LLC's vs Umbrella Policy

33 Replies

Hi guys,
I know it has been asked in many different ways before but I am looking for a more specific answer. My question is: Why have an LLC when you can just get an umbrella policy for 'x' million dollars on your properties. What will the LLC do for you that the insurance policy won't?
Let me just say I have an LLC and I think they are the way to go. My attorney, accountant and bascially every investor I have talked to said they are the way to go but I recently had a group of investors say that an insurance policy is good enough and the LLC isn't worth the hassle.
After thinking about it I am not so sure there is an advantage over the umbrella policy. What are your thoughts?
Joe Salimao

While I agree that porper insurance is a must and can be a quality way to operate your rental biz, there are a few extra advantages to the LLC format.

1. How do you know how much of an umbrella policy to get? 1 million, 3 M, 5M? What if you choose 1M and the law suit is for 5M? Plus the cost of going really big to CYA could be in excess of the cost to simply have an LLC.

2. Your identity: While an LLC does not give you full protection from others knowing your name and who onws the LLC, it does allow you to bill your tenants under your LLC name or other corporate entity making it a bit more professional and most tenants will not take the time or have the knowledge to research who owns the LLC. This way, your tenants are not paying Joe Smith, but JS, LLC

3. While there are costs involved in starting and operating an LLC (state fees, accounting costs, etc), these costs can be spead over a few properties making the cost very little per property (of course I also recommend not having to much equity exposed with multiple properties in an LLC)

4. LLC gives you one extra layer of protection in addition to the insurance. As an investor, I look to add as many layers as possible for protection. Why not? Of course the liability protection in an LLC is only one way protecting you form the asset, but not the asset from you.

While it can be argued either way, I too choose to use entities for my business.

I understand the advantages of an LLC, but there are disadvantages to them as well especially when starting out.

It's very difficult to get financing with no assets or credit history in the newly formed LLC.

@nationwidepi,

Is it possible to do a DBA, so you can have your tenants pay your business name?

From what I've been told when I asked a similar question to RE investors, most investors go without an LLC for the first few properties (5-10), and then once you have a few, you could transfer them into an LLC or put all new properties in an LLC.

When I first starting learning and reading about REI, all the books/gurus said to put 1 property in 1 LLC and when I talk to real investors, they suggest determining a set number of properties or property worth and then once that LLC is full, open another one.

I understand the advantages of an LLC, but there are disadvantages to them as well especially when starting out.
Other than the cost, what possible disadvantage could there be?

It's very difficult to get financing with no assets or credit history in the newly formed LLC
Thats true which is why you would still need to personally guarantee the loan unless you use a non-recourse lender.

Is it possible to do a DBA, so you can have your tenants pay your business name?
Of course you can. I just prefer to have the extra layer of protection via the LLC and there are disadvatages to a DBA such as the city wanting to tax your receipts.

From what I've been told when I asked a similar question to RE investors, most investors go without an LLC for the first few properties (5-10), and then once you have a few, you could transfer them into an LLC or put all new properties in an LLC.
I would not say "most", but you are correct that many do start off without the entity and then once they have multiple properties, transfer them into an entity.

When I first starting learning and reading about REI, all the books/gurus said to put 1 property in 1 LLC
That is simply bad information. Only a person who sells entity formation services would suggest such a thing. You can have 100 properties in one LLC, it is not the number of properties that should be the determining factor but the amount of equity exposure you are willing to "risk".

when I talk to real investors, they suggest determining a set number of properties or property worth and then once that LLC is full, open another one.
Again, the set number of properties is incorrect, as is a set amount of worth. It is the amount of equity at risk that is the determining factor. :D

I agree with the amount of equity in the property. That's what I meant to write, but I shot the reply out quicker and didn't word it properly.

As a follow-up question, if I do a LLC, does that automatically make my financing options limited? For instance, for my first property, I am trying to use owner occupied financing. Is that possible with an LLC?

