6 Legal Documentations that Every Real Estate Investor Needs to Have
KEY POINTS:
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(1) IRS W-9 Form
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(2) Independent Contractor/Project Agreement
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(3) Scope of Work
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(4) Payment Schedule
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(5) Completion and liquidated damage
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(6) Other Documents (Insurance and indemnification agreement, Lien waiver, Proof of contractor License)
Investing in real estate is becoming an increasingly popular way to earn passive income. While a great deal of attention is given to important things like investing and flipping houses, much less time is spent learning about core aspects of the behind-the-scenes business environment. One of the most underappreciated areas for property owners is having an organized paperwork system. There are a number of core documents that investors should consistently obtain in order to enhance efficiency and reduce headaches in the future.
(1) IRS W-9 Form
Would you like to pay unnecessary payroll taxes for your independent contractors? Scramble to track down contact information at the last minute?
Of course not. Nobody wants these headaches. This is where the IRS W-9 form comes into play.
The W-9 is the Request for Taxpayer Identification Number and Certification. It plays an important role for people who utilize independent contractors. First, it records all the relevant information that is needed for sending annual earnings statements to contractors and the IRS. Secondly, it serves as proof of independent contractor status, meaning that you won’t find yourself on the hook for payroll taxes.
This form should be completed anytime you begin working with a new contractor and should be kept on file. This will prevent major headaches down the road.
You can find a PDF copy of a W9 form here @ irs.gov
(2) Independent Contractor/Project Agreement
This essentially serves as your contract and is useful for establishing processes and procedures should problems arise down the road. It discusses the project being done and specifically states the independent contractor relationship (an important thing for tax purposes). This is very important in providing protection against lawsuits and worker’s compensation claims as well.
This document should also detail services performed, compensation and payment timeline, deadlines, penalties, and various processes of the project. It should be completed at the beginning of every project. There are a number of sections that are particularly integral for the Independent Contractor Agreement, which are discussed in the following sections.
(3) Scope of Work
What happens if there is a disagreement about what should be included in a project? Simply refer to the Scope of Work document. This states in detail the various tasks that the contractor is being hired to complete as part of the job. Think of it as a checklist. It is important that the Scope of Work document be very detailed, listing things such as: specific materials to be used, how they are to be procured, and any deadlines. This document is essential if a dispute arises that leads to litigation.
Here is a sample scope of work: Scope of work (PDF) or Google Excel
For other sources: Check out Flipperforce.com
(4) Payment Schedule
While this may seem like a no-brainer, many people do not think to create a payment schedule. This document specifies exactly what amount is to be paid to the contractor and at what time period payments are made.
For large projects, a payment schedule will typically have a portion paid up front and other payments made at various milestones (i.e. 25% draws during each stage of completion). Once you’ve developed a positive working relationship, you can simplify this to something like 50% paid up front and 50% paid at completion of the job. It is highly recommended that you have a trusted source verify using a checklist on your scope of work that items have been completed prior to sending payment.
(5) Completion and liquidated damage
Liquidated damages are a contractually stipulated amount that parties agree in advance will serve as damages for each day the contractor fails to complete the project beyond the contract completion date. Put into words: A certain dollar amount that is agreed upon, and then multiplied by the number of days late, and that amount is taken out of the contract price before final payment is due.
Negotiation strategies include:
- Establishing a grace period (i.e. liquidated damages begin on the 7th day after the required date of substantial completion)
- Increasing liquidated damages over time (i.e., $500 for the first 10 days, $1,000 for the following 10 days, etc.)
- Placing a cap on liquidated damages (i.e., in no event shall liquidated damages exceed a certain amount), and
- An early completion bonus.
- If this will be a rental, the daily liquidated damage amount can be: expected monthly rent / 30 days = (i.e. $33/per day if rent is $1000).
Source: www.belldavispitt.com
(6) Other Documents
While these are some of the major pieces of the puzzle, there are other things that should be collected and kept on file as well. They are briefly highlighted below.
(1) An insurance and indemnification agreement: A form needed to ensure that a contractor provides enough insurance for themselves and their subcontractors. It is a CYA document that protects against lawsuits.
(2) A lien waiver: Signed by the contractor after the job is complete, stating that they have been paid in full. They agree not to place any liens against your property. If you work with subcontractors, it is good practice to require your contractor to procure lien waivers from them as well.
- Check out a Sample Lien Waiver
(3) Proof of License, Proof of Liability Insurance, and Proof of Workman’s Comp Insurance are documents where a contractor states that they maintain these types of insurance and provide proof of them. This is also aimed at protecting against lawsuits.
Summary
Overall, it is understandable that people may not necessarily think about the importance of creating a strong paper trail or know the elements that should be included. However, maintaining paperwork is essential for real estate investors. These are the basic forms that all investors should keep on file when working with contractors to protect themselves as well as keep each party accountable. Happy and safe investing!
Want to learn how to learn how to Invest in Real Estate? Check out The Five Steps to Begin Your Real Estate Journey
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