To LLC or not to LLC...

14 Replies

Hey guys, at what stage in the game is it necessary/responsible to put your properties in an LLC?

Hi Nick! 

You will find different answers from different people, but the bottom line is that if you can afford it, set the LLC up as early as possible. You never know when you will get your first property and it might even catch you by surprise - it sure caught me by surprise and I ended up taking title personally.

The cheaper way to set it up is to use online services such as legal zoom, they do make it pretty easy, but it is still possible to make mistakes with an online service. If you can afford to have an attorney set it up for you and make sure that you are compliant for all of the necessary regulations in your state, that would be even better (in California it costs me around $1,000 for an attorney to set one up). 

Just an aside - keep in mind that Fannie/Freddie will not loan to entities, so if you are buying rentals where you intend to get permanent Fannie/Freddie type financing, you will need to own those either in your own name or in a trust. 

Hope that helps! 


@James Bowie  if I buy a property with a conventional loan can I then later put it into an llc. If so do I have to wait a certain amount of time. 

@Neil Schoepp That's a tricky question. Technically the answer is no, you cannot move a GSE property into an LLC. There is a provision buried deep within their loan docs called a "due on sale clause." That means that if you sell, transfer, or in any way convey title to the property to anyone other than the borrower, they have the right to call the loan due effective immediately. This provision is designed to prohibit exactly what you are proposing.

I would never advocate violating a loan contract, but with that said, I do know that investors still do this with regularity. Similarly, many other investors buy properties "subject to" the existing GSE loans in place and just keep paying the mortgage. As you can imagine, any "subject to" purchase could also trigger the "due on sale clause" as well. 

Ultimately, the bottom line is that you are not supposed to do it, but lots of investors still do it, and as long as I have been investing I have never heard of any GSE actually try to enforce a "due on sale clause." If you think about it from their perspective, they would really have no incentive to call a performing loan due. It would not make sense for them financially. 

I hope that helps, and proceed with caution...


@James Bowie  thank you. Yes it helps very much. You explained it perfectly.

@Nick Dillaha  Just wanted to make sure you found your post! I thought you'd get some response here. 

You should put your investment properties into an LLC as soon as possible. However, sometimes this is not practical, as other folks have pointed out. Transferring to the name of an LLC may not be allowed by your lender, or it may be prohibitively expensive.

In Washington, DC, for example, you have to pay transfer tax to move a property from your own name to the name of an LLC. This tax amounts to 1.45% of the sales price. So far it hasn't been worth it to me to pay $6,000-$10,000 per property to move them into an LLC.

The primary reason you want to hold a property in the name of an LLC is for the legal protections it affords you. If moving to an LLC is not an option, another way to protect yourself is to identify the risks you're most concerned about and to address those. For example, if you own a rental property and you're worried about tenants potentially suing you because of an issue with the property, increase the amount of your liability coverage on your rental property insurance coverage.

@Nick Dillaha   @Neil Schoepp My lawyer recommended creating a new LLC for each property purchased, and I've heard some of the podcast guests mention similar strategies. It might sound like overkill, but that way you don't have to worry about breaking the loan terms. The peace of mind that legal protection provides is definitely worth cutting into your profit margin.

I'm going to take the other side of the argument here and say that you shouldn't put your properties into an LLC. Aside from the (sometimes hefty) costs associated with starting and operating an LLC, they may not provide you with the asset protection you think you have. Rather, you should consider setting up a separate LLC that partakes in property management activities and have it handle everything involving the flow of money and tenant management.

The problem with putting each property into an LLC is that each LLC must operate as a separate business from the others. Any co-mingling of funds can result in loss of protection through "piercing the corporate veil." I've also been told (though not confirmed) that a competent lawyer can argue that your property is not actually a business and hold that the LLC is a sham.

As a means of protecting both your personal assets as well as your equity in the rental properties, you may want to set up a separate LLC to serve as the property manager for your properties. It would be responsible for collecting rent, paying bills, and maintaining repair of the properties, etc. Importantly though, it would bear the potential liability to any tenants, etc. rather than you personally or the LLC that actually owns the real estate. This way, you have a clear business operating and should something go wrong you will still be able to protect all of your assets.

Of course you can also pick up a good insurance policy.

I do agree with Brandon's comment that you should definitely obtain the right insurance policy with an agent and company that specializes in the needs of investors.  I will say however that insurance should never be looked at as a panacea and should only be used in conjunction with an effective asset protection strategy tailored to your specific business model.

I hold all my properties in my own name (and my wifes) and just have a huge umbrella insurance policy. The extra paper work and tax filings for an LLC just did not seem worth it in my situation. The purpose of an LLC is to limit your liability...and I find the cheap costs of an umbrella policy seem to mitigate my risks.

Using an LLC for liability protection is not nearly as effective as many will have you believe if you are managing your properties yourself. Even having an LLC for property management does not provide you with the protection most assume. As the property manager, whether you own the property or not, you neglect to fill in a hole in the yard and someone gets hurt. They can and will sue the LLC and you personally. There is nothing in an LLC that says someone can't sue you personally for being negligent in your job. If you don't manage yourself then you do have some liability protection by holding properties in an LLC and allowing an outside management company to manage and assume those risk. If you do manage yourself with or without an LLC your only real protection as @Russell Brazil  stated is really good insurance.  I am not a lawyer and this isn't anywhere near legal advice just pointing out the obvious of how the legal system works.  Lawyers will sue everyone and let the court decide who is and is not responsible.

Originally posted by @Kevin Siedlecki :

@Nick Dillaha   @Neil Schoepp My lawyer recommended creating a new LLC for each property purchased, and I've heard some of the podcast guests mention similar strategies. It might sound like overkill, but that way you don't have to worry about breaking the loan terms. The peace of mind that legal protection provides is definitely worth cutting into your profit margin.

Here, here!!! In some states the cost of maintaining an LLC is more than others and you can select a simple corporation and elect Sub-S tax status. That would be particularly true if you have a partner (an LLP may also make sense). However, you need to protect assets in the world today and keeping them separate is critical asset protection, therefore, your counsel's concept of asset protection is dead on!!! It can also be a factor in any landlord tenant litigation. Arthur

I personally had no problems purchasing my properties with the LLC right off the bat. But I know this experience varies person to person and location to location.

Also, besides the liability thing, I've always wondered....doesn't having a LLC officially make it a business, therefore letting you write off things you couldn't write off if it was in your personal name? For example, education or business travel?

@Nicole W.  Yes- that's a big point Kiyosaki makes in Rich Dad, Poor Dad, which I join the BP chorus in recommending! 

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