S Corp for Property Management LLC?

Question

I'm working with a new accountant and am being directed to elect "S Corp" for my property management LLC tax designation. The property management LLC will manage all profit/loss/wages for my small portfolio.

I know I've seen this debated in the past, and am trying to figure out what the best thing to do is.

Does it make sense to take this advice? Am I missing anything?

Would appreciate any advice/direction I can get from this community of pros.

Jason Kuennen · Answer

It depends on what actually flows through that management LLC, because two different things tend to get mixed together here.

If the LLC earns real management fees (from your rentals or from other owners) and that profit would otherwise be hit with 15.3% self-employment tax, an S corp can make sense once the profit is big enough. You pay yourself a reasonable W-2 salary, and the rest comes out as distributions without payroll tax. Payroll, a separate return and state fees usually run a couple of thousand dollars a year, so the math tends to work only when net management profit is well into five figures.

If the LLC is mostly a pass-through for your own rentals' income and expenses, an S corp usually adds cost without saving tax. Rental income generally isn't subject to self-employment tax in the first place. And never put the properties themselves inside an S corp: getting appreciated real estate back out of one is a taxable event.

Two questions for your accountant: what net profit will the management company show, and how is the fee between the rentals and the LLC being set? Those answers decide whether the election pays for itself.

Ashish Acharya · Answer

Melissa, I’d want to clarify one thing before deciding whether the S-Corp election makes sense: is this LLC actually operating a property management business, or is it simply managing your own rental properties?

Those can lead to very different tax answers.

If the LLC is providing management services and generating active business income, an S-Corp election can potentially make sense depending on the profit, the work you’re performing, reasonable compensation, payroll costs, and the overall numbers. The IRS does require reasonable compensation for shareholder-employees who provide services before non-wage distributions are made.

If the LLC is simply holding or managing your own rental properties, I wouldn't assume an S-Corp election automatically creates a tax benefit. Rental real estate is generally reported separately from an active service business, with the exact treatment depending on the facts.

I'd have your accountant compare the current structure against the S-Corp structure using the actual numbers: management profit, reasonable salary, payroll taxes, accounting/payroll costs, and what you expect the portfolio to look like as it grows.

The question I'd ask isn't simply, “Should my LLC be an S-Corp?” It's “Is there enough active business income here for the S-Corp benefits to outweigh the additional cost and complexity?”

Feel free to DM me, I’d be happy to send over a few resources that might be helpful.

Simon W. · Answer

Melissa, Michael, Eugenia, and Jason covered the big picture, so I'll put numbers on one piece. Your plan says the management LLC wouldn't charge the property LLCs.

If it charges nothing, it has no income, and an S corp with no income can't pay wages, fund a retirement plan, or support anything for REPS. So any version of this needs a real management fee. Say you have $150k a year of rent and a 10% fee. That's $15k moving from the property LLCs, which deduct it, to the management LLC, which reports it. It nets out at first, but now that $15k is wage or self-employment income when it used to be rental income with no SE tax. At roughly 15.3% that's about $2,300 of added payroll tax.

The retirement plan is capped by that wage too, so a $15k wage limits what can go in. Then add the payroll provider, the 1120-S, and monthly bookkeeping between entities, which usually runs a couple thousand a year.

I'd have your accountant model it with your real fee before you elect.

Aaron Zimmerman · Answer

How much income is being generated from the property management side of the business?

Eugenia Chetverechenko · Answer

@Melissa Title I agree with Michael Plaks on most of his points. I'd be cautious about adding an S Corp without looking at the overall tax impact.

A couple of considerations:

• Family payroll: You can absolutely pay family members for legitimate work. If you are planning to employ kids under 18, there are additional considerations and possible walk-around to preserve the family employment tax benefits.
• Retirement contributions: Definitely a valid planning opportunity! Rental income generally isn't earned income for retirement plan purposes, so generating actual management income can open that door. But here is another side of it: you are essentially converting income that otherwise wouldn't be subject to self-employment taxes into compensation subject to payroll taxes (or SE tax outside an S Corp). Your CPA will need to evaluate whether the retirement tax benefits justify that cost.
• Management fees: These would need to be reasonable, properly allocated among the properties, and supported by actual services.

Family payroll: You can absolutely pay family members for legitimate work. If you are planning to employ kids under 18, there are additional considerations and possible walk-around to preserve the family employment tax benefits.

Retirement contributions: Definitely a valid planning opportunity! Rental income generally isn't earned income for retirement plan purposes, so generating actual management income can open that door. But here is another side of it: you are essentially converting income that otherwise wouldn't be subject to self-employment taxes into compensation subject to payroll taxes (or SE tax outside an S Corp). Your CPA will need to evaluate whether the retirement tax benefits justify that cost.

Management fees: These would need to be reasonable, properly allocated among the properties, and supported by actual services.

Since your main goal is reducing your husband's W-2 tax liability, first focus would be within your STR/LTR portfolio rather than starting with the entity election.

And I agree with Michael that an S Corp comes with substantial additional costs and ongoing maintenance. It can absolutely make sense in the right circumstances, for my clients I would run the actual numbers and compare several tax planning scenarios to identify a clear benefit before adding that complexity.

Michael Plaks · Answer

@Melissa Title

Generally speaking, if you need a second opinion to verify that of your CPA, this may not be the best choice of a CPA. The point of having one is trusting her/his knowledge and advice.

From what you listed, these alleged benefits either won't work at all or will not justify the extra cost and hassle of operating as an S-corp. Explanation of why this is so would be too long, but here's just a couple of pointers.

• To have room for payroll and retirement accounts, your S-corp will need to charge sufficient enough management fees. Is your portfolio large enough where 10% of rent (a typical management fee) will be substantial?
• REPS does not depend on your entity structure, it depends on the actual number of (qualified) hours you put into management.
• Without REPS (or, alternatively, an STR-based portfolio), you will not offset your husband's W2 taxes.
• Entities need to have economic justification, not only tax benefit, in order to be recognized as valid by the IRS.
• There is substantial extra cost and hassle to operating an S-corp: another tax return, and a complicated one at that, stricter bookkeeping rules, strict money separation, payroll, and so on.

To have room for payroll and retirement accounts, your S-corp will need to charge sufficient enough management fees. Is your portfolio large enough where 10% of rent (a typical management fee) will be substantial?

REPS does not depend on your entity structure, it depends on the actual number of (qualified) hours you put into management.

Without REPS (or, alternatively, an STR-based portfolio), you will not offset your husband's W2 taxes.

Entities need to have economic justification, not only tax benefit, in order to be recognized as valid by the IRS.

There is substantial extra cost and hassle to operating an S-corp: another tax return, and a complicated one at that, stricter bookkeeping rules, strict money separation, payroll, and so on.

Read this, too: https://www.biggerpockets.com/forums/51/topics/1269826-explained-the-big-fat-lies-about-s-corps

Happy to connect if you have more questions.

Melissa Title · Answer

Thank you so much for the replies!

This property management company would only manage my own STR/LTR properties, not others.

What she is thinking is that the property management company LLC wouldn't charge the property LLCs fees, but that by electing S Corp for the pm company, our family can go on payroll (and so employer self-employment taxes we'd have to pay are deductible), we can justify REPs, we can use it to establish retirement accounts through it, and by it being on a Schedule C it may help for audit exposure as if it is on a business form (1120s). The goal is also to lower my spouses very high W2 taxes.

S Corp for Property Management LLC?

S Corp for Property Management LLC?

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