A few months back, I was gung-ho about getting an LLC and buying my first property in it, but since then I have backed off the idea due to the limitations for 1st time buyers.

It's very difficult to get financing with no assets or credit history in the newly formed LLC.

I have had a few people say this to me. It isn't hard or more expensive to obtain financing when you have an LLC. I think you are under the impression that if you have an LLC you have to get financing through it. Yes, if you are going to obtain financing in the name of the LLC this is going to be difficult and more expensive. What most people do is hold the deed in the name of the LLC but finance it in their own name.

As a follow-up question, if I do a LLC, does that automatically make my financing options limited? For instance, for my first property, I am trying to use owner occupied financing. Is that possible with an LLC?
The question is, are you actually going to live there? If not, applying for an OO loan and not living there is mortgage fraud! If you are going to live there and it will be your personal residence for at least the next 2 years, the lender and all of us would wonder why you want to hold title to a personal residence in a business entity. That makes no sense.

@ Joe and Nationwide -

What are the legal ramifications for owning a property in the LLC name and getting the financing in your personal name?

Also If I have a property financed in my personal anem should I Warranty Deed the title to my LLC and leave the financing in my own name?

I have heard about the 'due on sale clause".
Is this something to really be concerned about...I have heard that it really is not a major issue...although I suppose legally it could be.

Any thoughts, help or suggestinos?

Any help with my questions from my post @ 04/21/2009 at 12:00PM listed above?

Thanks in advance,
Eliott

Originally posted by E Grigg:
@ Joe and Nationwide -
What are the legal ramifications for owning a property in the LLC name and getting the financing in your personal name?

I am under the impression that this is a legit way to do it. I still think you have the seperation that the LLC provides to you. Now you are breaking that seperation of you and the property a little bit but I think this is the way most investors do it. The only way to know would be to have an attorney comment on past cases and whether or not it holds up in court. All of this stuff is just theory so there is really no telling for sure what will happen but hoepfully you will never have to find out.

Originally posted by E Grigg:
Also If I have a property financed in my personal anem should I Warranty Deed the title to my LLC and leave the financing in my own name?

I have heard about the 'due on sale clause".
Is this something to really be concerned about...I have heard that it really is not a major issue...although I suppose legally it could be.

Any thoughts, help or suggestinos?


I haven't done this but I have heard that it is very unlikely for this to happen. Especially if you are paying on time. Do they really want to call the loan due and risk a foreclosure in this market?

What are the legal ramifications for owning a property in the LLC name and getting the financing in your personal name?
That is a question for your RE attorney, but as far as mu knowledge goes, you are fine so long as the LLC operates in a proper and competant format.

Also If I have a property financed in my personal name should I Warranty Deed the title to my LLC and leave the financing in my own name?
You have no choice but to leave the financing in your personal name. As for transfering title into an LLC it is fine and I have done that many, many times.

I have heard about the 'due on sale clause".
Is this something to really be concerned about...I have heard that it really is not a major issue...although I suppose legally it could be.

Any thoughts, help or suggestinos?

If the entity is owned by the same person as the LLC, you have no problems. Lenders realize just as we do that we as investors like to have some liability protections in excess of insurance. It is not really viewed as a change of ownership, although technically it is. I have yet to hear of any investor actually having the loan called due after transfering title from personal name into an entity.

Originally posted by nationwidepi:
While I agree that porper insurance is a must and can be a quality way to operate your rental biz, there are a few extra advantages to the LLC format.

1. How do you know how much of an umbrella policy to get? 1 million, 3 M, 5M? What if you choose 1M and the law suit is for 5M? Plus the cost of going really big to CYA could be in excess of the cost to simply have an LLC..

I haven't done either yet, but based on my research but I think the umbrella is a lot cheaper, if you don't have a huge amount of properties. With LLC you've got the initial cost to set up, separate biz bank account, registered agent if you choose to pay one, possible separate tax return to prepare if you use EIN or s-corp election, and your annual state fee which can go up over time, and with the current propblems states are having they try to raise revenue that way. Multiply those costs by the number of LLCs you have. Plus you still need to pay for some kind of liability insurance on top of your LLC protections.

