LLCs, asset protection, and taxes for rental properties
Investor · Trumbull, CT · Member since 2017 · 59 posts · 9 votes
I've read a lot about the asset protection plan of buying a property in your personal name with conventional financing, then quit claim the property into their LLC. My property manager told me he's seen people do this, only to have the corporate veil easily pierced in a lawsuit because the mortgage is still under the individual's personal name. Furthermore, it's easy to see the sale record of a property or deed transfer on the county web site, so anyone can find the true owner of the property. With this in mind, is it worth the money to use LLCs for rental property holdings from an asset protection standpoint?
Also, is it worth filing a separate tax return for an LLC with rental property holdings, or is it fine to have it flow through your personal return? Are their any tax advantages or asset protection advantages (for example would a judge ask to see separate tax returns in a lawsuit against your LLC)?
It cost me an extra $700 to file separately for my LLC, so I'm just wondering if it's worth it.
Thank you!
Your property manager has no idea what he is talking about and is probably just parroting something he heard once. The corporate veil of an LLC is not easily pierced and it is not pierced solely because you have mortgages in your name on properties deeded to an LLC. It takes much more than just that.
LLCs can offer some anonymity, but I have found it to be very difficult to get full anonymity. To do so would make it extremely painful to run your business effectively. The true owner of the property is the LLC, it is a separate legal entity from yourself. But it is fairly easy for someone to find out your ties to the LLC with just a little bit of digging. Especially in North Carolina. For example, I just searched your name on the North Carolina Secretary of State site and found your company (I'll give you a hint, it has your initials) and much much more. Scary isn't it. I could have done the same thing if I just had your LLC name as well. There are some steps you could take to make it a little less obvious, but like I said, if someone really wanted to figure it out they probably could no matter what you did.
In terms of asset protection, I firmly believe it is worth separating your assets into different legal entities. The law is on your side and as long as you aren't doing anything egregious or outright illegal your protection should hold up. I also believe that it discourages a lot of trivial and frivolous would be litigants. And I believe that if you are in business, you should be doing it separately from your personal life. That's just me. I pay the price. But I don't go overboard on anonymity. I don't have ALL of my property in trusts, I don't have a Nevada LLC with nominee agents, I don't have anything offshore. At least not yet. :)
In terms of taxes, I have thought of filing separately so that my LLCs do not show up on my personal return but I'm not sure why or that it is worth the expense. My last lender pointed out that if you reported significant gains or losses on a K-1 he would want to see those returns anyway. And the loans would show up on the credit pull. And even if the loans were in the name of the LLC but personally guaranteed you would have to disclose it anyway.
So to sum up that diatribe. LLCs = yes. Crazy Nevada/Nexus island setup = no. Benefit to filing separately = debatable but probably not as good as you may think.
@Andrew Pappas probably one of the most debated topics here on BP.
To each their own. Personally, I was advised by my attorney that LLC's create a lot of unnecessary paperwork and to get a good umbrella insurance policy instead. About $500 /yr for $2M in coverage.
I believe the LLC makes no differences on your taxes, it's still reported on Sch E.
Your property manager has no idea what he is talking about and is probably just parroting something he heard once. The corporate veil of an LLC is not easily pierced and it is not pierced solely because you have mortgages in your name on properties deeded to an LLC. It takes much more than just that.
LLCs can offer some anonymity, but I have found it to be very difficult to get full anonymity. To do so would make it extremely painful to run your business effectively. The true owner of the property is the LLC, it is a separate legal entity from yourself. But it is fairly easy for someone to find out your ties to the LLC with just a little bit of digging. Especially in North Carolina. For example, I just searched your name on the North Carolina Secretary of State site and found your company (I'll give you a hint, it has your initials) and much much more. Scary isn't it. I could have done the same thing if I just had your LLC name as well. There are some steps you could take to make it a little less obvious, but like I said, if someone really wanted to figure it out they probably could no matter what you did.
In terms of asset protection, I firmly believe it is worth separating your assets into different legal entities. The law is on your side and as long as you aren't doing anything egregious or outright illegal your protection should hold up. I also believe that it discourages a lot of trivial and frivolous would be litigants. And I believe that if you are in business, you should be doing it separately from your personal life. That's just me. I pay the price. But I don't go overboard on anonymity. I don't have ALL of my property in trusts, I don't have a Nevada LLC with nominee agents, I don't have anything offshore. At least not yet. :)
In terms of taxes, I have thought of filing separately so that my LLCs do not show up on my personal return but I'm not sure why or that it is worth the expense. My last lender pointed out that if you reported significant gains or losses on a K-1 he would want to see those returns anyway. And the loans would show up on the credit pull. And even if the loans were in the name of the LLC but personally guaranteed you would have to disclose it anyway.
