SS84: Should I Setup an LLC for My Real Estate Business?

One of the most common questions we receive is whether an investor should open an LLC when purchasing rental property. In this episode, Charles discusses his thoughts on when to have an LLC and why sometimes having an LLC actually puts the investor at a disadvantage.

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Talking Points:

One of the most common questions I receive from new investors is SHOULD I SET UP AN LLC FOR MY REAL ESTATE BUSINESS? I am not an attorney or accountant so before you take any action, please seek qualified advice from a professional.
LLCs or Limited Liability Corporations are spoken about in real estate circles and are commonly the entity that investors choose when buying an investment property or starting a business. They are a hybrid legal structure that provides limited liability along with the tax efficiencies and flexibility of a partnership.
- The benefits of an LLC when structured correctly and operated correctly (in other words you are filing minutes, and annual reports and not commingling funds with your personal or other businesses and so on. I could do an episode just on how to correctly maintain an LLC)
  - 1^st benefit is a limited liability – when you are sued, the liability will/should be contained to the assets in that LLC if it is set up correctly.
  - 2^nd benefit is tax efficiency – LLCs are pretty simple to manage in regard to taxes. LLCs are pass-through entities which mean income passes through the LLC and is documented on your personal tax return. This saves time and money when filing taxes. Single-member LLCs do not require a business tax return but multi-member LLCs do require a business tax return. My thoughts with taxes are to get a good accountant; ask them questions before you set up entities or whenever you are not sure and focus more on making money in real estate than learning the tax code.
  - 3^rd benefit is that LLCs are very easy to set up and operate. They don’t require hundreds of pages of documents or many hours of work to set up or manage on an annual basis. You can set them up yourself but I personally have all LLCs set up through attorneys. It costs a little bit of money but I want things done right so I am going to pay an attorney that sets them up all the time to set up mine.
- The LLC helps to contain risk. The property is owned by an LLC and then there should be a separate LLC that manages the property, who has leases with the tenant etc. They should never be the same LLC. If you self-manage the property, great, set up another LLC that is strictly for management. You write all of the leases through that LLC; you collect rent through that LLC and pay bills out of that LLC. I would have one operating account and another security deposit account to hold deposits. You could also set up a new account for each property under that management LLC. The goal is to keep property assets away from the management portion that carries most of the risk.
- If someone slips at your property and your insurance company does not cover the settlement in full or most likely you have a major lawsuit like mold or someone was killed on your property; this is where your company LLCs will come in. Who knows what will happen to your properties in that LLC that owns the troubled property or your management company LLC but your personal assets should be sheltered. This is the point of the LLC. I read years back that taxi companies incorporate every 4 taxis in a different LLC to contain an issue if something happens.
- LLCs sound good and if you own or are planning on purchasing a commercial property you should have one. That is a multifamily property with 5+ units, a mixed-use property with commercial and residential, or any other commercial investment properties. However, there are a couple of instances when LLCs might put you at a disadvantage:
  - 1^st is lending on 1–4-unit properties will make it more difficult if you are using an LLC. Most residential lenders will not lend on a property in an LLC. Yes, you could quitclaim the property from your name into an LLC but the lender might call your loan due when they find that out; and they will find it. Speak with your lender and your attorney before doing anything.
  - 2^nd is what are you actually protecting? My attorney asked me this the first time I bought a commercial property and I explained why he granted my request and set up an LLC for me but it makes sense. What personal assets do you have that you want to protect?
  - The LLC, even though it is easy to set up and manage; still takes time and money. It requires more paperwork, more management, and more money than just buying something in your own name.
- Don’t mistake setting up LLCs as taking real action in your real estate business. The real action is buying properties, renovating properties, and renting properties. I personally would be motivated if I setup one up. I now have money at stake and now I need to buy a property. When we purchase properties now, we form the LLC after the property is under contract. This will be harder if you are buying from a bank or buying a 1–4-unit property.
- If you are buying a commercial investment property and you are going to set up an LLC at some point; do it from the beginning and buy a property right away in it already. This saves a lot of time and hassle down the road. If you are buying smaller 1–4-unit residential properties; maybe hold off.
  - Every property you purchase needs to have proper insurance. This will eliminate most issues before they become major problems; with or without an LLC.
  - Next, having debt on a property makes you less of a target but a lot of attorneys might not check this beforehand so it won’t really stop a lawsuit before it starts but it might make the lawsuit less enticing for the plaintiff once it starts.
- It is important to understand that LLCs, as the name implies are limited. Using an LLC however, does not guarantee protection from you being sued or losing your assets inside or outside of the LLC.
- In closing, LLCs can be pierced, in other words, your assets outside of the LLC could be accessed by creditors. It depends on many factors, how the LLCs were set up, when they were set up, how you maintained your LLCs etc. At the beginning of your investing career, speak to your real estate attorney and have them set up an LLC for you. You can choose as you grow when you need another LLC. As my asset protection attorney says, once you hit $1,000,000 in net worth, you need to rethink your asset protection structure and speak to an actual asset protection attorney. Feel free to submit a message through our website if you are looking for an asset protection attorney.

