March 2008: Straight Answers to Tough Questions

Q:
I recently graduated from college with a bachelor’s degree in civil engineering and went to work for my dad in the construction business.  I have grown up around the business and have a pretty good grasp of the industry.  My dad gets me involved in every aspect including: estimating, project management, meeting clients, year-end financials, etc.

I read your articles in Construction Business Owner magazine and have also heard you numerous talk about creating wealth from real estate.  Our business has a couple loyal clients who are real estate companies. We do all of their work—from design-build projects to sometimes helping them find businesses to lease their space—so we have some experience in this sector.  My question is, as a general contractor who wants to get into real estate, would you recommend starting a new company with a separate entity or use the construction company to buy the land/building?  Also, what do you do with the costs and profit?  Bonding companies want to see you make a profit, but when the fiscal year financial statements come up, your costs are going to equal the billed amount since no overhead and profit were included.  

I am having a hard time putting my question on paper.  Basically, I know what it takes to start and complete the project (financing, designs, permits, construction, etc).  But I am not sure what the best way is to handle the investment in terms of overhead and profit.  I would greatly appreciate your professional advice. Thank you for your time. Jake Diesel
Elmer Structures Inc.

A:
Don’t co-mingle your construction company with a development project. I recommend setting up a separate LLC for every property you own. Each entity will own the projects and hire your company as the contractor. You will charge the development projects a contractor fee for your work. Each LLC will include the manager and members. You as an individual can be the manager, and get other investors to be the members. Consult with a good real estate attorney to help you. The LLC will be funded by investors. It will pay for all costs and then share the profits among the members and manager. Bonding companies want your company to take little risk and therefore make a small profit only doing construction work. That is not my goal. Diversify and build your net worth, but keep investments out of your company financials.
 
Q:
My nephew is an independent contractor doing construction work in the Carolina area.

How would he go about getting insured and bonded? What are the benefits of becoming bonded and insured for this line of work?
Kay Dilbeck
D & D Companies

A:

You can NOT do construction work without insurance unless you are stupid! What if you cause an accident, kill someone and get sued for everything you own. Without insurance, you are done. Most customers won’t hire contractors without at least $500,000 to $1 million in property liability and damage insurance plus worker’s compensation insurance for their employees.

Bonding is a guarantee from an insurance company—if you become insolvent, the bonding company will finish the project on your behalf. It is not required by most customers. The bonding line you can obtain is based on your financial strength. For example, if your current assets less current liabilities equal $200,000, you should be able to get a bonding line of $2 million total backlog if you have a good track record. To find a good construction insurance or bonding agent, I suggest you contact your local builders association for recommendations. North Carolina has several great associations like the ABC, AGC, ASA and NAHB. Go to one of their meetings, and ask for a referral.

Construction Business Owner, March 2008