First Time Property - Forming an LLC

8 Replies

Hi all, have another one

I was in the process of registering an LLC for my investment properties; I don't have cash, and financing I have heard for an LLC will be much more difficult than if I were to put the property in my name. Since this is my first, I don't really have much of a choice. I have the funds for the down payment - but not to pay cash or more than the 20% down

Is it unwise to get the loan in my name, have renters pay rent and all other business to the LLC? Will that still limit my liability?
For someone's very first property - are there other considerations other than forming an LLC that would still somewhat protect me?

Originally posted by @Charlene Stovin :

Hi all, have another one

I was in the process of registering an LLC for my investment properties; I don't have cash, and financing I have heard for an LLC will be much more difficult than if I were to put the property in my name. Since this is my first, I don't really have much of a choice. I have the funds for the down payment - but not to pay cash or more than the 20% down

Is it unwise to get the loan in my name, have renters pay rent and all other business to the LLC? Will that still limit my liability?
For someone's very first property - are there other considerations other than forming an LLC that would still somewhat protect me?

There honestly isn't anything to protect. The property is owned 80% by the bank and you are spending all your cash on the down payment. You will own the property personally and have the loan in your personal name, so claiming personal separation from the LLC is difficult. If the LLC holds no assets, it is just a shell company passing rents through. This isn't really legal protection.

Your best option is getting good liability coverage, so the insurance is a bigger target in the case of a lawsuit. The insurance company hires an attorney to litigate and protect you, because protecting you is protecting their own interests. 

Also be aware that in many states LLC ownership is public record. Property ownership and mortgages are also public records, so hiding your identity is very difficult.

Thanks @Joe Splitrock for the detailed response. This is a question I've been stuck on for quite some time too. Since the goal is eventually to pass liability onto the LLC and away from the individual can you have the LLC pay you back with its cash reserves/collected rents over time so that the asset eventually belongs to the LLC instead of you? I assume there would be taxes involved with having the LLC buy a property from the individual?

I hope these further questions make some sort of sense. I'm still a newcomer to the RE investing world!

I totally agree with Joe.   LLCs are way oversold in this business.  

First line of defense is always good management of your property.  Keep it clean, safe, and functional.  Obey the laws and follow your lease contract.

Second line of defense is your insurance liability policy.  If you are still nervous, get an umbrella liability policy off your personal home.   This gives you additional protection from your property.  What many people fail to realize is that this policy also protects you from the liability that most investors never recognize.  It protects your property from things YOU might do.  For example, if you get in a car accident, theoretically people could sue to get your rental assets

Third line of defense is really an entity.  

Even if you have several properties, if they are fully leveraged, you aren't much of a target.  Lawyers are generally lazy and are looking for big fish. If you get in a lawsuit, most lawyers will sue for the max liability coverage on your property insurance policy.

Originally posted by @Mackay Oakey :

Thanks @Joe Splitrock for the detailed response. This is a question I've been stuck on for quite some time too. Since the goal is eventually to pass liability onto the LLC and away from the individual can you have the LLC pay you back with its cash reserves/collected rents over time so that the asset eventually belongs to the LLC instead of you? I assume there would be taxes involved with having the LLC buy a property from the individual?

I hope these further questions make some sort of sense. I'm still a newcomer to the RE investing world!

Generally speaking an LLC has nothing to do with taxes. It is a disregarded entity which means for tax purposes it is the same as the owner. That assumes single owner or married couple.

You don't really need to have the LLC buy the asset. You have the LLC hold the asset and pay the loan. Once it is paid off, it is owned by the LLC. Understand that an increase in LLC value is just an increase in owners equity. When you transfer a property to an LLC, you are transferring your equity into the LLC. Let's say the down payment was $20K. You as an individual have now transferred $20K value into an LLC. If you are the single member, you own that $20K value. As you pay down the loan, your owners equity in the LLC increases.

You can buy a property in your personal name, using conventional financing and transfer the property into an LLC. Several years ago this was not allowed, but now underwriting rules have changed. They do have a couple caveats, such as the majority owner of the LLC needs to be the same as the person holding the loan. The transfer involves only ownership of the property. The loan will stay in your personal name. You collect rents through the LLC and pay your personal mortgage from the LLC. It has no effect on taxes, because you are considered the same for tax purposes.

This doesn't necessarily stop someone from suing you personally. They could try to argue in court that you are inseparable from the LLC and that the LLC is only a shell. This is why having an LLC is not enough. You also need to be careful to run the LLC as a separate business. That means business accounts and no use of personal credit cards in the business. If you do use personal credit cards, submit reimbursement requests in writing to the business. The business needs operating rules, regular meetings and policies. If members don't follow policies, they can be held liable separately from the LLC. If members break the law, they can be held liable separately from the LLC.

Sorry that is a very condensed explanation. It can be done, but starting out it may not be worth all the extra effort. 

