{"id":72659,"date":"2015-05-18T14:00:50","date_gmt":"2015-05-18T20:00:50","guid":{"rendered":"https:\/\/www.biggerpockets.com\/renewsblog\/?p=72659"},"modified":"2021-03-16T11:36:50","modified_gmt":"2021-03-16T17:36:50","slug":"2015-05-18-llc-real-estate-business","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/2015-05-18-llc-real-estate-business","title":{"rendered":"Should You Get an LLC For Your Real Estate Business?"},"content":{"rendered":"<p>Perhaps the most common question I receive from BiggerPockets members is, <i>\u201cShould I set up an LLC for my real estate business?<\/i>\u201d<\/p>\n<p>It\u2019s a good question because I\u2019m sure you\u2019ve heard the horror stories of landlords getting sued by tenants and losing everything. You didn\u2019t spend years learning about real estate, growing your portfolio, and figuring out how to be an effective landlord only to lose it all to some deadbeat looking to game the legal system.<\/p>\n<p>However, LLCs are also highly misunderstood in the real estate space because they are just so darn complicated.\u00a0What works for one person may not work for you, and what works for you might not work for me. While I could give you the simple answer of \u201ctalk to an attorney,\u201d I want to dive a little deeper.<\/p>\n<p>Of course, I am neither an attorney nor a CPA, so please take what I\u2019m saying as my own personal opinion and get a qualified person to help you out with these legal discussions.<\/p>\n<p><iframe loading=\"lazy\" src=\"https:\/\/www.youtube.com\/embed\/9Ol2W8SE8b8\" width=\"560\" height=\"315\" frameborder=\"0\" allowfullscreen=\"allowfullscreen\"><\/iframe><\/p>\n<p>&nbsp;<\/p>\n<h2>What is an LLC?<\/h2>\n<p>First, let\u2019s talk about what an LLC is and what it isn\u2019t. An LLC is NOT a get-out-of-jail-free card. You can be sued with an LLC, and you <i>can<\/i> lose everything. An LLC is not designed to prevent you from ever being sued. An LLC is designed to help you manage and contain the fallout from that lawsuit.<\/p>\n<p><em><strong>Related:<\/strong> <a href=\"\/renewsblog\/2015\/05\/06\/askbp-013llcs-real-estate-business\/\" target=\"_blank\">#AskBP 013: Should I Have Several LLCS For My Real Estate Business?<\/a><\/em><\/p>\n<p>According to the <a href=\"https:\/\/www.sba.gov\/content\/limited-liability-company-llc\" target=\"_blank\" rel=\"noopener\">United States Small Business Administration<\/a> (SBA), a limited liability company is \u201ca hybrid type of legal structure that provides the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership.\u201d According to this definition, an LLC\u2019s benefits are three-fold:<\/p>\n<ol>\n<li><b>Limited Liability:<\/b>\u00a0IF you were to get sued, your liability (the damage to your wallet) can be contained to the assets within the LLC, not everything else you own. In other words, if the LLC is set up right and you get sued (and lose), the creditors probably won\u2019t be able to take your personal house or your car, or garnish your W-2 job wages. Or course, there are ways a judge might \u201cpierce\u201d the protection of an LLC and go after these things IF every \u201ci\u201d was not dotted and every \u201ct\u201d not crossed.<\/li>\n<li><b>Tax Efficient:<\/b>\u00a0The LLC is fairly easy to handle during tax time, especially if it is a \u201csingle-member LLC,\u201d which means an LLC owned by just you or you and your spouse. LLCs are known as \u201cpass through entities,\u201d which means the income and expenses flow magically through the LLC and are reported (and paid) by each individual member on their personal income statement. There is no \u201ccorporate tax\u201d like a corporation might pay. This can definitely make taxes easier and less expensive than, let\u2019s say, a corporation. That said, while a \u201csingle-member LLC\u201d does not require its own business tax return, a multi-member LLC does. Don\u2019t make this mistake.<\/li>\n<li><b>Operationally Flexible:<\/b>\u00a0Finally, an LLC is fairly flexible in terms of running it. You don\u2019t need thousands of documents, and there is no need to issue stock. An LLC can be set up fairly easily and inexpensively and requires just a few documents.<\/li>\n<\/ol>\n<p>It\u2019s easy to see why an LLC might be advantageous to a real estate investor. Let\u2019s say a tenant slipped on the stairs and broke their hip. The tenant decides to sue the landlord for \u201cneglect\u201d and the court sides with the tenant. For whatever reason, let\u2019s say your insurance doesn\u2019t cover all of the legal penalties and you as the owner are required to pay $500,000 out of pocket to the tenant.<\/p>\n<p>Ouch.<\/p>\n<p>If you own the property without an LLC, the tenant could have your wages garnished, force you to sell all your properties, and drive you to bankruptcy. You\u2019ll probably end up eating cold beans out of a can under a bridge while pigeons sit on your shoulder.