Transcript:

Charles:
Welcome to Strategy Saturday; I’m Charles Carillo and today we’re going to be discussing should I step at LC for my real estate business?

Charles:
Have you always wanted to invest in real estate, but didn’t have the time, didn’t know where to find the deals, couldn’t get the funding and didn’t want tenants calling you. Since 2006, I’ve been buying income producing properties and great locations that provide us with consistent passive income. While we wait for appreciation in the future and take advantage of tax laws while we’re waiting and unlike your financial advisor, we invest alongside our investors in every property we purchase. Check out to investwithharborside.com. If you like the idea of investing real estate, if you like the idea of passive income partner with us at investwithharborside.com, that’s investwithharborside.com.

Charles:
One of the most common questions that I receive from investors is should I set up an LLC for my real estate business and I’m not turning your accountant. So before you take any action, please see qualified advice from a professional LLCs or limited liability corporations are spoken about in real estate circles and are commonly the entity that investors choose when buying an investment property or starting a business. They are a hybrid legal structure that provides limited liability along with the tax efficiencies and flexibility of a partnership, the benefits in L C when structure correctly and operated correctly. In other words, you are filing minutes in a reports. You’re not commingling funds with personal or other businesses. And so on. I could really do an episode just on how to correctly maintain an LLC. But the first main benefit is limited liability. When you’re suited, the liability will, should be contained to the assets in the LLC.

Charles:
If it is set up correctly, the second benefit is tax efficiency. Llcs are pretty simple to manage in regards to taxes, LLCs are passed through entities, which means income passes through the LLC and is documented on your personal tax return. This saves time and money when filing taxes, single member LLCs do not require a business tax return, but multi-member LLCs do require a business tax return. My thoughts of taxes are get a good accountant, ask them questions before you set up entities, or whenever you are not sure and focus more on making money in real estate than learning the tax code. That being said, it is very important to understand the basics of different tax structures and different entities. Third benefit is that LLCs are very easy to set up and operate. They don’t require hundreds of pages of documents or many hours of work to set up or to manage on an annual basis.

Charles:
You can set ’em up yourself, but I personally have all LLCs set up through attorneys. It costs a little bit of money, but I want things done, right? So I’m gonna pay attorney that sets them up all the time to set up mine. The LLC helps to contain risk. The property is owned by an LLC, and then there should be a separate LLC. The management LLC that manages the property who has leases with the tenants, et cetera. And they, they should never be the same LLC. If you self-manage a property, great set up another LLC that is strictly for management. And this is a huge mistake. I see a lot of investors make, they have one LLC that owns the property and they write all the leases from that LLC to tenants and they pay bills through it and all that kind of stuff that doesn’t give you any protection.

Charles:
You, what you wanna do is have the management LLC, and you write all the leases through that management, LLC. You collect rent through that management LLC, and you pay bills out of that management LLC, really your tenants and other people you do work with don’t even really know what the name of the actual LLC that owns the property. I would have one operating account in that management LLC checking account and another security deposit account to hold deposits. You could also set up a new account for each property under the management LLC. The goal is to key property assets away from the management portion that carries most of the risk. If someone slips at your property and the insurance company does not cover the settlement in full or most likely, you have a major lawsuit like mold or someone is killed on your property. This is where your company’s LLCs will come in.

