4 Legal Structures You Should Consider for Your Real Estate Investments

4 Legal Structures You Should Consider for Your Real Estate Investments

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Larry Alton

Larry is an independent, full-time writer and consultant. His writing covers a broad range of topics including business, investment, and technology.

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Larry started his career with Demand Media. There he contributed to and edited nearly every type of business-related content from real estate investing to software and digital media.
Since then, Larry has worked as an independent, full-time writer and consultant. His writing covers a broad range of topics including business, investment and technology. His contributions include top-tier publications like Entrepreneur Media, TechCrunch, and Inc.com.

When he is not writing, Larry assists both entrepreneurs and mid-market businesses in optimizing strategies for growth, cost cutting, and operational optimization.

As an avid real estate investor, Larry cut his teeth in the early 2000s buying land and small single family properties. He has since acquired and flipped over 30 parcels and small homes across the United States. While Larry’s real estate investing experience is a side passion, he will affirm his experience and know-how in real estate investing is derived more from his failures than his successes.

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Larry graduated in the top 2% from Iowa State University’s Ivy School of Business Management.

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If you own a single piece of income-producing real estate, you’re probably fine without any kind of legal structure. But as you seriously consider growing your portfolio and adding investments, you’ll want to think long and hard about how you can legally protect yourself and simultaneously lower your tax implications.

What is a Legal Structure?

When it comes to the legal and financial side of real estate investments, you can’t afford to expose yourself to lots of liability and heavy taxation. While you have the option to run your venture as a simple proprietorship—filing income and expenses on your personal tax return—this is far from the best approach.

There needs to be some layer of protection between your business and your personal assets. A failure to establish legal safeguards in the form of a documented business structure could put your own personal assets—home, car, savings, etc.—at risk if you were to be sued or fall behind on debts.

A legal structure is simply some legal documentation that you wrap around your business to protect it. Assuming that you choose the proper one, you still have all of the freedoms to run your business as you see fit.

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The 4 Structures You Should Consider

Let’s be clear about one thing: Every situation is different, and you’ll have to think about your specific needs and goals. But when viewed through a general, big picture lens, here are some of the best legal structures for real estate investors to consider.

Related: 10 Legal Disclosures I Include in My Rental Applications

1. LLC

For long-term investors, a limited liability company (LLC) is a great option. It’s perfect for buy-and-hold investments where you’re looking to accrue steady income and long-term capital appreciation. LLCs are simple and cheap to start, require very little paperwork, and—as the name indicates—limit the liability of the investor.

Another benefit of an LLC is that it’s a pass-through entity. In other words, earnings and losses are passed through to your own personal income tax return. This makes it simple to manage. But if you do go this route, you have to be extremely careful not to mix any persona and business expenses. Doing so will pierce the corporate veil and leave you personally liable.

2. S Corp

The S corp is a pass-through entity for tax purposes, similar to the LLC,” Incfile explains. “This means that the income generated by an S corporation will flow through to the personal income tax returns of the shareholders, and the S corp itself generally does not owe any tax liability.”

By structuring your real estate investment venture as an S corp, you get the flexibility to manage the ownership of the company. The stock of an S corp is transferrable (which is not the case in an LLC).

3. C Corp

A C corp is most different from both LLCs and S corps. They operate as true corporations that pay their own taxes. The biggest benefit is that there’s no cap on the number of owners. This makes it ideal if you’re pooling investors together for large real state investments. And because the earnings of the company don’t flow to your personal tax return, you don’t have to worry about income tax liability. However, this means there’s double taxation when you want to pull cash out.

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Related: Is it Wise to Set Up an LLC When Starting in Real Estate Investing?

4. REIT

While not extremely common, it is possible to establish a non-publicly traded real estate investment trust (REIT). A REIT is very efficient and secure, but there’s one big trick. In order to qualify, the entity must distribute at least 90 percent of annual income to shareholders. This makes it hard to continue growing.

Think Long-Term

Whether you’re starting with a single property or have plans to accumulate hundreds of properties, it’s important that you think long-term when setting up a legal structure for your business. It’s far easier to set up a structure and grow into it than to reach a point down the road where you need to reincorporate. The latter can be expensive, time-consuming, and hard on a business.

If you’re unsure of how to proceed, consult with a small business attorney or consultant. Having someone with experience walk you through the pros and cons of each type of structure will help you wrap your mind around the best possible plan of action.

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What legal protections do you prefer for your real estate assets? Why?

Comment below!