributions are typically structured as ownership rights which makes an investor’s distributions and returns proportionate to the amount they have invested.
Like all partnerships, limited partnerships are not required to pay taxes. Instead, limited partnerships pass through all net income (or losses) to their partners annually. This requires the partnership to file a Form 1065 informational return with the Internal Revenue Service and to report all distributions of income through individual partner K-1s. All of the partners in the business receive distributions throughout the year and a distribution of income annually. The partnership is responsible for providing each partner with a K-1 which details the income they have received for the year. Partners are then required to report their income individually as appropriate. Oftentimes, partners are individuals who will need to report their income on their 1040. Partners may also be corporations who would then need to report their income on their Form 1120. Regardless, all income is taxable for the partner but the partnership has no tax liability as an entity.