So to sum up that diatribe. LLCs = yes. Crazy Nevada/Nexus island setup = no. Benefit to filing separately = debatable but probably not as good as you may think.
Edward, that's great insight, thank you. I think I will continue with the LLC strategy but also emplace an umbrella policy. Next year I probably won't file separate tax returns with the cost. Thanks!
There is no absolute answer and unique tool/strategy in anything real estate. You need to learn how to use all the tools available to you (financing, insurance, management, etc.) and to understand how they fit together in your toolbox, as none will give you everything (e.g, insurance is required and it will cover you for many situations, but not always; asset protection (LLC) is litigation insurance and complements regular insurance, by minimizing the target and making it unappealing).
If you are a new investor, probably you will not have a lot of assets and/or equity to worry about (but even that is relative and subjective to each person tolerance to risk) so I would not worry about that till you pass that risk threshold (in my opinion 100K+ in equity, maybe 50K if you are really risk adverse) and you should be primarily concerned with finding good deals and growing your business first. Regardless, you need to implement insurance and proper management procedures, regardless of how many assets and equity you have. So, learn about that first - and a good point to start is a Nolo book (https://www.amazon.com/Every-Landlords-Property-Protection-Guide/dp/1413307000/) mentioned in the doc, it will explain about insurance, how to evaluate insurance, and then about property management, property code, proper leasing and all the way to LLC and hiring.
Think of it as levels of protection. Kinda like, one house, get good insurance and umbrella policy. Two houses, make sure you don't have holes in your property management. Three houses and 100K equity, start looking into strategic asset protection. Four houses, establish holding LLC and separate operations into a management LLC. Then couple it all with your estate planning and protection from outside attack.
You can do that from the begining, but might be overkill (since you'll have to learn to properly manage an LLC and there will be some costs associated). Of course, you'll be better protected, but will it be neccessary if you don't have much equity to protect?
Things change if you have a profession where you need to worry about asset protection from the beginning (like a doctor where you can get sued and lose your rentals too). Also if you are doing flipping, in which case I suggest you look into Series-LLC and you operate each flip in its own child-series (if not clear why, ask for more details).
I spent numerous hours researching from multiple sources the whole LLC question and asset protection matter and all the rabbit holes it opens. I gathered all my notes in a 50+ pages document touching on formation and maintenance of LLC and business structures, transferring assets, protection strategies, trusts, anonymity, insurance, levels of protection, etc. including when you should do it, how many properties per LLC, due on sale clause, selecting an attorney, fees, checklists and resource materials.
My notes file are primarily on asset protection, and primarily for buy&hold, but they touch on many other rabbit holes that opens from that (insurance, property management, DOS, transfers, etc.). It should save you many hours of research and hopefully clarify a lot of concepts (or at least I hope it does :>) as to why you want it and when and how.
Let me know if you are interested, and I can send them to you - just send a colleague request (to exchange files need to be colleagues) or your email. And I can give you a referral to a good asset protection lawyer too.
I think LLCs, up until a certain point, are overkill. Here's more information for things to consider-
https://www.biggerpockets.com/renewsblog/2013/08/1...
As for taxes, I wouldn't take any answer as gold until it comes from an accountant/CPA who does a lot with real estate (so they are up on all the laws and new rules coming out, etc.). They would need to be the person to ask that one to. Everyone's situations are different, and the implications can be huge between how you do it, so be sure you are talking to the experts on it.
There is no absolute answer and unique tool/strategy in anything real estate. You need to learn how to use all the tools available to you (financing, insurance, management, etc.) and to understand how they fit together in your toolbox, as none will give you everything (e.g, insurance is required and it will cover you for many situations, but not always; asset protection (LLC) is litigation insurance and complements regular insurance, by minimizing the target and making it unappealing).