I think the real issue with using umbrella alone is if some event is excluded in the policy.

I met with my lawyer about this and here is what he told me. It is more important to look at who is doing the work on your properties than who owns them. He told me this: In general, people are going to go after the person that did the work because it's easier to prove them negligent. So, if you do all of your repairs yourself then the LLC doesn't provide you much protection because you (as an individual) can be sued for negligent work. However, if you hire out the work or have employees it is most likely that the company will be sued. In that case, the LLC does provide you with protection because only the company's assets can be taken away in a lawsuit and not personal assets.

There is an advantage to having an LLC to protect your personal assets in certain situations, but be aware that if you are doing repairs then you can also personally be sued, which will require an umbrella policy for protection. That's what I've been told... I, however, am not a lawyer and can't be 100% sure about any of the facts.

There are also reasons to have an LLC other than just protection. These have been talked about elsewhere, but it is important to consider them... taxes, anonymity, etc.

Originally posted by Josh Layhue:
He told me this: In general, people are going to go after the person that did the work because it's easier to prove them negligent. So, if you do all of your repairs yourself then the LLC doesn't provide you much protection because you (as an individual) can be sued for negligent work. However, if you hire out the work or have employees it is most likely that the company will be sued.


Thanks Josh. I know this is why it makes it better to have a PM do the managing if you own an LLC.

But did your attorney say whether this works if you own in your own name too? For example, if you own the property in your own name, have a contractor do some improper work that causes an injury to the tenant later on--will only the contractor and his company get sued or will you (property owner) automatically get added to the suit, since you own in your own name?

No offense but it would simply silly not to do both.

You can set up your own LLC in most states for under $100.

Seriously - do yourself a favor and do both.

*** This is not legal advice ***

There are certain benefits to having an LLC, but for the new investor, "asset" or "liability" protection is not very high on the list. Sounding professional and tax benefits (perhaps) are some of the top benefits.

LLCs may protect you from personal liability in many circumstances, but if you don't have any money, what are you protecting? If all your wealth is in the LLC, then you don't want the LLC to be sued.

Plus if you do have an LLC or corp., you want it to be completely separate from you personally. Buying a property with an LLC but borrowing against it in your own name basically erases the line between entity and individual, so your protection goes away.

If you are doing your first deal(s), do the deals and tack on some liability insurance to your properties. It's cheap. Once you have built up some personal wealth, then worry about LLCs.

yes - whatever you do DO NOT SET UP YOUR BIZ CORRECTLY FROM THE BEGINNING.

Be sure to wait till your 5 deals in.

Makes great sense.

Originally posted by Scott M.:
No offense but it would simply silly not to do both.

You can set up your own LLC in most states for under $100.

Seriously - do yourself a favor and do both.
Second that! DO both as I do. I always use entities and I always back it up with insurance policies. If the cost is too much, then you didn't buy right!

It seems that either way if someone gets injured you WILL be sued. With a 4 million dollar umbrella policy the insurance company will take care of attorney fees. My 3 rentals have a combined worth of 300k. My residence is valued at 170k.
Why not avoid the complications of the LLC record keeping, LLC liability insurance, and separate tax filings? If I were to lose in court, my policy would pay up to 4 million. I’m sure I could work out a deal to keep my properties and payout 4 million. Any opinions?

Originally posted by Jim Melgar:
Why not avoid the complications of the LLC record keeping, LLC liability insurance, and separate tax filings? Any opinions?

I don't find my LLC record keeping very complicated. Sure, it has its own bank account, but with online banking, my records are updated and reconciled with a few mouse clicks. And there aren't any separate tax filings except for a small form I have to send at the end of the year (California wants to make sure I'm not making TOO much money).

That said, I still carry $1 million in liability insurance. But what I truly like about my LLC, in addition to the liability protection, is the personal privacy it offers. My tenants rent their homes from my company. Not me. They don't know who I am. If they checked with the Secretary of State's office, all they would get would be the name of my Resident Agent and Manager. Not me. My name isn't on any of the documents.

