Rehabber · Austin, TX · Member since 2008 · 23 posts · 1 vote
I spoke to my CPA today who said that an LLC is more hassle than it's worth if I don't intend on having any business partners. He explained that if the real estate documents are appropriately drafted on the front and back ends of the flip, this will help protect me. But more importantly, as long as the liability limits on my Home Owner policy are high enough, there isn't a value to an LLC.
Corey,
I prefer (in my personal situation) to use LLCs for both flips and holds, however, to answer your question, many states how specific laws and requirements regarding flips and therefore, you should consult an attorney in your state. Since you are from TX and I invest heavily there, I know that TX passed a law that states that you must use licensed contractors and subs and must provide applicable warranties. Check with your attorney on the exact law and rules to follow or you could expose yourself to liabilities. Having an LLC is just one more layer of protection for you, as is, Land trusts, and operating your business in a responsible way.
If you are flipping properties you have a good chance of being liable for self-employment taxes. For this reason an S-Corp could actually be the preferred entity. Personally, I would NEVER consider a Sole Proprietorship for ANY investment, flip or rental. I’m surprised that your CPA made such a recommendation, the vast majority of them would never do so.
I agree with many of the posts...use the protection of a business entity that is provided by your state. That being said, what kind of entity?
There are all kinds of opinions on that subject. I advise my clients that their goal should be to determine what type of entity will give them the most protection without complicating their life?
Oftentimes this will end up being an LLC.
Now from the tax angle think of an LLC as a lump of clay that you can mold into the type of tax planning that fits your individual situation.
You can choose to have an LLC taxed in one of four ways;
1. A pass through entity ( to your tax return)
2. As a corporation with tiered tax rates like a c-corp
3. As a partnership if more than one person is involved
4. With an S election that allows you to claim some income as salary and the balance as distributions, on which you pay no Self Employment tax saving 15.3%
If your tax adviser is not knowledgeable with these choices find one who is. After all it will help you to keep thousands extra dollars in your pocket where they belong!
2. As a corporation with tiered tax rates like a c-corp
Dave, maybe you can explain to me why there would be any benefit to using an LLC as a C-Corp. The others I understand but with operating an LLC like a C-Corp, I see no benefits over a full blown C-Corp.
If you are flipping properties you have a good chance of being liable for self-employment taxes. For this reason an S-Corp could actually be the preferred entity. Personally, I would NEVER consider a Sole Proprietorship for ANY investment, flip or rental. I’m surprised that your CPA made such a recommendation, the vast majority of them would never do so.
I or my CPA has never heard of the IRS going after anyone for flipping properties as self emplyment income. I do not believe this statement to be true. In addition, as long as the investor has adequate insurance for liability protection, why would it surprise anyone that a CPA would suggest holding a property personally? There is nothing wrong with that strategy, as long as the investor "minds his/her business"
Having an S-corp for flips does not make sense either, unless I am missing something (if so, please point it out). In an S corp, you would be required to pay yourself a reasonable salary and thus have self-employemnt tax, therefore, LLC's make the most sense if you are choosing to use an entity.
I or my CPA has never heard of the IRS going after anyone for flipping properties as self emplyment income. I do not believe this statement to be true.
Having an S-corp for flips does not make sense either, unless I am missing something (if so, please point it out). In an S corp, you would be required to pay yourself a reasonable salary and thus have self-employemnt tax, therefore, LLC's make the most sense if you are choosing to use an entity.
An LLC does not exempt you from self employment tax.
Tim,
Our conversation was not talking about an investor being classified as a "dealer" If that was the case, then yes, you would be correct. Just the same, we were not talking about the IRS clssification of real estate professional either. If that were the case, then all profits, including cap gains would be hit with self empl. taxes.
Also, an LLC does eliminate self-employemnt tax compared with an S-corp where you must pay yourself a reasonable salary which would include self-employemnt taxes. My statement was not intended to refer to other possibilities such as a "dealer" classification, etc.
How would you flip a property without being classified as a dealer?
You either are an investor or a dealer...there are only 2 options that I know of...
To be an investor, you need to own something with the intention of holding it as an investment.
Mike,
if you read the IRS guidelines, you will note how you become classified as a "dealer" and thus how you are taxed differently. This is assuming you can make sense of the IRS publications as they are very difficult to read as they are poorly written.
Just becuase you were to "flip" a property, does not make you a dealer. You do want to avoid the "dealer" classification. I have flipped properties and have never been classified as a dealer by the IRS. It is not the only thing I do of course and as such I can avoid that classification. It does not matter if your intention is to hold or to flip, either way you are an investor. The "dealer" is simple an IRS clssification which affects how you are taxed.