If you are a new investor, probably you will not have a lot of assets and/or equity to worry about (but even that is relative and subjective to each person tolerance to risk) so I would not worry about that till you pass that risk threshold (in my opinion 100K+ in equity, maybe 50K if you are really risk adverse) and you should be primarily concerned with finding good deals and growing your business first. Regardless, you need to implement insurance and proper management procedures, regardless of how many assets and equity you have. So, learn about that first - and a good point to start is a Nolo book (https://www.amazon.com/Every-Landlords-Property-Protection-Guide/dp/1413307000/) mentioned in the doc, it will explain about insurance, how to evaluate insurance, and then about property management, property code, proper leasing and all the way to LLC and hiring.
Think of it as levels of protection. Kinda like, one house, get good insurance and umbrella policy. Two houses, make sure you don't have holes in your property management. Three houses and 100K equity, start looking into strategic asset protection. Four houses, establish holding LLC and separate operations into a management LLC. Then couple it all with your estate planning and protection from outside attack.
You can do that from the begining, but might be overkill (since you'll have to learn to properly manage an LLC and there will be some costs associated). Of course, you'll be better protected, but will it be neccessary if you don't have much equity to protect?
Things change if you have a profession where you need to worry about asset protection from the beginning (like a doctor where you can get sued and lose your rentals too). Also if you are doing flipping, in which case I suggest you look into Series-LLC and you operate each flip in its own child-series (if not clear why, ask for more details).
I spent numerous hours researching from multiple sources the whole LLC question and asset protection matter and all the rabbit holes it opens. I gathered all my notes in a 50+ pages document touching on formation and maintenance of LLC and business structures, transferring assets, protection strategies, trusts, anonymity, insurance, levels of protection, etc. including when you should do it, how many properties per LLC, due on sale clause, selecting an attorney, fees, checklists and resource materials.
My notes file are primarily on asset protection, and primarily for buy&hold, but they touch on many other rabbit holes that opens from that (insurance, property management, DOS, transfers, etc.). It should save you many hours of research and hopefully clarify a lot of concepts (or at least I hope it does :>) as to why you want it and when and how.
Let me know if you are interested, and I can send them to you - just send a colleague request (to exchange files need to be colleagues) or your email. And I can give you a referral to a good asset protection lawyer too.
Costin,
I agree, and I do have my process and system set up for management and investment strategy. I would like to set my asset protection up right from the beginning, because I will be growing my portfolio quickly. I’ve got a few LLCs in place, I was just looking to confirm or deny what my property manager told me about my personal name on my note making it easy to break the corporate veil. Thanks for the insight
Andrew
There are ways to break the corporate veil, but that depends on how you maintain your LLCs and operations and how strict or supportive of enterprises is your state. Co-mingling of funds is one way to break the separation.
If the LLCs are $700 a piece and you are looking to setup multiple, I suggest to look into Series-LLC (if your state supports them).
Also, I suggest to separate in two sections your LLCs - holding entities to hold the assets (but no operations, no public facing) on one side, and one LLC for operations, property management, leases, contractors, etc (on the other side).
@Andrew Pappas I love this thread, because the posting person (you) has done some research and is open minded--and because there is no one strategy. First, if you are using your PM for your legal and tax advice...are you using your attorney and CPA for your land-lording advice? The PMs we use steer clear from offering advice outside of their expertise, for good reason. If your LLC is formed with another person (such as your spouse), then you need to file a separate tax return. If you are the sole person in the LLC, then you can file on schedule E of your 1040, like Bob Langworthy mentioned. I know this because I have one LLC with my wife for one property, and then other properties in another LLC that is just me...so I need to stroke the annual tax prep check for the one LLC that my wife is involved in in addition to the other tax preparations. #RegretNotKnowingMore Also, for those who like to put one property into each LLC....remember that when applying for loans...you could have 10 properties in 10 different LLCs...and if you are looking to get a loan for one of your LLCs, the other 9 entities are going to be looked at separately. If you are focused on anonymity, look into incorporating Land Trusts into your strategy. In terms of the corporate veil piercing stuff....I haven't had the misfortune of testing out the strength of the veil. I would pony up for insurance to protect my assets, rather than bank on anything else....
To have a discussion about asset protection regarding real estate you have to mention land trust. Land Trusts give you privacy and that is the foundation of asset protection. Taking title to property using a land trust keeps your name off of the public record.
For additional asset protection you can then place that land trust into an LLC. An LLC is only as good as the formalities that are followed in the LLC. There are many ways to do this on your own or you can pay an attorney or asset protection specialist to do this.
Google asset protection.