<\/p>\n<p>It\u2019s not a fun place to be.<\/p>\n<p>On the other hand, if the owner of that property was \u201cMain Street Investments LLC,\u201d then the LLC is the owner getting sued. The courts could make you sell that property, but they likely won\u2019t be able to make you sell <i>other<\/i> properties owned by other LLCs. They won\u2019t take your primary residence. You won\u2019t be eating cold beans.<\/p>\n<p>Of course, this example is a bit over-dramatized and unlikely to happen. And I don\u2019t actually mind eating cold beans. But it illustrates the fear that drives most investors to want an LLC. However, even though it sounds like I might be encouraging you to go get an LLC, hold your horses. There are some other important factors to consider:<\/p>\n<h2>The Problems with an LLC and Real Estate<\/h2>\n<p>LLCs are great, I won\u2019t deny. However, they might not be great for you. There are some fairly important considerations to make before you jump onto the LLC bandwagon that could affect your decisions.<\/p>\n<h3>Lending on an LLC is Almost Impossible<\/h3>\n<p>That\u2019s right, if you plan on using a loan to acquire an investment property, it\u2019s unlikely you\u2019ll be able to have an LLC own the property. Most residential lenders simply will not lend on a property that is inside of an LLC, forcing you to turn to a commercial lender that has higher fees, higher rates, and shorter terms\u2026 something you probably don\u2019t want to do.<\/p>\n<p>Now, many investors simply transfer the ownership of the property into an LLC <i>after<\/i> purchasing the property in their\u00a0primary name, but that presents some big risks as well. If the bank finds out (and they probably will due to insurance stuff), they might call your note \u201cdue\u201d because of the \u201cdue on sale\u201d clause.<\/p>\n<p>Of course, you didn\u2019t sell the property, but you did transfer the title from one entity (your name) to another (your LLC). In the past, this has never really been a problem, as banks have generally turned a blind eye.<\/p>\n<p>However, this seems to be changing lately and is expected to only get worse as interest rates begin to rise. If you plan to go this route, I would recommend speaking with your bank and getting permission in writing to transfer the properties into an LLC.<\/p>\n<p>This is the only way you\u2019ll be truly protected from that dreaded \u201cdue on sale\u201d clause.<\/p>\n<h3>What Are You Protecting?<\/h3>\n<p>New investors automatically think they need an LLC to protect themselves, but when you are first starting out, how much wealth do you really need to protect? Think about it. You have a property or two with very little equity. You have car payments.<\/p>\n<p>You don\u2019t have six figures in the bank, yet you want to go through all this trouble to protect your \u201cwealth?\u201d<\/p>\n<h3>Additional Paperwork and Hassle Furthermore<\/h3>\n<p>While LLCs are definitely easier than corporations when it comes to paperwork and taxes, they still add a lot of complications to the mix. This is especially true if that LLC contains multiple members who are not married, as an individual business tax return will be required. Setting up the LLC takes money, maintaining it takes money, and filing taxes takes money\u2026 on a property that you probably are not making much on in the first place. Imagine spending $2,000 per year on asset protection on a house that only cash flows $1,200 per year. Yes, an LLC can turn a good investment into a bad one.<\/p>\n<h2>The Truth About New Investors and LLCs<\/h2>\n<p>Here\u2019s the thing I\u2019ve noticed: people like to set up LLCs because it makes them feel like they are taking action.<\/p>\n<p><i>They aren\u2019t. <\/i><\/p>\n<p>In fact, the idea of an LLC is probably the number one excuse people have for NOT taking action.<\/p>\n<p>I see it almost every day on BiggerPockets. \u201c<em>I want to invest in real estate, but I don\u2019t know what to do about an LLC<\/em>.\u201d How absurd! The truth is: people use the concept of an LLC as an excuse so they don\u2019t have to get out there and take action.<\/p>\n<p><em>It\u2019s easier to say, \u201cI don\u2019t have an LLC yet, so I can\u2019t buy a property\u201d than it is to say, \u201cI\u2019m scared.\u201d <\/em><\/p>\n<p>But this is often the truth.<\/p>\n<p>Yes, LLCs are valuable.<\/p>\n<p>Yes, I have them.<\/p>\n<p>Yes, I recommend talking with someone about setting one up, sometime.