It it perfect? Am I totally invisible? No, any good attorney or PI could pick through the refuge and find me, but not without charging whoever is looking a healthy fee. :wink:

I just want to add as someone who owns several rentals in personal and llc name that getting a loan on a property in an llc name is not as easy as some people think, especially now. I have done cash out refis on properties I paid cash for in the name of my llc and after you do one, the lenders always say thats it and then I am at the drawing board calling tons of places trying to find someone else who will do it. Yes you can get financing for llc properties if you know who to go to and this changes constantly. You also have to have solid financials or a good cash flowing property at least that has been my experience. If you plan to do something like that I recommend you have lenders lined up and know their requirements before you get stuck. We have started buying in our personal name again because it has been so hard to get refi'd out when in llc name. Many people I know are doing what has been suggested and just transferring to an llc name after they get their financing. Independent of how my properties are titled, all my leases are between my llc and the tenant. My llc collects rent and acts as the property manager so tenant dont know who owns the unit.

1. No bank I've talked to will lend FNMAE (30 year fixed rate) to ANY LLC. Even a few of the local portfolio lenders who have this type of product in house still follow the fnmae guideliness. so that is a pretty significant disadvantage. Perhaps many people have gotten around this, I have not been able to.

2. you cannot do your own evictions. it is illegal to NOT have a lawyer when doing an eviciton. This has been a 3k disadvantage to me this year and that's only because I do the summons' myself. (in Maine, laywer has to do FED complaint and be at court).

I would LOVE LOVE LOVE to "un do" my LLC's and go back to individual ownership. My lawyer says no. Unless someone I trust more tells me "Yes" I'm going to stay put.

Also:
1. if you manage yourself, or more accuraely, you do whatever it is the LLC is being sued for, you get no protection. You (and your total networth) as well as the LLC are at risk. This is not an issue for someone who JUST manages or has a manager, but many landlords have 2-3 buildings and are under the impression the llc protects them. One "rule of thumb" is that an "LLC cannot protect you from yourself"

2. also, for the due on sale clause, my impression has been that letting your banker know what you're doing is fine.

@Mitch Kronowit your not as hidden as you may think. If you have a property address you can get a legal, with that you can find the last deed transaction. It may be in the company name but you will see who was authorized to sign for the company, take that name and match names and addresses from the filings and you have it. It doesn't take a PI :)

Chances are you're in the city directory a cross reference of addresses, companies, names and numbers. City licenses are usually easy to track and tax addresses where taxes bills are sent. Building permits may be another source and utilities usually have personal guarantees that may be public.

It's hard to hide with an LLC, but it's better than sticking your name out there.

The best way to protect yourself in business is first by your conduct then with insurance. Over 35 years and never sued by a tenant simply because the way I conducted business kept me out of court. I had issues, but I addressed them quickly and aggressively, never an issue.

Some have mentioned personal umbrella policies, to provide coverage in business you need a business policy or rider for such exposures.

Another issue, auto policies should have a business exposure, if you are conducting business and have an accident you may not be covered.

Errors and Omissions coverage is a separate policy and usually covers errors, omission, implied warranties and negligence on a deal by deal basis, it's cheap if you can get it.

No insurance covers intentional illegal acts, so if you choose to do a shady deal that violates law, it could be on you.

An LLC offers some liability protection for those who can operate with an astute business knowledge, but there are so many ways to foul it up I'd say be insured!

Form a company for other advantages that make it easier to do business than attempting to privately. The ease of admitting partners or members, segregation of funds, marketing and advertising and the illusion that a company may give that can protect your assets. :)

So if I have a single property that I manage myself, it sounds like there is not much benefit to having it in an LLC? Since I am landlord and managing it, I could still be personally sued, in addition it's fairly easy to find out who owns an LLC, and it requires a separate bank account, annual filing, etc?

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