Can a rental be run as an LLC without transferring ownership?

Question

Several questions to CPA, lawyers or just those who might have better knowledge. For perspective, the property is located in San Diego, CA where I live also.

1. I was told and read that the property MUST be owned by the LLC to enjoy the liability protection. However, my current priority is not liability protection as we (my spouse and I) only have one rental at the moment and do have an $1M umbrella coverage. We want to take advantage of the tax advantage offered by the LLC though as we were told rental losses (stemming from major rehab and depreciation mainly) can only be claimed if the rental is run as an LLC (for my case) since the W2 household income is above 150K. is this true? In case it is, that's where the need of setting up an LLC arises. But since the refinance will done in a couple of months with a subsequent addition of 2 units later this year, we want to keep the ownership for easier and cheaper refinance and subsequent construction loan. Only after that, we could proceed with the ownership transfer (we are aware of the due on sale clause). So, my question is will it be possible to set up and run the rental as an LLC while we do own the property under name?

2. We do plan on scaling our portfolio by acquiring several properties next year (primarily in San Diego, CA and possible in Dallas, TX as well) and was thinking about what would the better way to structure everything trying to balance cost of borrowing as individual vs liability protection. The first option is to create just one LLC, acquire and keep all properties under our names as long as it is beneficial and increase our umbrella policy coverage with significant equity in each property (25% at least). Not sure what's the max amount yet. The second option is to transfer ownership to separate LLC for each property ASAP and create a master one for "easier" tax filing. For this option, would it be wiser to incorporate in Dallas, TX for those properties purchased there? What about the master LLC (CA vs TX)? So, my question is which option is better and whether there is another option that I might have overlooked.

Thanks in advance for your help.

Dan H. · Answer

I will start by stating I am not a CPA or tax professional. I am an investor expressing what I believe to be true, but you should verify anything I indicate with your trusted professional.

I do not believe the LLC allows you to write off the loses as you indicate.

Now for your current situation... It is not as dire as you seem to imply. Those loses you show are not lost but banked against future RE income. Your cash flow and therefore your income is very likely to improve annually until you build enough equity that you do a cash out refinance which at that point you may start the process over. Once you show profit from the RE, you consume those banked losses and do not pay taxes on that income. Once you have consumed all of the losses banked, you would need to start paying taxes on the income. That could be a good time to consider extracting equity via a refi so you are once again not getting taxed.

Another way that you can write off losses the year incurred (other than having income less than the threshold) is to be an RE professional. I think with one property it will be tough. I believe the requirements are a minimum of 750 hours and that the RE hours must exceed any other occupation hours (look it up for exact requirements). This will be an option to consider as you scale your RE investments. My wife has been an RE professional for quite a few years (she manages manages almost all our units and does the book keeping and most years we have at least one rehab to manage) now so that if we have a negative year, we benefit immediately (versus banking the loss against future gains).

$1M umbrella coverage likely suffices even with San Diego RE prices. However be leery of thinking you can just increase the coverage. Our umbrella coverage is significantly greater than your coverage but we wanted to double it and were rejected for the increase. We then looked into other carriers and we could not find any that would double our existing coverage.

We pay the taxes we legally owe, but RE provides many ways to minimize the taxes paid. One way to minimize the taxes paid is to have the properties reflect a low income. My properties by now could be generating 10s of thousands a month profit, but they do not. This has been achieve by extracting value which increases the debt and associated payment. The extracted money has allowed us to scale our number of RE.

A good tax professional and/or financial planner should be part of your team.

Good luck

John Underwood · Answer

Yes the property must be owned by the LLC to receive any LLC protection.

The mortgage, insurance and umbrella policy is plenty of protection on your one property.

Kathy Henley · Answer

@Michael Ndjondo makadi I hold title to my investment properties in my name, which is preferred by my mortgage lender. I manage the properties through an LLC. It collects the rent, signs contracts, markets the apartments and is the face of property management. The LLC has its own bank account, which keeps track of all real estate related expenses (mileage expense reimbursement, education, and real estate related travel.) It also separates my personal living from business (my CPA frowns on the co-mingling of funds.)

Dan H. · Answer

For CA investors the minimum LLC tax is $800/year. This is incurred even if your LLC is in another state. To the best of my knowledge there is no way around this $800/year charge for CA investors that want an LLC (as always verify my info with your expert).

I agree that the mortgage company is unlikely to call the loan, but not impossible. If you want your property in an LLC, it is probably a safe risk. The issue is in this case do you believe the LLC provides protection? The assets were comingled due to purchase having used individual funds/financing. Again this is something that you should consult your own expert but I believe a good lawyer will be able to pierce this LLC protection due to obvious comingling of finances.

An umbrella policy does not require separation of finances (no comingling of assets) for the protection. In addition if you are sued, the insurance company will take primary ownership of the defense from the lawsuit. It is like having a champion (the insurance lawyers) in your corner when you most want it (when being sued) at a fairly low cost (the cost of the umbrella policy).

Good luck

Kathy Henley · Answer

@Michael Ndjondo makadi I have property insurance, business insurance and an umbrella policy. The expenses of each investment property is filed on the Schedule E of my personal return. Take a look. You can see the categories suggested by the IRS. My CPA has a few more under 'Other'. The gain or loss is included on the personal return. Read any book by Tom Wheelright.

Justin Jackson · Answer

@Michael Ndjondo makadi

Go see a real estate attorney and have them prepare a deed of bargain sale. Buy the property in your name and then have the deed re-recorded as a LLC after the fact. Make sure to update your insurance policy to match the LLC name. Should coat you $100 for the LLC to do yourself online and about $300 for the attorney.

Mortgage company won’t do anything about it, if they call the note due you could always refinance with another vendor but I could never find evidence of it being called due. I have had 8 rental notes this way for years.

Christopher Smith · Answer

The way I deal with real estate investments is to select and invest only in properties that generate income AFTER depreciation. Amazing what selecting investments based upon economics (not tax) can do for you.

Never had a problem utilizing all of my tax deductions and I always take everything available to me.

Michael Ndjondo makadi · Answer

@Kathy Henley, Thanks for your input. Thow things: How do you protect yourself and are you able in this setup to pass through all rental gain or loss to your personal income tax?

Christopher Smith · Answer

SMLLC's don't confer any basic tax advantages and LLC's taxed as partnerships don't confer the tax benefit you're concerned with especially with a single rental.

Michael Ndjondo makadi · Answer

@Natalie Kolodij. This is so eye opening as I had apparently wrong information. Thx for your contribution.

Can a rental be run as an LLC without transferring ownership?

Can a rental be run as an LLC without transferring ownership?

Most Popular Reply

20 Replies