<\/p>\n<p>However, LLCs are no substitution for taking action. If you don\u2019t have any wealth to protect, maybe you\u00a0don\u2019t need an LLC. When you find yourself building wealth and creating a sizable business, that\u2019s when an LLC will come in most handy for you. By that time, you\u2019ll be able to afford the proper attorneys and CPAs who can handle setting the LLC up right.<\/p>\n<p><em><strong>Related:<\/strong> <a href=\"\/renewsblog\/2014\/09\/02\/filing-real-estate-business-llc-best-option\/\" target=\"_blank\">Is Filing Your Real Estate Business As An LLC Your Best Option?<\/a><\/em><\/p>\n<p>And maybe at that time they\u2019ll tell you that you really don\u2019t need an LLC. Maybe they\u2019ll set you up with something different. You won&#8217;t know unless you ask.<\/p>\n<h2>What Should You Use Instead of an LLC?<\/h2>\n<p>Let\u2019s look back at the three benefits of an LLC:<\/p>\n<ol>\n<li>Limited Liability<\/li>\n<li>Tax Efficient<\/li>\n<li>Operationally Flexible<\/li>\n<\/ol>\n<p>What other legal structure can help you protect yourself from losing personal money if you get sued and is easy to manage and pay taxes?<\/p>\n<p>I\u2019ll suggest two things: insurance and leverage. Let\u2019s talk about both, briefly.<\/p>\n<h3>1. Insurance<\/h3>\n<p>That\u2019s right, good insurance can help you avoid eating beans under a bridge. Get the right insurance, and get enough of it. Talk to a good insurance agent about your options and let them know your fears. They\u2019ll be more than happy to sell you the best policy possible.<\/p>\n<h3>2. Leverage<\/h3>\n<p>When someone is going to sue you, what is their goal?<\/p>\n<p>To get as much money from you as possible, of course. This is why leverage can actually be a large help in protecting your assets.<\/p>\n<p>By \u201cleverage,\u201d I mean the low down payment you use on your purchase. For example, if you owe $100,000 on a property and the property was worth $110,000\u2026 you are <i>highly leveraged.<\/i><\/p>\n<p>People often look at this like it\u2019s a bad thing, but in asset protection, it\u2019s a huge benefit.<\/p>\n<p>What kind of lawyer is going to go after someone, spend hundreds of hours litigating, and force them to sell their rental &#8212; only to find there is NO blood to be squeezed from that turnip?<\/p>\n<p>On the other hand, if you own a rental property free and clear and it\u2019s worth $110,000, suddenly the idea of suing you becomes much more exciting for an attorney because they know there is a ton of money for them to take.<\/p>\n<p>I\u2019m not saying you should go increase the leverage on every property you own. But what I am saying is: when you are first starting out, you\u2019ll likely be very highly leveraged, thus not a big target for lawyers to come after.<\/p>\n<h2>So, Should You Get an LLC?<\/h2>\n<p>Finally, I need to end this section with the dreaded answer everyone hates: <em><strong>I don\u2019t know. Talk to an attorney and CPA<\/strong><\/em>.<\/p>\n<p>Only they\u2019ll be able to truly help you know if you are ready for an LLC. An LLC is a powerful legal entity, but only if it\u2019s set up correctly and actually beneficial to you.<\/p>\n<p>And there is no easy way for me to tell you if that\u2019s the case in your life.<\/p>\n<p>However, I would encourage you NOT to let the LLC question stop you from moving forward with your real estate ambitions.<\/p>\n<p>Don\u2019t let it be an excuse, and don\u2019t let the fear of a lawsuit stop you from achieving your dreams.<\/p>\n<p><em>Investors: Have you set up an LLC for your real estate business?\u00a0What has your experience been?<\/em><\/p>\n<p><strong>Leave your comments below!<\/strong><\/p>\n","protected":false},"excerpt":{"rendered":"<p>Perhaps the most common question I receive from BiggerPockets members is, \u201cShould I set up an LLC for my real estate business?\u201d It\u2019s a good question because I\u2019m sure you\u2019ve [&hellip;]<\/p>\n","protected":false},"author":710,"featured_media":101257,"comment_status":"open","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[4241],"tags":[],"class_list":["post-72659","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-real-estate-business-management"],"acf":[],"comment_count":0,"_links":{"self":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/72659","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/users\/710"}],"replies":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/comments?post=72659"}],"version-history":[{"count":0,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/posts\/72659\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media\/101257"}],"wp:attachment":[{"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/media?parent=72659"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/categories?post=72659"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.biggerpockets.com\/blog\/wp-json\/wp\/v2\/tags?post=72659"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}