Umbrella policy for a million is something like $200 a year, filing for an LLC can be just as much and then the lawyers will try to pierce that in court if you used company money for groceries or you didnt have notes on an annual meeting or whatever. Your first few properties, dont over think that part, get an umbrella policy and by the time you have enough assets to worry about it, you will have lawyers and accountants putting those things in place for you.

Originally posted by @Joe Splitrock :

Generally speaking an LLC has nothing to do with taxes. It is a disregarded entity which means for tax purposes it is the same as the owner. That assumes single owner or married couple.

You don't really need to have the LLC buy the asset. You have the LLC hold the asset and pay the loan. Once it is paid off, it is owned by the LLC. Understand that an increase in LLC value is just an increase in owners equity. When you transfer a property to an LLC, you are transferring your equity into the LLC. Let's say the down payment was $20K. You as an individual have now transferred $20K value into an LLC. If you are the single member, you own that $20K value. As you pay down the loan, your owners equity in the LLC increases.

You can buy a property in your personal name, using conventional financing and transfer the property into an LLC. Several years ago this was not allowed, but now underwriting rules have changed. They do have a couple caveats, such as the majority owner of the LLC needs to be the same as the person holding the loan. The transfer involves only ownership of the property. The loan will stay in your personal name. You collect rents through the LLC and pay your personal mortgage from the LLC. It has no effect on taxes, because you are considered the same for tax purposes.

This doesn't necessarily stop someone from suing you personally. They could try to argue in court that you are inseparable from the LLC and that the LLC is only a shell. This is why having an LLC is not enough. You also need to be careful to run the LLC as a separate business. That means business accounts and no use of personal credit cards in the business. If you do use personal credit cards, submit reimbursement requests in writing to the business. The business needs operating rules, regular meetings and policies. If members don't follow policies, they can be held liable separately from the LLC. If members break the law, they can be held liable separately from the LLC.

Sorry that is a very condensed explanation. It can be done, but starting out it may not be worth all the extra effort. 

Thank you for the detailed response! In my case my LLC is owned by two individuals with a 50/50 split, being myself and a friend. Does this change things since we are not related nor married? It definitely makes sense that using a business bank account/card for everything would be important.

One other follow-up question. If my friend and I want to keep any of the income we make from rents, sales, etc. from the LLC is that money taxed since we both own it together and the LLC is separate from us? Thanks for your time and your explanations.

Originally posted by @Mackay Oakey :
Originally posted by @Joe Splitrock:

Generally speaking an LLC has nothing to do with taxes. It is a disregarded entity which means for tax purposes it is the same as the owner. That assumes single owner or married couple.

You don't really need to have the LLC buy the asset. You have the LLC hold the asset and pay the loan. Once it is paid off, it is owned by the LLC. Understand that an increase in LLC value is just an increase in owners equity. When you transfer a property to an LLC, you are transferring your equity into the LLC. Let's say the down payment was $20K. You as an individual have now transferred $20K value into an LLC. If you are the single member, you own that $20K value. As you pay down the loan, your owners equity in the LLC increases.

You can buy a property in your personal name, using conventional financing and transfer the property into an LLC. Several years ago this was not allowed, but now underwriting rules have changed. They do have a couple caveats, such as the majority owner of the LLC needs to be the same as the person holding the loan. The transfer involves only ownership of the property. The loan will stay in your personal name. You collect rents through the LLC and pay your personal mortgage from the LLC. It has no effect on taxes, because you are considered the same for tax purposes.

This doesn't necessarily stop someone from suing you personally. They could try to argue in court that you are inseparable from the LLC and that the LLC is only a shell. This is why having an LLC is not enough. You also need to be careful to run the LLC as a separate business. That means business accounts and no use of personal credit cards in the business. If you do use personal credit cards, submit reimbursement requests in writing to the business. The business needs operating rules, regular meetings and policies. If members don't follow policies, they can be held liable separately from the LLC. If members break the law, they can be held liable separately from the LLC.

Sorry that is a very condensed explanation. It can be done, but starting out it may not be worth all the extra effort. 

Thank you for the detailed response! In my case my LLC is owned by two individuals with a 50/50 split, being myself and a friend. Does this change things since we are not related nor married? It definitely makes sense that using a business bank account/card for everything would be important.

One other follow-up question. If my friend and I want to keep any of the income we make from rents, sales, etc. from the LLC is that money taxed since we both own it together and the LLC is separate from us? Thanks for your time and your explanations.

Taxes are based on the net income of the business, not on what you take out as a capital distribution. For example if the business has a net income of $10,000 then you are each taxed on $5000. It doesn't matter how much you take out. If the property is held in your personal name and loan is in your personal name, the LLC has no real purpose. Look at your loan terms, but it likely allows you to transfer the property to the LLC if you are majority owner, which means you need to become 51% owner.

The problem with the property remaining in your name is the LLC doesn't own it. The LLC can't take depreciation or other deductions on an asset it doesn't own. I would talk to your real estate attorney, specifically the one that setup your LLC. Something seems off in this situation, so maybe there are details I am not aware of.