Charles:
Who knows what will happen to the properties in the LLC that owns the trouble of property or your management company, LLC, but your personal assets should be sheltered. This is the point of the LLC. I read years back that taxi companies incorporate every four taxes, taxis in a different LLC to contain an issue. If something happens and this manages risk throughout their whole company, by, by using this strategy, LLCs sound good. And if you own or are planning on purchasing commercial property, you should have one. This is a multi-family property with five plus units, a mixed use property with a commercial and residential or any other commercial investment property. However, there are a couple instances when LLCs might put you at a disadvantage, the first is lending on one to four unit properties. It will make it harder to get financing. If you’re using an LLC, most residential lenders will not lend on our property.

Charles:
That is in an LLC. Yes, you could quick claim the property from your name into an LLC down the road, but the lender might call your loan due when they find it out and they will find it out. Your insurance, the name on your insurance is gonna change when they pay your insurance, cause their escrowing, your insurance. They will see that it’s changed some lenders care. Some others don’t speak with your lender and your attorney before doing that. The second is what are you actually protecting? My attorney asked me this the first time I bought a commercial property and I want to set an LLC. And I explained why I wanted to do it. And he granted my request and set up an LLC for me. But it makes sense. It’s a good question. What personal assets do you have that you wanna protect? You might not have a much that makes sense for doing it.

Charles:
The LLC, even though it is easiest, step in manage, it still takes time and money. It requires more paperwork, more management, more money than just buying something in, in your own name. Don’t mistake, setting up LLCs as taking real action and making money in your real estate business. You know, the real action is buying properties, renovating properties and renting properties. I personally would be motivated if I set up an LLC from the beginning. Cuz now I have money at stake and now I need to buy a property to take action. When we purchase properties. Now we form the LLC after the property is under contract and this is gonna be much harder if you’re buying a property from a bank or buying a one to four unit property because in those residential contracts, you usually have to put the offer in with using the entity’s name from the beginning.

Charles:
And you’re usually probably not setting up a new LLC for every offer. So you’re doing it under your own name. So that’s where the problem happens in commercial properties. And we put out a letter of intent, which is a short little short offer that really tells you what our intent is. And we wanna buy this property in there. It’ll say that we’re taking ownership in another, another LLC, not the one we’re putting the offer in under and not our own personal names. And that’s a very normal thing in commercial real estate. It would be a little harder with doing it in residential. If you’re buying commercial investment property and you’re going to set up an LLC at some point and move it into it, just do it from the beginning, buy a property right away in the LLC. It saves a lot of time and hassle down the road.

Charles:
You don’t have to quick name things. You don’t have to change the names on different you know, like utility accounts and all these different things down the road, just do it right away. And then you’ll save hours and hours of headaches, making sure things are set up, make sure things are switched over. If you’re buying smaller one to four unit properties, maybe hold off. If you’re not sure every property you purchase needs to have proper insurance and this will eliminate most issues before they become major issues with or without an LLC. And I would also suggest getting an umbrella policy and make sure that the properties you own, if you own ’em in your own name are included in that under that umbrella policy next, having dead on a property makes you less of a target, but a lot of attorneys might not check this beforehand.

Charles:
So it won’t really stop a lawsuit before it starts, but it might make the lawsuit less enticing for the plaintiff. Once it starts. It is important to understand the LCS as an implies are limited using an LLC, however does not guarantee protection from being sued or losing your assets inside or outside of the LLC in closing LLCs can be pierced. In other words, your assets outside of the LLC could be accessed by creditors. It depends on many factors how the LLCs were set up when they were set up, how many people are in the LC, how you maintain your LCS, the states, the judges, if it gets that far in the beginning of your investing career, speak to your real estate attorney and have them set up an LLC for you. You can choose as you grow when you need another LLC. As my asset protection attorney says, once you hit a million dollars net worth, you need to rethink your asset protection structure and speak to an actual asset protection attorney, not just a real estate attorney. If you’re looking for one, feel free to submit a message through our website. If you’re looking for one and we can connect you. Thank you so much for listening. Please remember to rate, review, subscribe, submit comments, and potential show topics at global investors, podcast.com. Look forward to two more episodes next week. See you then

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