When it comes to holding real estate the Limited Liability Company or LLC is the entity of choice for most real estate investors. This really makes sense for a couple reasons: liability protection and tax flexibility.
As the name implies, the big legal benefit of an LLC is that it provides liability protection for the owner. Why do you need such protection? Well, these days many investors joke that the definition of a tenant is “A Plaintiff”.
All jokes aside, if you find yourself in a lawsuit due to something like a slip and fall accident on your rental property, the effects can be widely different depending on how you hold the property. If you own the property in an LLC, then you stand to lose all the assets within the LLC including the property. This is not preferable, but it pales in comparison to the scenario where you hold the rental property in your own name. In this case, a lawsuit can not only cause you to lose your rental property, but you can lose everything else you own as well.
Now, limited liability companies are not bullet proof, so you should seek the advice of a competent attorney when setting up your entity structure. There are additional things you can do to discourage lawsuits from being filed, and you also have the opportunity to carry liability insurance.
In any case, you need to look at your personal situation, your risk tolerance, and the situation with the property to decide on how well you need to protect yourself. Discussing these things with an experienced real estate attorney can be a great investment when you consider the amount of money it may save you at some point down the road.
The second benefit of forming an LLC concerns the tax structure. By setting up an LLC you have the freedom to elect the tax structure that the LLC will be taxed as. For example, if the LLC has a single owner, it can setup to be taxed as a sole proprietorship, an S-corporation or a C-corporation. Or, if the LLC is owned by more than one person, you can elect to have the LLC taxed as an S-corporation, a C-corporation or a partnership.
This makes LLC’s extremely flexible from a taxation standpoint because you have the ability to minimize your tax liability by selecting the appropriate tax structure. When selecting how your LLC will be taxed, it definitely makes sense to sit down with a CPA to discuss your situation.
Other Things to Consider with LLC’s
Limited Liability Companies offer great benefits in terms of liability protection and tax flexibility, but there are some other things you should consider before deciding on this entity structure for holding your rental properties.
An LLC may increase costs in your business. If your LLC is a partnership or if it is taxed as an S-corporation or C-corporation it will need file its own tax return. This could generate an expense between a couple hundred up to a few thousand dollars annually.
An LLC will have startup expenses associated with it. You can file for an LLC yourself in most states for as little as $25 – $50, or if you have an attorney form the LLC you may end up paying several hundred dollars.
Owning an LLC will require you to adhere to certain corporate formalities such as preparing meeting minutes. Without documenting these corporate formalities, the LLC may leave itself open to liability beyond the LLC. how to register a DBA in Texas
All things considered, most real estate investors do elect to hold their rental properties in an LLC because of the benefits cited above. If you are looking to invest in rental property and need to setup your legal and tax structure, Michigan Turnkey can provide you referrals to an attorney and CPA that are well versed in the discipline of real estate investing. These professionals will be able to decide on the best legal and tax structure for your personal situation.